Charitable Remainder Annuity Trust (CRAT)

[Kathleen Reynolds]

#3904

A CRAT is an irrevocable trust to which the grantor gifts assets and retains a fixed annuity payout for a term of years or until the death of the grantor. If desired, the grantor can name other beneficiaries to receive the income payout (a reportable gift). The charity receives the remainder interest at the end of a specified term or at death of the grantor. Should the grantor die during the trust term, the trust principal is not included in the grantor’s estate. An income tax deduction is given for the present value of the remainder interest (must be at least 10%) which passes to the charity.

The idea asset to fund the trust is one that has a low cost basis and is not generating an income to the owner. In order to make the asset income-producing, it would have to be sold and this would trigger a substantial capital gain. The capital gain tax will not be applicable if the asset is sold after it is transferred to the charitable remainder trust.

This calculation determines the value of the non charitable beneficiary’s annuity (nondeductible) and the value of the charitable remainder interest (deductible) for a gift made through a charitable remainder annuity trust.

When a charitable remainder annuity trust is established, a gift of cash or property is made to an irrevocable trust. The donor (and/or another non-charitable beneficiary) retains an annuity (fixed payments of principal and interest) from the trust for a specified number of years or for the life or lives of the noncharitable beneficiaries. At the end of the term, the qualified charity specified in the trust document receives the property in the trust and any appreciation.

Most gifts made to a charitable remainder annuity trust qualify for income and gift tax charitable deductions (or in some cases an estate tax charitable deduction). A charitable deduction is permitted for the remainder interest gift only if the trust meets certain criteria.

A trust qualifies as a charitable remainder annuity trust if the following conditions are met:

• The trust pays a specified annuity to at least one non-charitable beneficiary who is living when the trust is created. Annuities can be paid annually, semiannually, quarterly, monthly, or weekly.
• The amount paid, as an annuity, must be at least 5%, but less than 50% of the initial net fair market value of the property placed in the trust. The charity’s interest at inception also must be worth at least 10 percent of the value transferred to the trust.
• The annuity is payable each year for a specified number of years (no more than 20) or for the life or lives of the noncharitable beneficiaries.
• No annuity is paid to anyone other than the specified non-charitable beneficiary and a qualified charitable organization.
• When the specified term ends, the remainder interest is transferred to a qualified charity or is retained by the trust for the use of the qualified charity.
• The Internal Revenue Service has also ruled that a trust is not a charitable remainder annuity trust if there is a greater than 5% chance that the trust fund will be exhausted before the trust ends.

The annuity paid must be a specified amount expressed in terms of a dollar amount (e.g., each non-charitable beneficiary receives $500 a month) a fraction, or a percentage of the initial fair market value of the property contributed to the trust (e.g., beneficiary receives 5% each year for the rest of his life).

The grantor will receive an income tax deduction for the present value of the remainder interest that will ultimately pass to the qualified charity. Government regulations determine this amount which is essentially calculated by subtracting the present value of the annuity from the fair market value of the property and/or cash placed in the trust. The balance is the amount that the grantor can deduct when the grantor contributes the property to the trust.

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

• The name of the CRAT
• The type of calculation
• The year in which the transfer takes place
• The §7520 rate
• To select the asset to use to fund this technique, click the ‘+’ button.
• Verify the amount listed as FMV.
• Percentage Payout Enter the payout rate of the annuity.  The annuity must be at least 5% and less than 50%.
• Cost Basis Enter the cost basis.
• Enter the years of the term of the trust.
• Select the payment period.
• Verify the client’s age.
• Enter the percentage of the annuity to be taxed.

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