Charitable Lead Annuity Trust (CLAT)

[Kathleen Reynolds]

#3909

A charitable lead annuity trust (CLAT) is an irrevocable trust to which the grantor gifts assets. The trust pays an annuity of a determinable amount to the designated charity for a stated period of years (a term certain). At the end of the trust period, the remaining trust principal is paid to the remainder beneficiaries (e.g., grantor’s children). The grantor must report the present value of the remainder interest as a future interest gift. Should the grantor die during the term of the trust, the trust continues for the term certain. The trust principal would not be included in the grantor’s estate because the grantor does not have any retained interest in the trust.

A reversionary charitable lead annuity trust (CLAT) is an irrevocable trust to which the grantor gifts assets. The trust pays an annuity of a determinable amount to the designated charity for a specified term of years or prior death of grantor (or certain other family members who may be designated as the measuring life). At that time, the remaining trust principal is paid to the remainder beneficiaries (e.g., grantor’s children). The grantor must report the present value of the remainder interest as a future interest gift. Should the grantor die during the term of the trust, the trust principal is not included in the grantor’s estate (no retained interest).

For calculations involving a term, the length of the economic schedule is limited to that term. Otherwise, the economic schedule illustrates the trust for life expectancy. If the number of lives is greater than one, then the length of the economic schedule will be determined by the joint life expectancy of the first two ages provided by the user. Single life cases will use the single life expectancy. The economic schedule will end if the trust is depleted of funds prior to the end of the schedule.

Individuals establishing a lead trust receive an immediate income tax deduction and a lower gift tax for transferring the trust assets to the remainderman. A lead trust may also be established at death as a form of bequest. Both corporations and individuals may establish lead trusts.

A lead annuity trust pays a specified percentage of the initial trust value to one or more charities.

Income, gift, and estate tax deductions are only permitted for transfers to lead trusts if one of the following requirements is met:

• The income interest is paid out in the form of a guaranteed annuity.
• The income interest is a fixed percentage of the fair market value of the trust’s assets (calculated annually) and is paid at least annually.

Income tax rules also require the donor to be the owner of the income earned by the trust. In other words, the donor receives an immediate, large income tax deduction, but in later years, must report the income of the trust as it is received. Consequently, the typical lead trust produces little if any net income tax deductions since future income taxes are likely to counterbalance the initial deduction.

Despite future tax obligations, however, the charitable lead trust can be beneficial. For example, if a donor is in a high-income year, but in future years is expecting a drop in income, his tax bracket will most likely also drop. Consequently, deductions are received in a high bracket year, and taxes are paid in low bracket years. This premise also applies if a drop in income tax rates is expected.

Another advantage of the charitable lead trust is that it allows a discounted gift to family members. Under present law, the value of a gift is set at the time the gift is complete. The family member remainderman must wait for the charity’s term to expire; therefore, the value of that remainderman interest is discounted for the cost of waiting. In other words, the cost of making a gift is lowered because the value of the gift is decreased by the value of the income interest donated to charity.

When the assets in the trust transfer to the remainderman, any appreciation on the value of the assets is free of estate taxation in the client’s estate.

Click the Edit button to set the specifications of the CLAT:

• • The name of the CLAT
  • To select the asset to use to fund this technique, click the ‘+’ button.
  • The year in which the transfer takes place
  • The §7520 rate
  • The type of calculation
  • The Percentage Payout
  • The Term of the Trust
  • The Maximum Annuity
  • The Percentage Payout
  • The Discount
  • The client’s age will be filled in for you.

• If you want to fund the life insurance premiums via a CLAT, check yes, and this adds a new report.

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