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Determines the value of the deduction for a transfer of cash or other property to a charitable lead annuity trust. It also shows the future interest gift made to the non-charitable remainderman. It also shows the percentage of principal that is deductible for gift tax purposes.
When a charitable lead trust is established, a donor transfers cash or other assets to a trust, and a charity receives payments from the trust. Assets in the trust transfer to a non-charitable remainderman (usually a child or grandchild).
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.
Entering DataTrust Type Select a type of trust (Term ,Life, Shorter) If you select Life, the Economic Schedule runs from year one until the Life Expectancy or until the remainder is zero (whichever happens first). If you select Term or Shorter, the Economic Schedule runs from year one until the end of the Term or until the remainder is zero (whichever happens first).
Transfer Date Enter the month and year. See Transition Period Notes.
§7520 Rate The program automatically enters the correct §7520 discount rate. If you enter a date for which a §7520 rate has not been published, the program shows a 30% value for the selected transfer date. The program automatically rounds the rate to the nearest 2/10 of 1% as required under §7520.FMV of Trust Enter the initial Fair Market Value (FMV) of the assets placed in the trust when established.
Growth of Trust Enter a growth percentage or investment yield for the assets of the trust for the purpose of the economic schedule.
Term If you chose a term or shorter trust, enter the number of years that the trust will last.
Percentage/Annual Payout Enter the projected payout that will go to the charity during the life of the trust. If you enter a 101 or less, the payout will be treated and displayed as a percentage. If you enter a number greater than 101, the payout is treated and displayed as a dollar amount of an annual payout.
Payment Period Select the number of payments that will be made during a normal full year to the beneficiary (Annual, Semiannual, Quarterly, Monthly, and Weekly).
Payment Timing Select when the payment is made during the selected payment period (Begin or End). A Begin case is assumed to be the same as an End case with an additional payment made at the beginning of the period.
Vary Annuity Payments Select between ‘No’, ‘Use Constant Rate’, and ‘Manual Inputs’. Using a constant rate to grow the annuity payouts by a constant percentage rate. The 20% rule that is applied to GRATs, is not applicable for CLATs. Using the Manual Inputs option, the user can enter year by year percentage payouts. Currently, the application allows for up to 45 years of manually entered payouts – if the term is longer than this, the application will use the 45th entered payout rate for years beyond 45.
Annual Growth of Payments If the Varying Annuity Payments input is set to ‘Use Constant Rate’, this input will be visible. Enter the percentage that the payments should grow by from year to year.
Yearly Varying Annuity Payments If the Varying Annuity Payments input is set to ‘Manual Inputs’, this schedule will be visible. Enter the percentages for each year, after year 1. The program will use the value that is shown in the ‘Percentage Payout’ for the first year.
Number of Payments The program calculates the number of payments based on the term and the payment period. If you would like to have a trust that makes additional payments (beyond the normal term), use this input field to indicate the total number of payments to be made. For example, if you have a trust making quarterly payments for 10 years, this data field would default to 40. If you wished to make payments for 10 years and 1 quarter, you would change the value to 41.
Lives If you choose a life or shorter trust, enter the number of lives (up to five) used to determine the charitable deduction.
Ages Enter the age(s) of the person(s) whose life is being used to measure the term of the trust as of the nearest birthday. You may enter up to five ages (Valid ages are 0-109.)
Exhaustion Method Choose the ‘IRS method or the Illustrated method to perform the exhaustion test.
- The IRS Annuity Factor Method This is the method which appears to have been used by the IRS in §25.7520-3(b)(2)(v), Example 5. It uses published annuity factors to determine when the trust exhausts, and what the payment is in the last period of the trust.
- The Illustrated Method This method creates the schedule of payments based on the assumption that the trust will grow at a rate equal to the §7520 rate. You can use this method to illlustrate when the annuity is expected to exhaust.
Optimize Click ‘Yes’ if you want to have the program calculate the payout percentage that will result in a remainder value of zero for a term trust. This input will not appear if the calculation trust type is Life or Shorter.
Use Life Exp. for Econ. Sched If selected, the life expectancy based upon the entered ages is used. If the case has more than two lives, the youngest two ages are used as the life expectancy. This life expectancy is then used to determine how many years the economic schedule displays. If not selected, you can enter the number of years to display the economic schedule.
Compounding Prior versions of Estate Planning Tools desktop always assumed an annual compounding, regardless of the period selected. This option was introduced in 2020.
Results
The Summary Tab displays the deduction allowed to a donor for a transfer of cash or other property to a charitable lead annuity trust. Also shown is the future interest gift that will pass to the non-charitable remainderman. The deduction allowed is calculated both as a dollar amount and as a percentage of the amount transferred. The trust’s payout frequency factor, payout rate, and the annuity factor are also shown.The program uses one of two methods to perform the exhaustion test on the trust.
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