January is often a time when many people reflect on the prior year and begin to plan for the things they want to accomplish in the coming year. Individuals or families who have philanthropic organizations they desire to support – and who want to maximize income, gift or estate tax savings – should consider a charitable lead trust before donating to their favorite charity in 2022.
In 2020 (the last full-year of available data), individuals, foundations and corporations contributed $471 billion to U.S. charities, an increase of 5% over the prior year, according to USA Giving, a leading authority on charitable contributions. Giving by individuals was $324 billion, 2% more than in 2019.
As much as we want to put 2021 behind us, many of the same issues that made life difficult last year – the pandemic, inflation, economic uncertainty and potential changes in tax law – are still with us today. And many of those issues are financially impacting charities.
A charitable lead trust could be an ideal vehicle to help you be more strategic in determining which organizations to support and capitalize on potential tax benefits. Here’s why:
What is a charitable lead trust and how does it work?
A charitable lead trust is an irrevocable trust that, under the terms of the trust document, distributes assets (that are gifted to the trust) at a specified rate to named charities for a specified term of years. At the end of the term, the assets go back to the grantor or to the named remainder beneficiaries (i.e., heirs or children of the grantor).
The trustee of the charitable lead trust receives the gifted property, which could be cash, marketable securities, closely held business interest or another asset. The gift is irrevocable as the donor is no longer in control of the assets or disposition of the asset.
It can be a win-win to meet current charitable giving goals and potential estate tax savings for remainder beneficiaries at the end of the term.
What are the benefits of a charitable lead trust?
A charitable lead trust can be an attractive option compared to other forms of giving. Key advantages include:
1| Potential tax savings
One of the key appeals of a charitable lead trust is that the donor can receive deductions on certain taxes. The lower the federal interest rate, the lower the 7520 rate – and the greater the potential tax savings, which could be either current income tax or future gift or estate tax. (The “7520 rate” relates to IRS Internal Revenue Code 7520 that is used to value charitable interests in trusts.)
•Income Tax: If utilizing a grantor charitable lead trust, the grantor can receive a current income tax deduction based on the present value of the future charitable benefit.
•Gift and Estate Taxes: If utilizing a non-grantor charitable lead trust, there will be a lower remainder value of the trust that is subject to gift and estate tax; therefore, allowing for more assets to be shifted to the remainder beneficiaries at the end of the term of the trust. If the assets appreciate at a rate that exceeds the 7520 rate, the greater the benefit to the remainder beneficiaries. A non-grantor charitable lead trust does not allow for an income tax deduction, but is more advantageous for wealth transfer.
2| Charities and heirs can benefit
Because of the way it is structured, a charitable lead trust can be an ideal solution to support for an extended period of time the charities that are near and dear to your heart – and still provide for your heirs and loved ones at a later date. And, if managed prudently, the value of the remaining assets could be worth more than what was originally contributed.
A donor-advised fund can also be used in combination with a charitable lead trust. The donor can specify that the donor-advised fund is the charitable beneficiary, which allows the donor to have input over the funds during and after the term of the charitable lead trust.
3| A charitable lead trust encourages thoughtful planning
It takes thorough planning to establish a charitable lead trust, as IRS regulations must be followed. The planning stage of setting up the trust is the perfect time for donors to identify, evaluate and select the organizations they want to support during the lifetime of the trust – and the heirs who will benefit from the assets at the end of the term. Donors also can use this time to create an integrated plan to manage all charitable giving to make sure they are taking advantage of possible tax benefits and maximizing contributions to charities in a tax efficient manner.
How can a corporate fiduciary help?
Like many other types of trusts, establishing and administering a charitable lead trust involves navigating a seemingly ever-changing (and complex) web of law and tax regulations. Appointing a corporate fiduciary with philanthropic services experience as trustee is often a wise choice. The corporate trustee is able to provide:
•Legal support: A corporate fiduciary has experience interpreting legal documents and making sure the language in the trust is consistent with the donor’s intent and can be administered as such.
•Financial/investment management: A corporate fiduciary will ensure the assets are managed prudently for the term of the trust.
•Tax preparation: A corporate fiduciary stays in regular contact with the accounting professionals preparing the charitable lead trust’s tax returns and will see to it that the returns are filed in a timely manner.
•Administration: The trustee will follow the terms of the trust to ensure the grantor’s intent is carried out, the appropriate charitable distributions are made and the ultimate remainder beneficiaries receive timely and accurate reporting.
A charitable lead trust is a powerful tool that can be used to support a variety of charitable-giving objectives and tax planning strategies. While interest rates remain low, 2022 could be the year you take advantage of this type of trust to simplify supporting organizations that are making a difference – and providing for your family and heirs.
If you would like to learn more about charitable lead trusts, please contact one of our trust and estate planning advisors. We are ready to help.