In this series of articles we earlier discussed a Charitable Remainder Trust (CRT). This popular trust, when created and funded, pays periodic income to a beneficiary for a specified period of time. Then upon its termination whatever is left in the trust is given to a pre-determined charitable organization. The person who creates this trust receives nice tax deductions since a charity should benefit from this arrangement.
On the surface, a Charitable Lead Trust (CLT) would seem to be a similarly structured trust, just the nature of the beneficiaries are reversed. When a CLT is created, it is the charity that receives income distributions over the life of the trust. Then upon its termination all assets in the trust are distributed to the remainder beneficiaries. There are other differences, however. For example, a CLT is not tax-exempt where the remainder trust is.
There are several different kinds of CLT’s. There can be a ‘grantor’ trust or a ‘non-grantor’ trust. A grantor trust is one in which the creator or the trust (the grantor) retains some control over the trust, in which case the trust’s income is taxable to the grantor.
The trust can be reversionary or non-reversionary. A reversionary trust is one where the grantor (the creator) actually becomes the remainder beneficiary of the trust assets following the term of the trust.
The trust can be an inter-vivos (created during life) or testamentary (created at death). We will spare you and not get into technicalities here.
For our purposes, let’s just talk about what is the most common form of charitable lead trust – a Non-reversionary, Non-grantor trust – and why it so useful for the appropriate situation.
The circumstance is easily understood. Let’s say a widow has an estate worth $10,000,000. She has made a $1,000,000 pledge to her favorite charity that she promised to pay over a ten year period. She would like to transfer her estate to her son in the most tax-efficient manner possible.
She transfers $2,000,000 to a Non-reversionary, Non-grantor CLT that will pay a 5% annuity payment to her favorite charity each year for 10 years. The charity will receive 10 payments of $100,000 – fulfilling her pledge of $1,000,000.
At the end of the ten year term, her son receives the assets that are in the trust. If the trustee has averaged at least 5% return over that period, the son will receive at least the original amount - $2,000,000.
The year the trust is created and funded, the woman receives a charitable gift tax deduction of $879,750. This amount is the present value of the gifts that the charity will receive.
While few individuals might have a need for this particular strategy, you can see why this kind of technique can be so useful in helping wealthy individuals make those truly dramatic gifts to organizations such as universities and hospitals. Those organizations receive those gifts because they have people who have relationships with their donors and seek to meet their needs.
The features of a charitable lead trust can useful for many other situations. The main circumstance is to know that a donor has or will have the capacity to dedicate resources for period of time for the purpose of creating income for a charity, but ultimately wants to transfer the assets to a designated beneficiary while receiving advantageous tax benefits. That person would probably like to know about a charitable lead trust.