CharitableRemainder Trust
If you are seeking a way to make a charitable gift while retaining fixed payments for you, your spouse, family members, or other individuals, a charitable remainder trust is for you. The charitable remainder trust is an individually managed trust that combines a charitable gift with regular, predictable payments, along with some flexibility in management and investment.
This type of trust is an agreement in which you make a one-time, irrevocable transfer of assets to a newly created trust. The trust then uses the income generated by the assets to make payments to any beneficiary or beneficiaries you specify during their lifetime. When the beneficiaries die, the assets in the trust become the property of FAIR. This type of trust is a popular deferred giving option for people with highly appreciated assets such as common stock, which could incur capital gains taxes if the asset were simply sold.
By establishing this kind of trust, you can avoid paying capital gains taxes and get an immediate income tax deduction for the value of the assets being transferred to the trust. The donor also reduces the size of their taxable estate, which reduces the tax burden on the estate when he or she dies.
In general, here’s how it works:
- The annuity trust pays its beneficiaries a fixed-dollar income or a fixed percentage of the initial value of the assets that funded the trust.
- Income from your annuity trust can be paid to you and your other beneficiaries for lifetime, for a term of up to 20 years, or for a combination of both.
- When your annuity trust terminates at the death of the last beneficiary or at the end of the trust term the remaining balance will be available for the use you designated when you created the trust.
Tax Benefits
No upfront capital gains tax is payable if you fund your trust with appreciated property. Besides avoiding capital gains tax, you also receive a charitable income tax deduction when you create the trust. The older the beneficiary, the greater the charitable deduction.
You can fund your charitable remainder trust with cash, securities or other property. Highly appreciated assets that generate low current income are an ideal funding medium. While you'd be reluctant to sell such assets directly because of the tax you would pay on the gain, you can transfer them to the trust without incurring the capital gains tax. The trust could sell the assets without incurring any tax and then reinvest the proceeds in order to secure a higher current income yield.
How do you create an Annuity Trust?
You can design your trust to fit your own special needs. First, you decide how much you'd like to put into the trust. Second, you determine the income you'd like to receive from the donated assets. The rate of income return you select must be at least 5 percent. Usually, the rate selected is 5 percent to 7 percent. The best rate for you will depend upon the number of beneficiaries you select and their ages. Third, you decide which type of charitable remainder trust will work best for you. There are five types of charitable remainder trusts to choose from.
1. Annuity trust. This type of trust pays you a fixed dollar amount, which works well if you want reliable income.
2. Standard unitrust. A unitrust pays you a variable amount equal to a stated percentage of the net fair market value of the trust assets as recalculated yearly, providing a possible hedge against inflation.
3. "Net income with makeup" unitrust. This type of trust pays you only the trust's actual income if it is less than the stated percentage of the market value of the trust's assets (as recalculated yearly). Any deficiency, however, is made up in later years if the trust income exceeds that percentage, an effective method to build retirement income.
4. "Net income with no makeup" unitrust. You receive the trust's actual income or a fixed percentage of market value (as recalculated yearly), whichever is less. Deficiencies are not made up. This plan works well in double-digit interest rate environments.
5. Flip unitrust. Set up as either of the last two types, this trust converts to a standard unitrust on a triggering event, such as the sale of an "unmarketable" asset used to fund the trust. Consider this trust if you are making a gift of real estate.
Which Is Better: Annuity Trust or Unitrust?
Whether you choose an annuity trust or a unitrust depends primarily on your economic outlook. With an annuity trust, you receive the same fixed amount each year that you choose at the beginning. This is advantageous when you want to be certain of the dollars you'll receive. If you're concerned about the possibility of recessionary times and falling market values, the annuity trust has greater appeal. Although you can't add to this annuity trust later in order to increase your income, you can always create a new trust for that purpose.
In comparison, a unitrust may be a hedge against inflation. If you foresee economic growth resulting in appreciation of the trust's assets, you'll favor a unitrust. The valuation can rise or fall, but over time a well-managed unitrust may offer better protection of your purchasing power than fixed dollar payments. A further advantage is that if you want to enlarge the trust later, you can make additional contributions without the cost of creating and administering more than one trust.