Charitable Lead Unitrust (CLUT)

[Kathleen Reynolds]

#3047

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Determines the value of the deduction for a transfer of cash or other property to a charitable lead unitrust trust and 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 term of years 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 unitrust pays a specified percentage of the current trust value (as revalued each year) 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. As a result, 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.

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Entering Data

• Trust 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 shows the correct §7520 discount rate, as well as the rates for the two previous months, if you have kept the AFR Rates Manager up-to-date. If the AFR Rates Manager is not up-to-date, 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, and automatically selects the rate that should result in the largest charitable deduction, but you can override that selection if you wish.
• 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 Payout – Enter the projected payout that will go to the charity during the life of the trust. (valid entries: %0 – %100)
• 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).
• Months Valuation Precedes Payout Enter the number of full months by which the valuation date (for the assets of the unitrust) precedes the first payout in the first full taxable year of the trust (not the short first year). The program will only allow valid input values according to which Payment Period was selected in the previous entry field. Growth is applied on the payment schedule before payments are calculated unless Months Valuation Precedes Payout is zero. This does not pertain to the planning period before the trust goes into effect.
• 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.)

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Results

The program displays the deduction allowed to a donor for a transfer of cash or other property to a charitable lead unitrust. 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 sequence factor, adjusted payout rate, and the term of years factor are also given.

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