CRATs, CRUTs, and Charitable Annuities
In our first gifting article, we discussed Using a Donor Advised Fund for Retirement Income Tax Planning and Legacy Goals. The Donor-advised fund is a great and relatively simple tool for accomplishing multi-year or even multi-generational gifting. In this article we discuss using other options that provide benefits to both the recipient and the donor (you).
Two of these options are charitable remainder trusts (known as CRATs and CRUTs) and charitable gift annuities. These advanced strategies come into play when you want to make charitable gifts AND a establish a return income stream all at once.
Charitable trusts allow you to gift while simultaneously receiving income and minimizing taxes. A charitable remainder trust (CRT) is structured in a way that allows you to split assets between non-charitable and charitable beneficiaries. It generates a potential stream of income during your lifetime for you and/or your beneficiaries. Any donated assets that remain after you or your beneficiaries pass are given to the charity (or charities) that you specify in your trust.
Charitable trust categories include charitable remainder annuity trusts (CRATs) and charitable remainder unitrusts (CRUTs). Both have tax advantages, although they function in slightly different ways.
The Difference Between CRUTs and CRATs
A CRUT is often the preferred form of gifting for individuals who want to give charitably but also want to receive income back for life. CRUTs are structured to distribute a fixed percentage that is based primarily on the balance of the trust’s assets. These assets are revalued on an annual basis. If elected, a CRUT can allow for more contributions to be made.
A CRAT on the other hand doesn’t allow additional contributions, and a fixed amount (an annuity) is distributed each year. Rather than tying the annuity to a percentage of the donated assets’ fair market value, a CRAT uses a fixed percentage of the donated assets to determine lifetime payment amounts.
A CRT generally provides you with three primary tax benefits: an income tax deduction for the value of your charitable gift, a reduction in your taxable estate, and avoiding capital gains on gifted assets while receiving a return income stream.
In order for CRTs to obtain tax-exempt status, they must meet a few qualifications. These qualifications specify that a CRT must:
- Benefit a nonprofit charity that is recognized by the federal government (which generally means it must be exempt from taxes)
- Provide for up to 20 years of annuity payments (or for the life of the donor)
- Leave no less than 10 percent of the asset value (based on the initial fair market value) to charity
CRTs are beneficial for both the donor and the charity receiving donations. They are especially desirable for individuals who have highly appreciated assets that will allow for long-term giving. It is important to note that CRTs are virtually impossible to undo once they are established. For this reason, you should carefully consider whether this is the right charitable gifting avenue for you.
Charitable Gift Annuities
An alternative to CRTs are the potentially less costly charitable gift annuity which is a contract that differs from trusts in a few key ways. Under this charitable gifting structure, the charity agrees to make fixed payments to one or two people for the rest of their life/lives. In return, the charity receives marketable securities, a transfer of cash, or other assets.
The gift (or contributed property) becomes an irrevocable part of the charity’s assets, and the charity is obligated to make payments for the remainder of the annuitant’s life. Most states regulate charitable gift annuities by requiring the charity to supply its gift annuity rate chart, including maximum annuity rates offered by the charity, to the state. Charities are also expected to comply with any other regulations in the state(s) where the charity does business and the donor resides.
A charitable gift annuity provides a variety of benefits, including partly tax-free income and savings on estate taxes. It is often used to supplement retirement income and is versatile enough to meet the charitable objectives of individuals who have modest means as well as those with considerable wealth.
Professional Financial Planning
Financial planning and charitable giving arrangements can be complicated, which is we recommend that you consult with a professional prior to making a decision. Call McClain Lovejoy Financial Planning to discuss your goals for gifting and determine if a charitable remainder trust is appropriate for you.