What Is a Charitable Remainder Trust?
A Charitable Remainder Trust (CRT) is an irrevocable trust arrangement in which you transfer property to a trustee, typically a financial institution, to benefit one or more charities.
The charity or charities named in the trust agreement receive the remainder interest after you and your beneficiaries die or after the trust term ends, whichever comes first.
Meanwhile, you and your beneficiaries receive income during your lifetimes or for the trust term.
A CRT can be an excellent way to make a substantial gift to charity while also providing you and your family with immediate tax benefits and possible income for life.
How Does a Charitable Remainder Trust Work?
A CRT can be structured in several ways, but it is often set up as an annuity trust or a unitrust.
With an annuity trust, you make an irrevocable transfer of cash or property to the trustee, who then pays you (or your beneficiaries) a fixed amount of income each year for life or for a term of years, after which the remainder interest goes to charity.
With a unitrust, you make an irrevocable transfer of cash or property to the trustee, who then pays you (or your beneficiaries) a fixed percentage of the trust's assets each year for life or for a term of years, after this, the remainder interest goes to charity.
The payments you receive can be made monthly, quarterly, semi-annually, or annually.
You can also structure the trust so that payments are made only when the trust's assets are sold, which could be upon your death or at the end of the trust term.
Taxation of a Charitable Remainder Trust
A CRT is a tax-exempt entity, which means that it does not pay income taxes on the earnings from its investments.
The trustee, however, must pay taxes on any capital gains realized when assets are sold.
You may be able to claim an income tax deduction for the charitable gift portion of your trust property when you establish the CRT.
The deduction amount depends on the type of property transferred to the trust, the payout rate, and your life expectancy.
A CRT can also be used to avoid or minimize capital gains taxes when you sell appreciated assets such as stocks or real estate.
Transferring the assets to the CRT allows you to sell them without paying capital gains taxes on the sale.
The proceeds from the sale are then used to fund the trust, which makes payments to you (or your beneficiaries) over time.
When the trustee eventually sells the assets in the trust, they are not subject to capital gains taxes.
Pros and Cons of a Charitable Remainder Trust
Charitable Remainder Trusts can have benefits and drawbacks.
Pros of CRT
There are several benefits to setting up a CRT, including the following:
- You can receive income for life or for a certain number of years.
- You can receive a charitable deduction when you establish the trust.
- You can avoid or minimize capital gains taxes on appreciated assets.
- The trust property is removed from your estate, which can save on estate taxes.
- You can specify how you want the trust property to be used by the charity.
Cons of CRT
There are also a few potential drawbacks to consider, including the following:
- The trust is irrevocable, which means you cannot change your mind after setting it up.
- You must transfer property ownership to the trustee, which could be a financial institution that charges fees.
If the trust property decreases in value, you (or your beneficiaries) could receive less income than expected.
Charitable Remainder Trust vs. CRAT
A CRT is similar to a charitable remainder annuity trust (CRAT), but there are a few key differences.
With a CRAT, you transfer cash or property to the trustee and receive a fixed annuity payment each year for life or for a term of years.
The payments you receive are based on the value of the trust property when it is transferred to the trustee.
This means that if the value of the trust property decreases, your payments will also decrease.
With a CRT, on the other hand, the payments you receive are based on the value of the trust property when paid out, which could be higher or lower than the original value depending on the performance of the trust's investments.
Another difference is that a CRAT must be funded with highly appreciated assets, such as stocks or real estate.
This is because the payments you receive from a CRUT are taxed as ordinary income, so it is beneficial to transfer assets that would be subject to capital gains taxes if sold.
On the other hand, a CRT can be funded with any type of property.
Charitable Remainder Trust vs. CRUT
A charitable remainder unitrust (CRUT) is similar to a CRT, but there are a few key differences.
With a CRUT, you transfer cash or property to the trustee and receive payments each year that are equal to a fixed percentage of the trust's value.
The payments you receive will fluctuate up or down depending on the performance of the trust's investments.
However, the payments will never be less than the minimum payout rate specified in the trust agreement.
Another difference is that a CRUT must be funded with highly appreciated assets, such as stocks or real estate.
This is because the payments you receive from a CRUT are taxed as ordinary income, so it is beneficial to transfer assets that would be subject to capital gains taxes if sold.
On the other hand, a CRT can be funded with any type of property.
The Bottom Line
A charitable remainder trust can be a helpful tool for reducing taxes on the sale of appreciated assets and providing income for yourself or your beneficiaries.
However, it is important to understand the pros and cons before setting one up.
You should also be aware that there are different types of CRTs, each with its own unique features.
If you are considering setting up a charitable remainder trust, be sure to consult with a financial advisor to ensure it is the right move for you.
FAQs
1. What is a charitable remainder trust?
A charitable remainder trust (CRT) allows you to receive income from the sale of appreciated assets while also providing support to a charity of your choice.
2. How does a CRT work?
When establishing a CRT, you transfer ownership of appreciated assets, such as stocks or real estate, to a trustee.
The trustee then sells the assets and invests the proceeds in a way that will provide you with income for life or for a term of years.
When you die, the remaining trust property is distributed to the chosen charity.
3. What are the benefits of a CRT?
There are several benefits to setting up a CRT. For example, you can receive tax-free income from the sale of appreciated assets without paying capital gains taxes. Also, you can support a charity of your choice.
4. What are the drawbacks of a CRT?
There are a few drawbacks to setting up a CRT. For instance, you may have to pay taxes on the income you receive from the trust. Also, the payments you receive may fluctuate depending on the performance of the trust's investments.
5. Who should consider setting up a CRT?
Anyone who owns appreciated assets and wants to sell them without paying capital gains taxes may consider setting up a CRT.
