The Process and Benefits of Establishing a Charitable Trust
Arranging for the distribution of one’s assets after death is a key part of financial planning. Trusts, which involve placing assets and property into a single legal entity, typically include the person putting property into the trust (trustor), the person managing the trust (the trustee), and the entity who receives benefits (the beneficiary). Individuals who wish to bequeath assets to a non-profit organization after their death might consider establishing a charitable trust.
A type of irrevocable trust, a charitable trust cannot be cancelled or changed once created. In creating the trust, the trustor transfers control of assets to the trust, then designates an organization as the trustee responsible for managing the assets. Usually, the trustee will then invest the assets to create income that provides the organization with ongoing donations. In the case of assets in the form of property or real estate, the trustee will often liquidate the assets before investing.
Payments can be made monthly, quarterly, or annually. A trust document outlines key details of payment, including the payment period and the beneficiary. Every charitable trust has a specified timeline. For example, payments might be specified for 25 years after the time of the trustor’s death.
Generally, any 501(c)(3) organization that has been recognized by the IRS as tax-exempt can receive donations from a charitable trust. This status is necessary in order for donors to deduct donations when they file taxes. While a charitable trust can donate money to an organization without this status, the donation will not be tax-deductible.
Two main types of charitable trusts exist. A charitable lead trust (CLT) designates a specific amount of trust income for donation to a charitable organization. The remaining amount either remains in the trust or goes to the beneficiary. A CLT is an ideal option for a donor who wants to donate the maximum amount to the organization and does not need additional income.
Alternatively, a charitable remainder trust (CRT) first makes payment to beneficiaries in a set amount, with the remainder allotted to the organization. Also known as a split-interest trust, a CRT makes sense for grantors who require consistent amounts of income from the trust each year. Another option is a charitable remainder unitrust, which allocates a set percentage of the trust’s value for the beneficiary. Beneficiaries receive a higher amount when the trust performs well and less when it performs poorly, so this is the best choice if the individual is not depending on the income for living costs. According to IRS guidelines, the beneficiary must receive an annual minimum of 5 percent of the trust’s total value.
Charitable trusts carry significant tax advantages for donors. First, individuals can deduct the full value of their trust assets from their income taxes, either all in the year they establish the trust or distributed over 5 years. Donors must carefully calculate the deduction, accounting for payments they will receive over the trust’s payment period. This calculation considers factors such as number of heirs, inflation, and life expectancy and should be completed under the guidance of the attorney or planner who helped create the trust.
Additional tax benefits include avoiding paying capital gains taxes, as any property or asset donated via a charitable trust is not subject to capital gains tax on appreciation. For example, if a donor places a real estate asset into a charitable trust and the organization sells it for cash or to buy investments, the full amount from the sale goes into the trust. A key part of estate planning, charitable trusts also help donors avoid estate tax. When assets or property become part of a trust, they are no longer part of one’s estate and therefore are not subject to estate taxes.
Financial advisors and estate planning attorneys can guide clients in creating charitable trusts. First, they help individuals decide which assets to include. This is a vital step, as irrevocable trusts cannot be changed once created. Trustors must also choose beneficiaries and designate payment amounts and tax deductions. Before drawing up a trust document, donors should also clarify that their chosen charitable organization(s) can receive donations from trusts.
