Estate Planning: Understanding the Importance of Charitable Giving

When you meet with an estate planning attorney you likely have multiple goals for your wealth. Some of that wealth would go towards the support of your family after you pass away while you could want some of the property to be allocated for charitable purposes. Depending upon what matters most to you in life you could divide that money up however you see fit. An estate planning attorney is not a financial advisor but the attorneys with the Law Office of Bryan Fagan are here to help you set up your estate plan however you see fit.

There are certain estate planning methods and vehicles that are better than others at helping you accomplish multiple goals simultaneously. The specifics of your life and your goals regarding your wealth will determine which method of estate planning you choose to employ. When I think of the primary vehicle that most people choose to employ for giving and estate planning, trust comes to my mind. Some trusts can be used only for charitable giving and trusts can be used for only non-charitable giving.

The charitable remainder trust

What many in the estate planning world refer to as a “CRT,” a charitable remainder trust is where one or more people have an interest in the trust’s assets for a specific period initially. Once that interest goes away whatever is left in the body of the trust would then go to a predetermined charity. Whoever is named as the initial beneficiary of your trust would be able to receive distributions of money from the trust for as long as the time is specified in the document.

Once that initial period has subsided, whatever property remains in the trust would be distributed to whatever charity or non-profit organization that you choose. Let’s say that you wanted to create a trust which provided you with some retained money for as long as you lived and then to your wife for as long as she lived. If you created a trust like this, then you would have a steady stream of income for yourself and your wife and then whatever is left in the trust after both of you pass away would go to the predesignated charity or non-profit organization.

By using a charitable remainder trust you can accomplish two things simultaneously. For one, you would be able to ensure that you can take advantage of any income in the trust for a specific period- often the remaining years of your life. This should be able to help you with your retirement years or golden years as far as putting you in a position where you can cover bills or pay down your mortgage. At the same time, you would be able to have control over charitable giving and determine who will be a beneficiary of your trust.

Charitable lead trust

The opposite of a charitable remainder trust is known as a charitable lead trust. A charitable lead trust is where the charity receives the first interest in the property of the trust. Then, someone else would be able to have an interest in the remainder of the property after that initial period comes to an end. Let’s say that in the trust you created, a charity of your choice would be able to draw from the property in your trust for fifteen years from the date the trust is created. Any remaining property could then be distributed out and the trust dissolved, or the property could be maintained in the trust and then distributed over time to whomever you would like.

Restrictions on a charitable remainder trust

You can name the person who would receive the trust’s initial income stream for up to twenty years or the life of a person who is not also a charity. We talked earlier about how these persons could be you and your spouse. You would need to designate who would receive the remainder of the assets which would be donated after you and your spouse pass away using the example that we created earlier in today’s blog post. The trustee of your trust can retain the ability to change the charity that stands to receive property.

Benefits of a charitable remainder trust

If you are someone whose assets consist mainly of property that has increased in value dramatically in recent years, then that property would be very likely to be subject to capital gains taxes if you decide to sell the property. What you can do by donating money through your trust would be to avoid taxation of the gains on the property while being able to provide a tax deduction based on the value of the property whenever the charity takes possession of the property. The income that you and your spouse would collect from the trust during your lives is also tax-exempt. Keep in mind, however, that any property which you receive out of the trust as income is taxable during the periods in which you receive the property.

What else do you need to think about when it comes to charitable trusts?

Both charitable remainder trusts and charitable lead trusts have limitations on how they can transact donations. You can use cash, stocks, and real estate to fund your charitable remainder trust. Overall, when you think of a charitable remainder trust you should consider that it allows you to maximize your desire to save money on taxes, provide a steady stream of income for yourself (or others) and then be generous towards charities that you are interested in supporting.

Whether you want to sell a business, stocks, or other investments and not suffer the tax consequences immediately, a charitable remainder trust is the best way to do this. If you anticipate that you will be switching tax brackets at a later point in your life you can also defer the tax consequences until that point. There are costs associated with planning and creating a charitable remainder trust. However, this is a method that allows you to be able to time how and when your income is taxed. Indirectly, the government can help you give more generously to charity because of how this trust is structured.

I think that this is an important enough point for us to walk through another example to make sure that the significance of what a charitable remainder trust can offer has set in with everyone out there reading this blog post. Consider a situation where you and your spouse have decided to sell some real estate. The real estate is worth $1 million and when you purchased the real estate it was worth $250,000. For tax purposes, we would call this your “basis.” When you sell the property then you would need to pay taxes on the $750,000 that you gained during the years of owning the property and seeing the property value increase dramatically. For many of you reading this blog post that could mean having to pay around $250,000 in taxes. Quite the sum of money and something that would eat into a lot of the profit that you made selling the property.

What could have been true had you maintained the property within a charitable remainder trust? You could then sell the real property with no income taxes associated with the sale. The cash that you earned in the sale could be spread out throughout your life and that of your spouse spread the tax burden out over that time and then support your charity of choice after you and your spouse pass away. Whether it is real property or investment (non-retirement) that you sell, this example would still hold.

