When you have charitable giving intentions, the options available to you to fulfill them can be overwhelming. In this article, we’ll look at one specific charitable vehicle: a CRT trust (charitable remainder trust). We’ll define what a CRT trust is, explore two types of CRTs and the assets you can donate to them, and help you decide if a CRT is right for you.
[Author's note: If you search for additional information on charitable remainder trusts online, you'll want to use the non-grammatical keyword "crt trust", to avoid hitting unrelated topics on search engines.]
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What is a CRT (charitable remainder trust)?
A CRT trust is a type of irrevocable trust that you can leverage to both reduce your current income tax burden and long-term estate tax burden, all while achieving your charitable goals. The way this kind of trust works is that you and your spouse—or you as an individual— will typically gift assets to the CRT. Then, the trust will pay you (or another income beneficiary) income each year.
Due to IRS rules, the life of a CRT usually can’t exceed 20 years. So when you put assets into the trust, you’ll receive income for two decades, and then whatever assets are left in the trust after that period will be donated to your charity of choice.
CRTs are an appealing trust option for people with charitable intentions. Opening a CRT also gives you the ability to remove assets from your estate, which means you’re likely to save on both federal and state estate taxes in the process. Depending on how the trust is structured, you’ll generally receive a charitable deduction for the year that you make the gift to the trust.
2 Types Of CRT Trusts, Explained
There are two main types of CRTs you can choose from and a myriad of iterations within those broader categories. The key difference between the two trusts is how you receive income from them.
1. Charitable Remainder Annuity Trust (CRAT)
A CRAT has defined terms that don’t change. For example, if the trust is set up to pay out 4% of an initial donation of $1 million, or a specific dollar amount per year, the beneficiary’s monthly income from the trust will remain fixed for the life of the trust. In almost all instances, these kinds of trusts don’t allow you to donate additional assets to them.
2. Charitable Remainder Unit Trust (CRUT)
In contrast, the income generated by a CRUT is typically based on the January 1st fair market value of the trust’s assets, multiplied by a percentage (usually 5 or 7%, in compliance with IRS regulations). For example, if the trust’s assets were valued at $1 million at the beginning of a given year, 5% of that amount ($50,000, in this case) would be distributed to the beneficiary that year.
Pro Tip: Your CRT (charitable remainder trust) can be structured with nuances that depend on the market environment and the type of assets you plan to donate. The aim behind this approach is to provide a more flexible income stream.
For example, a NIM CRUT (net income makeup charitable remainder unit trust) enables the trustee to pay the beneficiary whatever is the lesser amount of either the income generated by the assets or the market value–based formula. You may choose to leverage the former option if you have an illiquid asset in the trust that you want to hold onto or an asset that you expect to generate more income in the future.
What assets can you donate to a CRT trust?
Appreciated assets are the most common assets donated to a CRT. Many people also donate cash and real estate.
Selling stocks to a CRT is an excellent strategy if you want to diversify your investment portfolio. For example, if you sell a stock you’ve held for several years that has appreciated over time (such as Apple or Google) to your CRT, this will enable you to rebalance your portfolio or reduce your concentration risk without incurring capital gains tax.
In less common instances, if you’re a business owner, you may donate a piece of your privately held company to a CRT. However, this maneuver can be more difficult to execute. Suppose, for example, you donate a portion of your company to a CRT and the business generates income; from a legal and tax standpoint, the trust is then engaged in a business that doesn't have charitable intentions. The donation and any income it generates while part of the trust is therefore taxable, which reduces the amount of income you receive from the trust and could reduce the charitable deduction the year the donation was made.
CRTs do have limitations on non-capital assets, which means that donating collectibles like art or antiques becomes a less favorable approach. Assets with a tangible market value are your best bet to donate and will help keep the setup of your trust simple.
Donating Assets To Your Charity Of Choice
As noted earlier, whatever assets are left in your CRT after it pays income to you for the duration of its lifetime will go to your charity of choice. You can name charities outright when you set up a CRT. However, because a CRT is an irrevocable trust, you could be stuck with a charity that your intentions no longer align with if you make this decision early on and have a change of heart somewhere down the road.
A way to get around this potential issue and offer yourself more flexibility is to donate the leftover assets in a CRT to a Donor Advised Fund. With this option, you can stipulate how the Donor Advised Fund distributes assets upon your death, and change your mind at any time.
How To Know If A CRT Trust Is Right For You
1. You have charitable giving intentions.
By and large, a CRT is only appropriate for people who have charitable intent. In these cases, their intentions are often longer-term (sometimes, generations beyond their lifetime), which enables them to blend different charitable strategies including irrevocable trusts.
2. You want to minimize the amount of wealth that will go to your heirs.
If you’re not concerned about your assets being passed down to heirs, a CRT could be a great option. In contrast, if you want to leave all your wealth to your heirs, a CRT would not be a sensible choice, because the assets left in the trust at the end of its lifetime will go to charity.
3. Your estate is exposed to federal and state estate taxes.
If you have estate tax exposure, the best approach could be to summarily get assets out of your estate and into a CRT. Alternatively, if you have charitable intentions but little or no estate tax exposure, donating in a given year that you choose for other strategic reasons is likely the right move for you.
4. You have a highly appreciated asset.
If you have a piece of real estate that you need to convert into an income stream and you want to do it in a tax-efficient way, a CRT could work for you. However, you should still have charitable intent and no concern about the asset being passed down to heirs.
Personalized Financial Strategies
At Bay Point Wealth, we’re focused on the financial goals you want to accomplish. We’ll always strive to provide you with the right options for your family.
The financial planning spectrum ranges from simple to complex, and each option along the way has its pros and cons. This is why there’s no one-size-fits-all approach to planning. We aim to balance simplicity with achieving your objectives.
A CRT can be an effective tool, but it will introduce some complexity into your life including additional tax returns and the need to hire a trust attorney. We’ll help you weigh the pros and cons and arrive at the most cost-efficient and administratively effective solution for you.
Ready to make a plan that fulfills your charitable goals? Schedule a call with us today.