Charitable Remainder Trusts (CRTs) are used to create income for your lifetime while saving income, capital gains, and/or estate taxes, while also benefiting one or more charities of your choice.

What are the benefits of a Charitable Remainder Trust? How Does It Work?

Charitable Remainder TrustA Charitable Remainder Trust (CRT) allows you, the “Trustmaker” or “Grantor”, to transfer highly-appreciated assets to the Charitable Remainder Trust without incurring capital gains tax.  Depending on the structure of the transaction, you may receive an immediate charitable income tax donation.

The Trustee of the Charitable Remainder Trust then sells the highly appreciated asset for full market value without incurring capital gains tax and invests the proceeds from the sale.

For the rest of your life, the trust pays you income (or pays income to a beneficiary that you selected). Upon your death, the remaining value of the trust goes to one or more charities that you selected. This is why it’s called a Charitable Remainder Trust.  Upon your death, no estate taxes are owed on the assets in the Charitable Remainder Trust.

What Types of Assets Might Be Transferred to a Charitable Remainder Trust?

Common assets to transfer to a Charitable Remainder Trust may include:

  • Real estate, farmland, or rental property;
  • Publicly traded securities;
  • Stock in some closely-held corporations (however, S-Corp stock does not qualify); or
  • Cash.

Why Would a Charitable Remainder Trust Be Better Than Just Selling the Asset or Real Estate Myself?

You could sell the assets directly, but you would likely pay more income taxes and receive less income over the course of your lifetime.

Here’s an example of just selling the asset or property:

Years ago, George and Lisa (ages 65 and 63) purchased rental property worth $100,000. The rental property is now worth $500,000. As they prepare for retirement, George and Lisa are tired of managing the rental property. They would like to sell the rental property but still have income from it during retirement.

If George and Lisa sell the rental property, they would have capital gains of $400,000 (current value of $500,000 minus their purchase cost of $100,000). These capital gains would be taxed at 15%, resulting in a $60,000 federal capital gains tax bill. [To keep things simple, we’ll ignore North Carolina taxes for this example.] After paying the capital gains tax, George and Lisa would have $440,000 remaining to invest.

Assume that George and Lisa invest the $440,000 conservatively and they earn a 5% return on their investment. This would generate an annual retirement income of $22,000 for George and Lisa. Over a life expectancy of 26 years, this would result in a total retirement income of $572,000 before taxes.

Here’s how it might look if George and Lisa use a Charitable Remainder Trust instead:

George and Lisa transfer the rental property to a Charitable Remainder Trust. George and Lisa receive an immediate charitable income tax deduction. The deduction is calculated based on a formula (see below). George and Lisa’s calculated charitable income tax deduction is $90,357 based on their current income tax bracket. This will reduce their income taxes for the current year by $31,625.

The Trustee of the Charitable Remainder Trust then sells the rental property for $500,000. The Trust does not pay any capital gains tax. The Trustee re-invests the entire $500,000 getting the same 5% return on investment as in the prior example. This generates an annual retirement income of $25,000 for George and Lisa—totaling $650,000 over their lifetimes, resulting in $78,000 of additional retirement income compared with the first example. George and Lisa also benefited from the $31,625 tax savings during the year the Trust was set up. Plus, because the assets are in an irrevocable trust, the assets are protected from lawsuits, creditors, and similar.

How Is the Income Stream Determined?

Charitable Remainder Trusts come in different varieties, depending on your goals.

Charitable Remainder Unitrust

A Charitable Remainder Unitrust provides that you receive a fixed percentage of the trust value every year, such as 5% of the value of the trust. With a Charitable Remainder Unitrust, your annual income in dollars will vary as the value of the investment fluctuates. For example, if the trust stipulates that you are to receive 5% of the trust value each year and in year 1, the trust value is $500,000, then you’ll receive $25,000, but in year 2, if the trust value is $510,000, then you’ll receive $25,500.

