A Charitable Lead Trust allows you to make philanthropic gifts to a charitable institution — and also provide the tax-advantaged remaining interest/balance to individual beneficiaries you name. This is accomplished in an irrevocable trust when asset growth in the trust outpaces the current IRS interest rate. If that occurs, when the initial trust term expires, any remaining trust assets pass to your preferred non-charitable beneficiaries, typically children, grandchildren, or other loved ones.
The money you contribute to a Charitable Lead Trust is considered a gift that is subject to the unlimited gift tax charitable deduction, but the remainder interest you gift to your loved ones is classified as a taxable gift. Because both portions of this gift are valued using an IRS-published interest rate, the creation of this type of trust is attractive in a low interest rate environment.
Under current tax law, in order for a Charitable Lead Trust to qualify for maximum tax benefits, the trust must be an irrevocable trust, and the income interest payable to charity must either be in the form of an annuity trust or unitrust.
For example, a specified annuity amount may be paid for a certain term of years after which another amount is paid for the remainder of the trust term. The specified amount must, however, be paid by the trustee to the charity regardless of the trust’s actual income and earnings over the trust term. If trust income is insufficient to meet the annual annuity amount, the trustee must invade trust principal to make the required payment.
Tax benefits from a Charitable Lead Trust depend on whether the trust is treated as a “grantor” trust, or a “non-grantor” trust. A non-grantor Charitable Lead Trust is the most common — with this design, the creator does not receive a charitable income tax deduction for contributions to charity. The benefit of this type of trust is that none of the trust income is taxable to you.
The grantor Charitable Lead Trust, is structured so that all income produced during the trust’s term is taxed to you. Since you are required to recognize the trust income, you will receive a one-time income tax charitable deduction in an amount equal to the present value of the payments to be made to the charity. This deduction is taken when the trust is established.
No matter whether a Charitable Lead Trust is designated grantor or non-grantor, there are gift tax benefits to consider. You will receive a gift tax charitable deduction equal to the net present value of the lead interest to be paid to charity.
The following chart, using a 1.44% interest rate, illustrates values that would be available to remainder beneficiaries, and shows how varying the trust term can result in more assets being passed to your individual beneficiaries (assuming a constant investment return during the trust term).
|Annual Payment to Charity||Term of Years||Gift to Charity||Gift to Loved Ones||Investment Return||Balance to Loved Ones at End of Term|
In these examples, the investment return of 6% is hypothetical and is not intended to represent past or future performance of any specific investment.
The tax information herein is not intended to be used and cannot be used by any taxpayer for the purpose of avoiding tax penalties. Taxpayers should seek advice based on their own particular circumstances from an independent tax advisor. Examples included herein, if any, are hypothetical and for illustrative purposes only. Individuals should seek advice regarding their specific situation.
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