Charitable Giving - How to Benefit a Charity and the Family

December 15, 2023

With proper planning, taxpayers may use charitable remainder trust to achieve many tax and estate planning advantages.

Charitable remainder trust works as follows:

The taxpayer contributes cash to a trust. The taxpayer designates his/her child to receive income from the trust for a fixed period of years or for life. When the child’s income interest ends, the trust property is paid to a charity that the taxpayers choose when he/she sets up the trust.

One immediate tax advantage is that in the year that the taxpayer sets up the trust, the taxpayer gets a substantial income tax deduction for a charitable contribution. The amount of the deduction is the present value of the “remainder interest” that the taxpayer gave to the charity. In addition, no gift tax is due for the charity’s remainder. For the trust property paid to the charity, the taxpayer also saves on the estate tax as the property will not be included in the taxpayer’s estate.

However, the income interest that the taxpayer gives to the child, is subject to gift tax. Even so, the annual exclusion can be used to reduce or eliminate gift tax. The annual exclusion amount is $17,000 for 2023. Furthermore, if the taxpayer has not previously used all of his/her unified credit, the unified credit can also be used to reduce or eliminate gift tax.

To utilize the advantages outlined above, the taxpayer must use a trust that satisfies the IRS requirements for a charitable remainder unitrust, a charitable remainder annuity trust or a pooled income fund. For unitrust or annuity trust, there is only one donor, whereas pooled income funds combine funds from several donors. As a result, pooled income funds provide greater protection as they offer greater diversification.

For unitrust, the child’s income payment each year will be a fixed percentage and at least 5 percent of the trust’s assets. With an annuity trust, the payment is a fixed amount, which must be at least 5 percent of the initial value of the trust property. For pooled income fund, payments cannot be fixed, and they are dependent on the fund’s earnings.

Unitrust or annuity trust does not have to be funded by cash. The taxpayer can transfer stock he or she owns that greatly increased in value. One advantage is that the taxpayer does not need to pay tax on the gain. The trust could sell the stock without paying the tax. However, for pooled income funds, the taxpayer would be taxed on the sales of stock at a gain.