“Standard” Charitable Remainder Unitrust (STANCRUT)

With a “Standard” Charitable Remainder Unitrust (STANCRUT), the annual payments are based on the combined trust principal and income.

Net Income with Makeup Charitable Remainder Trust (NIMCRUT)

With a Net Income with Makeup Charitable Remainder Unitrust (NIMCRUT), the annual payments are based on the net income of the trust. When using a NIMCRUT, the IRS has approved defining realized capital gains as “income” for purposes of calculating the annual payments.

Flip Charitable Remainder Unitrust (flipCRUT)

A “flipCRUT” is a more recent creation in which illiquid assets, such as real estate or closely held stock, are transferred to the trust, and the trustee is permitted to postpone the annual income payments until the trust assets are sold at a later triggering event. The tax rules provide specific rules for what assets can be used and what triggering events are permissible for a flipCRUT.

Charitable Remainder Annuity Trust

A Charitable Remainder Annuity Trust (CRAT) provides that you will receive a specific dollar amount each year. Regardless of the trust’s performance, the Trustee is required to pay you a specific amount.

This option can be beneficial for those who want the security of having a guaranteed income each year. The Trustee may consider investing the trust assets into a fixed annuity that will guarantee the income stream.

Charitable Remainder Trust for Term

Rather than structure the Charitable Remainder Trust to pay income for life, a Charitable Remainder Trust can also be structured to pay income for a specific term, such as 10 years. After 10 years, you no longer receive any income from the trust, and the remaining trust property is donated to one or more charities that you selected.

Testamentary Charitable Remainder Trust

Rather than creating the Charitable Remainder Trust during your lifetime, your estate plan can be designed to create one upon your death for the benefit of your loved ones and a charity of your choice—this is referred to as a Testamentary Charitable Remainder Trust.

If I’m married, can we both receive income from the trust? Who can be a beneficiary of the trust?

If you are married, the Charitable Remainder Trust can be designed to pay annual income so long as either one of you is still living.

A Charitable Remainder Trust can also be designed to pay income over the lifetime (or lifetimes) of another beneficiary or multiple beneficiaries, such as paying income for your children for their lifetimes or for a set number of years.

How is the charitable income tax deduction calculated?

When using a Charitable Remainder Trust, the charitable income tax deduction that the IRS allows is a function of:

  • The type of asset;
  • The value of the asset;
  • The ages of the people receiving income from the trust (or the term of the trust);
  • The charity; and
  • The IRS Section 7520 interest rate.

Generally, the charitable income tax deduction is limited to 30% of your adjusted gross income, though it can vary between 20% to 50% depending on how the IRS defines the type of asset and the charity you selected. However, if you can’t use the full deduction in the first year, you can carry forward the remaining deduction for up to 5 additional years.

Who Serves as The Trustee of a Charitable Remainder Trust?

You can appoint yourself as the Trustee of the Charitable Remainder Trust. However, it is critical that your trust is administered properly. If the trust is not administered properly, you could lose your tax advantage or be penalized. Most individuals who appoint themselves as Trustees have a qualified third-party administrator assist them with the trust paperwork (e.g., an attorney or CPA).

Due to the experience required to manage the trust investments and the appropriate record-keeping and reporting, some prefer to name a corporate trustee (e.g., a bank or trust company) as trustee. Some charities will also serve as the trustee.

How Much Control Do I Have Over the Charitable Remainder Trust?

You may retain the power to change the trustee. The trustee is responsible for managing the trust assets. If you are dissatisfied with the trustee’s performance, you can appoint a replacement trustee.

You can also retain the power to change the charity. As long as you change the charity to another qualified charity, you will not lose the tax advantages of the Charitable Remainder Trust.

If the Remainder Goes to Charity Upon My Death, What Do My Children and Grandchildren Receive?

Most clients who use a Charitable Remainder Trust have a larger estate and only place a portion of it in the Trust. Upon your death, the charity receives the remainder of the Charitable Remainder Trust; however, your children and grandchildren can still be the beneficiaries of the rest of your estate.

