If You Can’t Cheat Death, Save on Taxes: Charitable Remainder Unitrusts

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Your charitable impulses can save you and your loved ones on their tax bills by the time you pass on. A number of legally constructed vehicles exist (trusts) to provide income, while at the same time ensuring property enters the hand of a charitable organization after the trust ends. The Internal Revenue Code and underlying regulations provide donors powerful avenues to avoid income taxes and capitalize on charitable deductions. A Charitable Remainder Unitrust (CRUT) ranks among them as a flexible way to support a charitable organization and generate income for a chosen person for life.

CRUT Tax Benefits

Perhaps you’re thinking of selling off some stock, but don’t want to experience a capital gains tax hit all at once. Transferring such a lucrative asset to a CRUT avoids the capital gains tax where the asset appreciates in value. This means the trust won’t incur capital gains tax when it sells that asset. The Internal Revenue Code and regulations provide calculation tables for computing the charitable tax deduction to the donor on the transferred assets. This calculation will take into account the payout rate, the value of assets remaining at the termination of the trust, age of the beneficiary, term of the trust, date of the trust’s creation, and applicable federal interest rates. In addition to these benefits, gift tax deductions are available where the beneficiary is someone other than the donor. The value of property transferred to a CRUT is excluded from calculating estate taxes. Donors looking to maximize the value of their assets in the short term, while satisfying charitable impulses in the long run have numerous tax incentives in place to choose a CRUT.

How Do I Set Up a CRUT?

These instruments allow a donor to name a beneficiary to receive regular annual payments for life, paid out of the income generated by property in the trust. This kind of trust would be a particularly attractive option for those looking to reap the value of properties such as publicly-traded stock or mortgage property. The Internal Revenue Code and the relevant Treasury regulations lay out the conditions necessary to set up the standard form of this trust.

First, any CRUT must render annual payments to the beneficiary to the tune of at least five percent, and not greater than fifty percent of the assets’ net fair market value, determined yearly. The trust instrument shall also provide that ten percent of the trust assets’ value must survive at the end of the trust for distribution to remaindermen (i.e., the charitable organization the donor designates). And, though the regulations allow flexibility as to whom may be appointed a trustee, the trust must not restrict the trustee’s ability to invest trust assets so long as those investments produce income or gain. The trust can stay in place for 20 years, or for the rest of the beneficiary’s life. To complete the qualification of the unitrust, designate a 501(c)(3) to receive the remainder of the trust assets after the death of the beneficiary.

The CRUT can take a number of different forms to accommodate the donor’s plans, or the nature of the assets placed in the trust. Net income unitrusts offer annual payments based on a fixed percentage or the annual income the trust produces, whichever is lower. Under this variation of unitrust, if the annual income exceeds the payment based on fixed percentage, the excess can be used to offset losses from previous years. This type of unitrust is best for younger people with non-marketable assets that slowly appreciate in value. If you’re holding stock in a closely held company, or non-mortgage property, this type of unitrust may suit you. There still remains the opportunity to “flip” the unitrust from a net income to the standard version. All there needs to be is a provision in the trust specifying a date (or some event beyond anyone’s control) on which the payment method flips from annual income to a fixed percentage.

With this knowledge, clever donors will marshal their income-producing assets and find responsible trustees and beneficiaries. It would also be wise to retain a well-versed accountant to ensure the assets meant for a CRUT will produce the desired income. And, they’ll need a competent attorney to help them divide the assets among standard, net income, and “flip” CRUTs based on the class of asset and their objectives. With this knowledge and a solid plan, the CRUT can preserve your wealth and ensure that wealth passes on to a good cause, easing tax burdens in the process.

Jeffrey D. Katz is the founder and managing partner of JDKatz, PC. He practices in the areas of tax, real estate, and corporate law.

Joseph M. Fiocco is a legal extern with JDKatz, PC, completing his third year of law school at the University of Maryland Carey School of Law.