Charitable giving is an important part of many individuals’ estate plans, both during life and at death (with both charitable and non-charitable trusts).
It is the combination of the growth in charitable giving as well as the popularity and growth of the modern trust that has resulted in substantial charitable giving emanating from both charitable and non-charitable trusts. Some of the more charitable trusts are the Charitable Remainder Trust and the Charitable Lead Trust:
South Dakota Charitable Remainder Trust:
A South Dakota Charitable Remainder Trust (CRT) can provide a powerful tool for grantors who wish to generate income while still providing assets to charities. The CRT is typically an irrevocable trust which is structured so that there is an income beneficiary who is either the grantor or a named individual, and a charitable remainderman. When the income beneficiary’s interest ends, because of his or her death or expiration of the term of years, the trust assets or remainder interest pass to the designated charity or charities.
There are two main types of CRTs: the Charitable Remainder Annuity Trusts (CRATs) and Charitable Remainder Unitrust (CRUTs). The major difference between a CRUT and a CRAT is how the annual payout is determined. A CRAT’s payout is a set amount or a fixed percentage of the initial contribution to the trust and will never change. A CRUT on the other hand pays the income beneficiary a fixed percentage multiplied by the trust’s fair market value each year for the trust term.
The CRT can be a tremendous tool for charitably inclined donors with highly appreciated assets. Below are other CRT structures that are often utilized:
South Dakota Net Income Make-up Charitable Remainder Trust (NIMCRUT):
A Net Income Make-up Charitable Remainder Trust (NIMCRUT) has an additional provision that permits the trust to pay out the lesser of the actual ordinary income or the percentage payout in any given year. If the income in any given year is less than the percentage payout, the shortfall is placed into a “make-up” account that can be made up in future years. In subsequent years, if the trust’s ordinary income is greater than the percentage payout, all of this income must be paid out up to the total of the current year’s percentage payout plus any deficiencies from earlier years.
If a partnership is utilized to fund a NIMCRUT, the trustee has discretion as to the timing of distribution of income, and therefore, unlike other CRTs, a NIMCRUT can allow for the buildup of income. South Dakota has a unique statute that does not recognize income generated within the partnership held by the CRT as trust accounting income and therefore it does not have to be paid out until it is released from the partnership. The NIMCRUT is thus best utilized with clients who wish to control the timing and amounts of income that they receive. It is also suitable for younger clients who do not have an immediate income need or who desire to supplement their retirement income.
South Dakota Dynasty Wealth Replacement Trusts:
When grantors gift assets to charity via a CRUT or CRAT, they are, in effect, providing less inheritance to their children. Many grantors want to replace the asset just given to the CRT by establishing a South Dakota Dynasty wealth replacement trust (WRT) for the benefit of the children, grandchildren and other family members.
South Dakota Charitable Lead Trust (CLT):
The Charitable Lead Trust (CLT) is the reverse of a CRT as income from the CLT is paid to a charity for a fixed term of years and the remainder goes to a non-charitable individual. Like the CRT, the CLT’s income interest for a charity must be in the form of either an annuity interest (CLAT) or a unitrust interest (CLUT). Principal, however, must be used to meet the trusts payout obligation if trust income is insufficient. Unlike the CRT, there are no limitations on the length of the term. The CLT is appropriate for a grantor and his or her family that have no immediate need for more income than they currently enjoy, and are willing to forego current income for the prospect of long-term capital appreciation.
A CLT leverages both gift and estate taxes, and it is also possible to leverage the GST tax exemption. CLTs are particularly attractive when the IRC § 7520 rate is low, i.e., the lower the rate, the greater the deduction for the charitable gifts, and the lower the value of the remainder taxable gift to the grantor’s heirs via a South Dakota Dynasty Trust.
Below are CLT structures that are often utilized:
Testamentary Charitable Lead Trust:
The charitable lead trust could also be considered for use in an individual’s will as a testamentary trust. The testamentary charitable lead trust can act as a sister to a marital trust and produce enormous estate tax savings by removing future appreciation from the surviving spouse’s estate as well as preserving property for the family. A CLT created during lifetime realizes and pays capital gains taxes if low basis assets are transferred to the trust and then sold during the term of the trust. Any such tax reduces the amount in the trust and makes it more difficult to pay the annuity or unitrust amount to the charitable entities. This problem is avoided, however, if the CLT is created upon the grantor’s death under a will or revocable trust, because the assets held by the grantor’s estate receive stepped-up cost basis for the purposes of capital gains recognition, plus an enormous estate tax deduction.
The testamentary CLT, like the lifetime version, pays income to charity and then principal to a South Dakota dynasty trust.
Combination CRT & CLAT for Hedge:
A strategy gaining in popularity is the combination CRT & CLAT Hedge. This strategy involves the grantor establishing both a CRT and CLAT which exist side by side for the grantor’s charities of choice and beneficiaries. During the trusts’ terms, both the grantor’s charities and non-charitable beneficiaries are receiving income. At the end of the trusts’ terms, both the non-charitable beneficiaries and charities receive the remainder interests. This strategy can also provide a hedge if the client dies.
A popular strategy is to also integrate non-charitable trusts into a family’s charitable giving planning in order to supplement their CRTs, CLTs, private foundations, etc.
Charitable Giving with Non-Charitable Trusts:
- With the evolution and popularity of the modern Directed Trust, personal non-charitable trusts have become a popular trust vehicle to promote social responsibility and successful philanthropy.
- The collaborative relationship within a Directed Trust between beneficiaries, fiduciaries and trustees, combined with active family involvement, has provided a powerful charitable giving alternative.
- A charitable deduction is permitted for distributions made from non-charitable trusts to charity, however, it’s important that there be mandatory direction or a discretionary power to pay funds to charity from the trust.
- Additionally, powers of appointment (POA) are used to appoint funds to charity.
Please See: “Charitable Giving with Non-Charitable Trusts,” Trust & Estates June, 2015