Creating a charitable trust is more than a worthy way to support your favorite non-profit organization, it can also provide significant tax breaks for yourself and your estate. They are win-win for your estate, and can still result in the ability to provide for your heirs after you’ve passed away.
Charitable Trust Basics
At the most basic level, charitable trusts are established to contribute assets – typically liquid or appreciating assets – to a charity (or multiple charitable) organization(s).
Trusts can be set up in a number of ways. The most common is to set aside an amount of your choosing. Then, the interest or a specific portion of the funded trust is paid to the charity each year for a set number of years. At the end of the trust’s term, the remaining funds are either given to the charity or it is divided between established heirs and/or beneficiaries.
Examples of organizations that count as charities include:
- Qualified not-for-profit (nonprofit) companies and organizations
- Churches or religious organizations
- Both public and private charity organizations
For example, the Bill and Melinda Gates Foundation Trust is the largest charitable trust in the world. It is currently established with a set expiration date of 50 years after Bill and Melinda Gates pass away. During that time, beneficiary charities receive annual distributions. When the 50-year term is expired, the remaining assets (and any interest they have accrued) will become the property of the charity.
Whether or not you have the legacy to create the next largest charitable trust in the world, nonprofits are firm believers that every little bit counts. Your charitable trust contributions – no matter how large or small – will be greatly appreciated.
Reasons to establish a charitable trust
Some of the most common reasons our clients set up a charitable trust include:
- The desire to make contributions (even after death) to the organizations and causes you believe in most – ranging from healthcare and scientific advancement to the creative arts or community charities
- It’s a way to continue generating energy that supports your beliefs and values, even after you are gone (the “pay it forward” philosophy).
- A way to practice generosity
- You can diversify your investments without incurring immediate capital gains taxes
Plus, there are income tax benefits to establishing a charitable trust early on in the estate planning process.
Two Types of Charitable Trusts
There are two different trusts available to you. As with any trust or estate plan, charitable trusts should have a designated trustee.
Charitable lead trust
This trust is most often recommended for individuals with substantial wealth. By setting up a sizable portion of your assets into a charitable lead trust, especially those expected to appreciate in value over time, you remove them from the estate tax equation.
Charitable lead trusts are set for a specific term, typically 10 years or longer. Proceeds from the trust are given to the listed charities or organizations. When the term ends, the remainder of the trust is handed over to “non-charitable beneficiaries.” In most cases, this amount will revert back to you or your heirs and beneficiaries.
Charitable Remainder Trust
This is the most common charitable trust. A charitable remainder trust (CRT) is an irrevocable trust, which means once it is set up, the terms are “set in stone,” and cannot be changed – although you can alter beneficiaries and amounts paid throughout the term. When the term expires, the entirety of a charitable remainder trust is distributed to the listed charities and organizations, rather than the non-charitable beneficiaries” in the charitable lead trust option. There are tax benefits for the CRT grantors as well.
We typically recommend CRTs for clients who have appreciated assets such as appreciated stocks or real estate with a low-cost basis. When you fund the trust with the appreciated assets from these investments, you “sell” them to the recipient, which eliminates capital gains responsibilities. Assets can be transferred at any point, which allows you to benefit from income tax deductions as well as reduced estate taxes, while still having access to the assets while you have them.
There are two types of CRTs:
- Charitable remainder annuity trust (CRAT). This trust is set up for a specific term but the income derived from the trust is paid to a non-charitable entity for the duration of the term. Once the term expires, a predetermined charity begins to receive the income generated from the trust, or the charity can opt to leave the interest in place to grow the trust.
- Charitable remainder unit trust (CRUT). This version differs from its CRAT counterpart in two ways. First, donors are allowed to add more to the trust at any time; and, second, at least 5% of the original investment must be paid out each year as income until the end of the term or the death of the beneficiary.
As you can imagine, it takes careful financial planning to ensure your charitable trusts are beneficial for both you and your estate, as well as your designated charities. These are by no means a DIY estate planning or investment tool or you can wind up getting yourself into a financial bind.
Your financial adviser and your estate planning attorney will meticulously take through all of your options and potential strategies to make sure you make a financially sound decision regardless of what the fluctuating markets and future may hold.
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Contact Tseng Law Firm to schedule to learn more about what a charitable trust is and the best options for your current and future estate plans.