By Dan Akers, CPA, CFP®
Are you charitably inclined? Many of us want to give back, and because of how difficult the last couple years have been for so many, maybe you’re thinking about creating a charitable plan.
The desire to give generously is a noble one, but it’s important to find the correct balance between taking care of yourself and your desire to help make the world a better place. You want to give a portion of the wealth you’ve accumulated, but you must be discerning to ensure that you won’t outlive your money and end up needing charity yourself. One solution to this dilemma is a charitable remainder trust (CRT).
Let’s discuss the basics of charitable remainder trusts and how having a strategy for your charitable giving can bring you rewards as well.
Benefits of a Charitable Remainder Trust
A charitable remainder trust allows you to convert an appreciated asset into lifetime income. With the trust, you technically donate the asset to charity before it is sold, which allows you certain tax benefits, including a charitable deduction. You may receive more income over your lifetime by using a charitable remainder trust than if you had sold the asset yourself, and you may gain creditor protection for it. It also provides other important tax benefits and, best of all, you get to contribute to charitable causes that are important to you and your family.
How Charitable Remainder Trusts Work
How can a simple trust do all of those great things? This is how: The first step is to set up an irrevocable trust where you are the income beneficiary, and when you pass away, the amount remaining in the trust goes to the charity or charities of your choice.
Next, you transfer assets to the trust. Ideal assets for this arrangement are those that have greatly appreciated in value since you purchased them. The best are publicly traded securities, real estate, and stock in some closely held companies. S corporation stock and mortgaged real estate do not qualify. Because the remainder beneficiary of the trust is a charity and the trust is irrevocable, you get an immediate charitable deduction for the asset contributed (minus the actuarial value of the income stream retained) on your income tax return. The charitable deduction is limited to 30% of adjusted gross income for appreciated assets, but any excess would be carried forward for five years (or until used up) under current law.
Once you have transferred the asset, the trustee sells it. The trust does not have to pay any capital gains tax and can reinvest the proceeds in a diversified portfolio. For the rest of your life, the trust distributes at least 5% of the value of the trust to you annually, and your charity gets the rest when you pass away (or after a certain number of years, depending on the terms of the trust created).
Why Charitable Remainder Trusts Are Used
Why do you need a trust to do this? Why can’t you simply sell the asset yourself, keep the income, and pass the proceeds to a charity in your will? You can, but after paying capital gains tax, there will be much less to invest and produce income. Utilizing a charitable remainder trust provides important income tax benefits which can save you money, especially if you have a tax year with unusually high income. Also, if you hold the investment, it could be subject to creditors’ claims; if it is held in trust, creditors generally cannot access the assets of the trust. Lastly a CRT is a great tool for diversifying a concentrated, low cost basis asset to reduce overall portfolio risk.
How We Can Help
This is just a brief overview of charitable remainder trusts, but keep in mind they can be tailored to specific situations. You can choose to receive a fixed income or an annual payout that changes, based on the trust’s investment performance. You can choose the beneficiaries of the trust, whether it is yourself, your spouse orchildren. You can also put off collecting the income if it’s not needed right away. Although it might be best to wait until 2022 to set up the charitable remainder trust given the proposed tax law changes, it’s never too early to start planning.
If giving generously to the causes you care about brings you happiness, consider adding a charitable remainder trust to your financial and estate plan. If you want to learn more about how this gifting strategy may help you meet specific financial goals, Altavista Wealth Management can help. Let’s work together to align your finances with your vision and values. To get started, schedule an introductory meeting by reaching out to us at 866-684-2600 or [email protected] .