Charitable Giving and Your Estate Plan

POSTED ON: March 7, 2023

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Charitable Giving and Your Estate Plan

When children are small, parents usually teach them about three kinds of money: money to spend, money to save and money to give to charity. Estate plans are similar, with assets to be invested, spent, distributed and assets for charitable giving. The donor who makes planned giving part of their estate plan enjoys tax and fiscal benefits, along with the reward of doing good for others.

How Does a Charitable Remainder Trust Work?

Charitable Remainder Trusts (CRTs) are irrevocable trusts, typically funded with “appreciated” assets that are generating little income. During the term of the trust, distributions are made to non-charitable beneficiaries (e.g., the person who created the CRT and their loved ones), and at the end of the term, all remaining assets are transferred to the charitable beneficiary.

The donor receives an immediate charitable income tax deduction for the year the trust is funded. The income stream for beneficiaries can be as long as 20 years, over a lifetime or several lifetimes. Another benefit of the CRT is that income tax on the sale of appreciated assets transferred to the CRT may be deferred or eliminated, since the CRT is a tax-exempt entity.

How Does a Charitable Lead Trust Work?

The following is the most notable difference between a CRT and a Charitable Lead Trust: the income stream flows to the charity (or charities) during the term of the trust and at the conclusion of the term, the remaining assets in the trust are distributed to non-charitable beneficiaries, usually family members.

Which is Better, the CLT or the CRT?

Both of these trusts are irrevocable, and both provide an income stream and a final payment. Both may be annuity trusts or unitrusts. With an annuity trust, a fixed amount is paid to the income beneficiary every year. With a unitrust, the annual payment varies depending on the value of the assets in the trust, which can rise or fall.

Which one is better depends on the individual creating the trust. In a CLT, any appreciation in asset value is not subject to estate tax or gift tax when the assets are distributed at the end of the term. In addition, the grantor’s estate can take deductions from federal estate and gift taxes in the amount of the total payments received by the charity.

The CRT is better for assets which have appreciated but have little income, like stocks or a farm. If they were sold, they would generate federal and state capital gains taxes; if they were not sold, they would increase the taxable estate. By placing the assets in the CRT, the CRT may sell the asset without paying capital gains taxes, and then pay the grantor or a beneficiary an income stream comprised of a certain percentage of the value of the assets in the trust.

What About the ILIT?

An Irrevocable Life Insurance Trust (ILIT) owns and controls a term or whole life insurance policy or policies. The ILIT manages and distributes proceeds paid out upon the insured’s death and protects the proceeds from estate taxes. The proceeds from the death benefit are not part of the insured’s taxable estate and are not subject to state or federal estate taxes.

The ILIT can be used in conjunction with a CRT, especially if the income provided by the CRT and its tax deduction create a situation where you have more income than needed. With careful planning, the life insurance held in the ILIT could replace the value of the CRT assets going to a charity instead of heirs. An ILIT is often called a Wealth Replacement Trust. The goal is to keep the life insurance proceeds out of your estate. Therefore, proper ownership of the ILIT is critical, and any changes made to the ILIT must be carefully navigated.

Most of us prefer “voluntary philanthropy” to the charities of our choosing, instead of “involuntary philanthropy” to the IRS in the form of taxes. When your estate planning includes a charitable trust and an ILIT, your charitable giving can be an opportunity to give and receive.

Book a call with Vick Law, P.C. today to discuss how charitable giving can be included in your estate plan.

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