Charitable Lead Trusts

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	Charitable lead trusts Personal Finance Advisor by Deloitte & Touche OnLine May 24, 1999

With CLTs, you can help a charity, and your family, too.

With a charitable lead trust (CLT), a grantor can support charitable organizations during his/her lifetime or at death, and provide financial security for family members or other beneficiaries. The transfer of assets to a CLT also may reduce the size of the grantor’s estate.

A CLT is an irrevocable trust created by a grantor during his/her life or at death. An income interest is paid to a charitable organization(s) for a fixed term (or the grantor’s lifetime plus fixed term). At the end of the term, the remainder interest is distributed to non-charitable beneficiaries. Federal law does not limit the term of a CLT; however, state law must be considered regarding perpetuities.

Types of CLTs: There are two basic types of CLTs -- charitable lead annuity trusts (CLAT) and charitable lead unitrusts (CLUT). Under a CLAT, income interest beneficiaries are paid annually either (1) a fixed dollar amount, (2) a fixed percentage of the initial value of CLAT assets, or (3) an amount calculated using a specified formula. Thus, any appreciation in excess of the annual payments to charitable organizations will benefit the remainder interest beneficiaries. The charitable interests distribution amounts/percentages are determined by the trust document (the Internal Revenue Code does not specify a minimum distribution percentage). The grantor should not make additional contributions after the initial contribution to a CLAT. If trust income is insufficient to cover the annual interest distributions, the trust corpus (principal) may be used.

Under a CLUT, the payments to charitable organizations are based on a fixed percentage of the fair market value (FMV) of the CLUT assets (recomputed annually). Consequently, any appreciation in the CLUT assets will increase the amount of annual income payments to the charities. Grantors may make additional contributions to a CLUT after the initial contribution without negative tax implications. As with CLATs, there is no minimum percentage for annual distributions.

Income Tax: The income tax consequences for the donor will depend on the type of CLT created -- grantor or non-grantor trust. A grantor trust is generally defined as "a trust whereby the grantor retains control over the income or corpus, or both, to such an extent that such grantor will be treated as the owner of the property and its income for income tax purposes."

If a CLT is a grantor trust, the grantor receives a current charitable income tax deduction (AGI limits apply) at the time the trust is funded. The deduction is equal to the present value (based on IRS tables) of the named charitable organizations’ lead interests. The grantor is required to include on his/her personal income tax return all income earned in the CLT from the date the trust is funded until termination of the grantor’s ownership interest (e.g., date of the grantor’s death). A grantor CLT does not pay tax on its income.

A non-grantor CLT is a separate taxable entity. The grantor does not receive a charitable income deduction upon funding a non-grantor CLT. Rather, when the CLT makes annual payments to charitable organizations, the CLT receives a deduction (without limits) to offset income generated by the CLT assets. A non-grantor CLT reports, and is taxed on, income generated by assets in the trust.

Gift Tax: An irrevocable transfer of assets by a grantor during his/her lifetime to a CLT (grantor or non-grantor) is a completed gift for gift tax purposes and qualifies for an unlimited charitable gift tax deduction. The deduction is based on the present value of the charitable organizations’ lead interests (using IRS tables). Gift tax will apply to the value of the remainder interests that will be transferred to non-charitable beneficiaries (other than the grantor). By increasing the term of charitable lead interests, the initial gift tax deduction will be increased and any gift tax due on the remainder interests will be reduced.

The annual gift tax exclusion ($10,000 for 1999) does not apply because the gift to the CLT is not considered a present-interest gift. A gift tax return generally will be required upon funding a non-grantor CLT (gift tax returns may not be required for a grantor CLT).

Estate Tax: Assets in a grantor CLT normally will be included in the grantor’s estate. However, the grantor’s estate will qualify for a charitable estate tax deduction based on the present value of the charitable organizations’ lead interests (using IRS tables). Assets in a non-grantor CLT generally are not includable in the grantor’s estate.

GST Tax: A generation-skipping transfer (GST) tax of 55 percent usually applies to transfers to "skip" persons (two or more generations below the grantor). However, each individual taxpayer is allowed a lifetime GST exemption of $1,010,000 (amount indexed for inflation). For a non-grantor CLUT, the computation of GST tax, as well as the allocation of the GST tax exemption, are based on the present value of remainder interests on the date the trust is funded. For a grantor or non-grantor CLAT, the GST tax consequences cannot be determined until the end of the trust term (consequently, CLATs may result in higher GST tax).

These are some thoughts to consider about charitable lead trusts. Your Deloitte & Touche financial advisor also can provide information and should be consulted before any action is taken.