Use an Irrevocable Life Insurance Trust to Increase Inheritance to Children or Other Family Members:

Charitable Remainder Trust + Irrevocable Life Insurance TrustIf you are concerned that transferring assets to the Charitable Remainder Trust will reduce the potential inheritance for your children or grandchildren, then it can be coupled with an Irrevocable Life Insurance Trust.

Rather than keeping and spending all of the income from the Charitable Remainder Trust, you could transfer part or all of the income to an Irrevocable Life Insurance Trust. In turn, the Trustee of the Irrevocable Life Insurance Trust purchases a life insurance policy. Generally, each dollar of premium paid will create a death benefit of several dollars. Even if you die the next day, the life insurance death benefit must be paid to your estate.

The Irrevocable Life Insurance Trust prevents the insurance proceeds from being subject to estate taxes upon your death and can keep the insurance proceeds protected from your children’s future lawsuits, creditors, or divorce.

With this structure, the charity still benefits from receiving the remainder interest of the Charitable Remainder Trust while your children or family members inherit the rest of your estate and the life insurance proceeds.

How Much Do I Need to Contribute to a Charitable Remainder Trust for It to Be Worthwhile?

Charitable Remainder Trusts are commonly established for amounts ranging from $100,000 to $10 million or larger. The attorneys at Carolina Family Estate Planning can assist you with a planning analysis to determine if a North Carolina Charitable Remainder Trust might be the right tool to incorporate into your estate and tax planning.

Planning Opportunities Using Charitable Remainder Trusts

Charitable Remainder Trusts can be used in a variety of circumstances to accomplish specific goals. Here are a few examples:

  • Supplement Your Retirement Income. If you are a high-income professional, executive, or business owner, a Charitable Remainder Trust may be an effective tool for gaining income tax deductions now and creating additional income streams during retirement. This technique is sometimes referred to as a “Retirement Unitrust” or “Charitable IRA.”
  • Financial help for your family member. If you have a family member who could benefit from some financial assistance, a Charitable Remainder Trust might be structured to create an income stream for them while reaping tax savings for you and creating a future contribution to a charity of your choice.
  • College Funds for Grandchildren. A Charitable Remainder Unitrust could be designed to make payments to children or grandchildren attending college. If you have dual goals of helping finance education for grandchildren and charitable intent, then this may be a solution worth exploring.
  • Transition from Rental Income to Retirement Income. For those with rental properties who no longer want the hassle of property management during retirement, a Charitable Remainder Trust can be an elegant solution for selling the appreciated rental properties and creating retirement income.
  • Savings Bonds. Savings bonds can be tricky from an income tax perspective and a bit inflexible with regard to planning options. Although the IRS permits you to postpone taxes on savings bonds until you redeem the bonds or the bond matures. When the bonds are taxed, they are taxed as interest income at ordinary income tax rates (not capital gains tax rates). The Treasury Department will not permit savings bonds to be transferred directly to a charity or Charitable Remainder Trust during life. Instead, you would have to cash out the bonds, pay any taxes due, and then donate the remaining proceeds to the charity of your choice. You could, however, contribute the savings bonds to a Testamentary Charitable Remainder Trust upon your death.

Think a Charitable Remainder Trust Might Be the Right Tool for You?

We can help you develop a Wealth Protection Plan to minimize your tax exposure and protect you and your loved ones from other risks such as future lawsuits, creditors, or divorce.

In our years of experience working with thousands of clients in the Wake County area, we find that asset protection planning is particularly important if any of the following apply:

  • You own a home and have an estimated net worth of $1M or more;
  • You own vacation property;
  • You own rental property;
  • You are high income-earning professionals;
  • You are high-income-earning business owners;
  • You own a business with significant value.

Learn more with a free copy Jackie Bedard’s book, Estate Planning Pitfalls: The Twelve Most Common Threats To Your Estate & Your Family’s Future.

Jackie Bedard
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Attorney, Author, and Founder of Carolina Family Estate Planning