Charitable Remainder Trusts Revisited

Randall Dickinson pointed out another disadvantage, and potential trap, in charitable remainder trusts. In my example with the house, I had the donors living in the house as beneficiaries. The IRS sets forth private foundation rules that prohibit self-dealing (IRC section 4941). The donors in this example would be prohibited under these rules from living in the house they transferred to the trust.

Randall's comment underscores the complexity of these trusts. This should not keep someone with a charitable intent from exploring all options for their charitable giving. Charitable remainder trusts are bit one such option.

Thanks to Mr. Dickinson for his comment and input!

Charitable Remainder Trusts

With a charitable remainder trust, you name a non-charity beneficiary (the "income beneficiary") to receive payments for a period of time (usually the lifetime of the beneficiary, but it can be for a term of years). After that period of time, the trust terminates and the property in the trust (known as the remainder) is distributed to charity. The gift to the charitable remainder trust generates an income tax deduction for the value of the remainder interest (the property that the charity gets), and does not trigger any gift or estate tax if the donor, the donor's spouse, or both are the only income beneficiaries. The beneficiary receives the income from the trust during a period of time. The charitable remainder trust is also a tax-exempt entity, so the trust's sale of the assets to the charity does not generate any current capital gains tax.

Let's say you have a house that you bought in 1975 and now own free and clear. If you sell it, you will most likely have to pay a large tax on the capital gain. You could create a charitable remainder trust that allows you and your spouse to live in the house until you are both dead, at which time the house is sold to a charity of your choice. You could also create a trust that gives an asset to an income beneficiary upon your death for the beneficiary's lifetime, with the remainder to a charity.

Disadvantages of the charitable remainder trust include its irrevocable nature. Unlike a living trust, once you create the trust, you will not be able to change many of its terms. You also loose control of the asset. Our couple in the above example with the house may not be able to sell the house if they needed to, because they would no longer own it after transferring it to the trust. There are also difficulties with administration, particularly with regard to filing tax returns. There are also private foundation rules that must be followed by the charitable remainder trust.

If you have an asset that has appreciated greatly over time, and are interested in making a contribution to charity, a charitable remainder trust may be a good option.

Next, I will discuss the charitable remainder trust's close cousin, the charitable lead trust.