A charitable trust is an irrevocable, tax-exempt trust with an income beneficiary during life and a charitable beneficiary upon death. There are two main types of charitable trusts: charitable remainder trusts (CRT) and charitable lead trusts (CLT).
What’s the difference between a CRT and a CLT?
There are several key differences between a CRT and a CLT:
- Charitable remainder trust – A donor establishes a CRT and selects an income beneficiary, trustee and remainder trustee (a charitable organization). The trustee can invest and reinvest the assets in the trust. The income beneficiary (usually the donor) receives an annual income from the trust. When the donor dies or experiences another triggering event, the property still held in the CRT passes to the named charitable organization.
- Charitable lead trust – Put simply, a CLT is a CRT in reverse. A CLT provides a charity with income for a period of time, and a named individual receives the remainder of assets in the trust when the income period ends.
What are the advantages and disadvantages of a CRT?
Advantages of a CRT include:
- Income tax deduction – The gift to the trust creates a charitable deduction for the donor. While this is an added benefit, the deduction alone does not typically make the CRT worthwhile.
- Capital gains avoidance – The trustee of the CRT can sell the assets the donor gave to the trust without realizing capital gains taxes. People with highly appreciated assets often gift those assets to a CRT so the assets are not reduced by capital gains taxes.
- Enhanced income stream – During the donor’s lifetime (or over the lifetime of the donor and his/her spouse) the donor receives income from the trust. The trust essentially serves as a hybrid qualified plan because the original assets are sold tax free, accumulate tax free and provide an income stream to the donor.
- Estate tax avoidance – Following the donor’s death (or the death of both the donor and his/her spouse), the assets remaining in the CRT pass directly to the donor’s chosen charity free from estate tax.
- Charitable impact – The charitable organization can use the gifted assets to make a lasting impact on a cause that’s important to the donor.
Disadvantages of a CRT include:
- Ultimate distribution – For some, it is a disadvantage that the donor’s chosen charity receives the remainder of assets, rather than family members.
- Irrevocable – Once assets are contributed to a CRT, they become irrevocable. It’s important to ensure you do not contribute a percentage of your net worth large enough to create a financial hardship.
Who should consider a CRT?
CRTs make the most sense for those who are charitably inclined. If charitable giving is not one of your main legacy goals, the decision of whether to establish a CRT should be made by balancing the tax benefits (income tax deduction and capital gains savings) with the income flow that would be created by selling an asset outside of the trust and spending the proceeds.
If you have any additional questions about establishing a charitable trust, schedule a complimentary, no-obligation consultation and learn more about how Creative Planning can help you.