Moreover, your age and that of your spouse would be a relevant consideration, as well. Consider a situation where you could receive a deduction on your taxes if you promised to give a portion of that $750,000 to a charity upon which the death of whichever spouse ends up living longer. This is true because the government would allow you to delay the tax liability under the charitable remainder trust. The full $1,000,000 that you sold the property for could have been used to make money in the future instead of the approximately $667,000 that would be left after taxes were paid on the property.

Charitable Remainder Annuity Trusts and Charitable Remainder Unitrusts

Within the world of charitable remainder trusts, there are two subgroups of trusts that we need to talk about today, as well. These are known as Charitable Remainder Annuity Trusts (CRAT) and Charitable Remainder Unitrusts (CRUT). A CRAT pays you a fixed amount of income based on the chosen percentage of the fair market value of the property contained within the trust. The value is taken on the date the trust is funded. It is called an annuity trust because the payment does not change during the life of the trust.

To that point, let’s say that your charitable remainder annuity trust was funded with $1 million in assets and you and your spouse chose to receive payments at 5% of that number. The CRAT would pay you $50,000 per year for the life of the trust. Payout rates for the trust must be at least five percent but can exceed that number. There are additional factors to consider as far as making sure some money is left over to the charity of your choice upon your death and that of your spouse. You would not be able to contribute additional sums to the trust after the initial funding takes place.

A Charitable Remainder Unitrust will pay you an income stream that is based on the chosen percentage of the value of the assets contained in the trust each year. You can choose to take distributions of a certain percentage of a market value that changes over time. You would then receive larger distributions of income when the investments are growing and would receive smaller distributions when the investments are losing money. You can also make additional contributions to a unitrust.

What are some good questions to ask about Charitable remainder trusts?

When it comes to these CRTs it is worthwhile to ask questions. Many people have heard of a trust to plan for retirement, your legacy and to reduce your tax burden but there are details about these trusts that require some questions to be asked. We are going to walk through a few of the most important and frequently asked questions about charitable remainder trusts but as a rule, it is best to speak to an attorney about specific questions. We cannot tailor these questions to your specific circumstances because we do not know what those circumstances are. For that, reach out to the Law Office of Bryan Fagan today and we can talk more about your life, your money, and your questions.

How should you fund the trust? Do you need to set money to the side?

No- all the money that you use to fund the trust will stay in that trust for beneficiaries of the trust to take advantage of and receive distributions from. That is until the income portion of the trust comes to an end. How much money can be paid out can be figured out using actuarial tables measured using your age, life expectancy as well as the number of assets in the trust. If you and your spouse intend to be able to draw income from the trust until you both pass away, if you all die before you reach the age that the actuarial tables expect you to then the charity that you name in the trust would be able to receive more money than expected. The opposite is also true if you live longer than the tables suggest that you all may.

If the trust has less money in it than anticipated for the charity, is it still possible to take the deduction?

Sometimes the investments within the charitable trust do not perform up to snuff. Meaning that once the initial period where you can receive income out of the trust comes to an end, the remainder in the trust is less substantial than you would have hoped for during the planning stages of the trust. The ability to take a deduction is based on the trust performing well hypothetically. At the end of the income term of the trust, the amount left in the body of the trust will not determine whether you can take a deduction on your taxes.

Closing thoughts on charitable remainder trusts

Despite these trusts not being all that well known, charitable remainder trusts are good tools that can be utilized for those of you who have assets that have quickly appreciated. As we have seen in recent years, real estate values have skyrocketed around the country and Houston is no exception. What we see is a situation where the real estate that you own, if it is not your primary residence, could land you in a position to need to pay a hefty sum in taxes if you decide to sell the property.

Income taxes are a major consideration for you or should be, when it comes to your investments and estate planning alike. The last thing that you want to see is a lifetime’s worth of effort and savings go down the tube due to poor tax planning. You should pay all the taxes that you are legally obligated to but if there are methods to limit your tax exposure which are legal you should also pursue those. It would be a waste of all your hard-earned money, planning, and otherwise careful consideration of the rules. That you can defer the payment of income taxes allows you more options in planning for retirement and the life of your estate after you pass away.

Finally, these charitable remainder trusts put the focus on a worthy charity that you would like to continue to support even after you have passed away or even before then. Take into consideration what property you have and how best to allocate it and you have what is a good plan, potentially. A good plan in your mind needs to be fleshed out with questions, additional planning, and concrete steps in writing which can best tie together the law, your charity of choice, and the income needs of you and your family over the next few years.

The attorneys at the Law Office of Bryan Fagan are uniquely set up to be able to help you in the pursuit of your estate planning goals. We offer a team of lawyers who are experienced and pair that with having the heart of a teacher. We want to educate you on your options and then support you in building an estate plan which matches up with your goals.

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