A charitable remainder trust is a deferred giving arrangement under which a donor transfers property (cash, securities, or real estate) to a trustee. The donor (and/or other beneficiaries) retains the right to the income from the trust either for life or a specified term of years. The Foundation receives whatever remains in the trust after that specified term, or after the death of the last beneficiary, whichever has been agreed to in the trust document.
Donors who establish a charitable remainder trust receive a charitable donation receipt for the present value of the future gift (the “charitable remainder”), which the Foundation will receive when the trust terminates. That value is calculated based on actuarial tables, taking into account the value of the property transferred to the trust, interest rates, the age(s) of each beneficiary, or the term of the trust if it is for a specific number of years.
At age 70, a widower wants to establish an endowed fund for the Foundation, but he cannot afford to give up any of his investment income. He transfers property worth $250,000 to a charitable remainder trust from which his net income will be approximately $15,000 a year for his lifetime. When he funds the trust, he receives a donation receipt for $120,675, which, assuming a 50 percent tax credit, will translate into tax savings of $55,510. After his death, the trust principal will be used to create the endowment.
Charitable trusts can have many advantages in addition to providing you and/or others with income — including freeing you from the responsibility of managing the asset(s) you contribute, saving probate fees, and protecting privacy.
It’s a versatile giving technique that you can tailor to your own situation. You designate the trustee who will administer it (any qualified institution or individual). But these are important decisions, and because the trust, once established, is irrevocable, you should seek the guidance of your personal financial and legal advisors. A representative can assist you along the way.
Charitable remainder trust explained
You may have an asset — a sum of cash, appreciated securities or real estate — that you’d like to become your gift to the PPCLI Foundation, but for now you need the income it provides. One possibility, of course, is to leave it as a bequest after your death. But there is another option: with a charitable remainder trust, you can make your gift now — and continue to receive the income for your lifetime, the joint lives of yourself and your spouse, or a specified term of years.
Unlike a future bequest, which yields no immediate tax benefit, the charitable remainder trust provides you with a donation receipt in the year of your gift. Also, placing the property in trust frees you from management responsibility and removes the property from your estate, guaranteeing your privacy.
Consider an example:
Stan W., age 70, wants to establish an endowed fund with the PPCLI Foundation in memory of his deceased wife, but he is reluctant to give up any of his investment income. He transfers property worth $250,000 to a charitable remainder trust from which his net income will be approximately $15,000 a year for life. When he funds the trust, he receives a donation receipt for $120,675, which, assuming a 50-percent combined federal and provincial tax credit, will translate into tax savings of $60,337. After his death, the trust principal will be used to create the endowment.
The tax benefits
The donation receipt Mr. W. receives represents the present value of the future gift (the “charitable remainder”) which the Foundation will receive at his death. It is an actuarially computed figure based on the amount contributed, the age of the donor, and an appropriate discount rate (the lower the rate, the larger the donation receipt). The amount of the donation, which may be claimed in any given year, is limited to 75 percent of the donor’s net income for that year, but the excess may be carried forward up to five years beyond the year of the gift. If Mr. W’s income were $100,000, he would need one additional year to achieve maximum tax savings.
Funding your trust with appreciated property
The assets you use to fund your charitable remainder trust may include securities and real estate, and often these will have increased in value during your ownership. When you transfer property that has appreciated in value and you are the income beneficiary, you will be taxed on 50 percent of the gain attributable to the charitable remainder.
Suppose that Stan W. funds his trust with $250,000 worth of listed stock for which he paid $100,000 some years ago. The total gain on the stock is $150,000. The computed present value of the charitable remainder is $120,675, or 48.27 percent of the entire $250,000 trust. Therefore, he recognizes $72,405 of gain (48.27 percent of $150,000), and $36,202 (50 percent of $72,405) is taxable. Although the tax on this would be $18,101, he has a tax credit of $60,337 from the donation receipt. Thus, he offsets the tax on the gain and realizes net tax savings of $42,236.
No matter how much taxable gain is attributable to the charitable remainder of your trust, the tax credit resulting from your donation receipt will always exceed the tax on the gain, unless you have named someone other than yourself as income beneficiary. This is true even though the capital gain is taxable, because the amount of the donation receipt you can claim for credit is now 100 percent of the taxable gain arising from the gift plus 75 percent of your other income.