What Is a Charitable Trust?

Key Takeaways

• Charitable trusts allow donors to support charities while benefiting from tax and estate planning advantages.
• There are two main types of charitable trusts: charitable remainder trusts and charitable lead trusts.
• Charitable trusts can be structured in a variety of ways to meet the donor's specific needs and goals.
• Charitable trusts offer several benefits, including tax deductions, reduced estate taxes, and the ability to make a lasting impact.
• It is important to consult with an experienced estate planning attorney and financial advisor before establishing a charitable trust to help ensure it is the right choice.

What Are the Types of Charitable Trusts?

There are two primary types of charitable trusts: charitable remainder trusts and charitable lead trusts. These trust types mirror each other but serve different needs. They have in common that the chosen charity or charities must qualify with the Internal Revenue Service (IRS) to receive charitable deductions according to the type of trust and terms you select.¹

Charitable Remainder Trusts provide income to you or another beneficiary for a period of time, and then the remaining assets are distributed to a charity or charities of your choice. There are two subtypes of charitable remainder trust:

• Charitable Remainder Annuity Trust (CRAT): This type of trust pays a fixed annuity amount to the beneficiary each year.
• Charitable Remainder Unitrust (CRUT): This type of trust pays the beneficiary a fixed percentage of the trust assets each year.

Charitable Lead Trusts provide income to one or more charities of your choice for a period of time, and then the remaining assets are distributed to you or another beneficiary. There are also two subtypes of charitable lead trust:

• Charitable Lead Annuity Trust (CLAT): This type of trust pays a fixed annuity amount to the charity each year.
• Charitable Lead Unitrust (CLUT): This type of trust pays the charity a fixed percentage of the trust assets each year.

Here are some additional structure options:

• Donor-Advised Fund: A donor-advised fund is a type of charitable trust that allows you to donate and then recommend grants to charities you choose over time.
• Private Foundation: A private foundation is a type of charitable trust typically funded with a large donation and managed by a board of directors.
• Community Foundation: A community foundation is a type of charitable trust that serves a specific geographic area and supports a variety of philanthropic causes.

Which type of charitable trust is right for you will depend on your circumstances and goals. It is essential to consult with an experienced estate planning attorney and tax advisor to discuss your options and choose the best trust structure for your needs.

Estate planning involves a wide range of trusts that cater to specific situations and unique requirements. Learning about the different types of trusts available is essential to make an informed decision.

How Do Charitable Trusts Work?

A Charitable Trust operates as a structured legal entity to provide donors a way to support a charity that benefits them. To achieve this goal, three primary roles are involved:

1. Donor: The individual who establishes and funds the trust.
2. Trustee: An independent third-party fiduciary relationship appointed to manage the trust, typically a financial or legal professional responsible for asset management and distribution decisions.
3. Beneficiary: The charities intended to benefit from the assets held within the trust.

Here’s a high-level overview of the process:

• The donor establishes an irrevocable trust, naming a trustee to manage and invest the assets. One or more charitable organizations are included as designated charitable beneficiaries. The trust can be created while still alive (living trust) or as part of a last will and testament (testamentary trust).
• The donor must fund the trust with appreciated assets like cash, publicly traded stocks, real estate, private business interests, or other property.
• The trustee invests and manages the assets over the trust term. Earnings and growth occur tax-free.
• Trust distributions are made regularly to either the donor or charity, depending on the type chosen.
• The remaining assets pass to the donor's heirs or the charity when the trust terminates.
• The donor receives an income tax deduction when the trust is funded based on the present value of the charity's benefit.
• Capital gains taxes are avoided when funding with appreciated assets.
• The assets are sold tax-free inside the trust and do not trigger gains.
• The assets are removed from the donor's taxable estate. With proper planning, distributions can be greater than the donor's earnings from holding the assets.

A charitable trust takes careful planning and execution but can be a win-win for charitable-minded donors looking to optimize taxes and support their philanthropy.

Consulting with an estate planning attorney and financial advisor to fully understand the implications, costs, and benefits is crucial before deciding whether a Charitable Trust is the right choice for you. Before deciding if a Charitable Trust is right for you, consult an estate planning attorney and financial advisor to understand the implications, costs, and benefits.

What Are the Benefits of a Charitable Trust?

A Charitable Trust combines philanthropy and financial strategy to benefit donors, beneficiaries, and causes. Here’s an overview of the benefits of establishing a charitable trust:

1. Philanthropic Impact: By providing continuous support to their chosen causes or organizations, donors can create a lasting impact and enable sustained assistance over the long term. Enables donors to specify the application of their contributions, ensuring alignment with their philanthropic vision.
2. Financial and Tax Advantages: Donors can immediately benefit from a tax deduction, calculated based on the current value of the assets used to fund the charitable gift. By placing assets in the trust, they are removed from the donor's estate, which could potentially lower estate tax liabilities through an income tax charitable deduction. Especially pertinent for appreciated assets, donors can bypass capital gains tax when such assets are placed in a Charitable Trust.
3. Enhanced Estate Planning: Donors maintain a degree of control over the assets, dictating terms of income distribution and charitable beneficiaries through the trust agreement. Particularly with Charitable Lead Trusts, donors can transmit wealth to heirs in a tax-efficient manner.
4. Flexible Planning Options: Charitable Trusts accept various assets – cash, stocks, real estate, etc. With multiple Charitable Trust forms available, donors can select a structure that best aligns with their financial and philanthropic objectives.
5. Encouragement of Future Giving: By establishing a Charitable Trust, donors set a precedent and inspire future generations toward charitable giving. Families can actively engage in philanthropic activities, instilling values and continuing the legacy of giving.
6. Legal and Financial Security: Assets in a Charitable Trust are typically shielded from creditors, ensuring they are utilized as per the donor’s intent. Charitable Trusts adhere to stringent legal guidelines, ensuring meticulous management and application of the assets.
7. Community and Relationship Building: The support to charities potentially amplifies the well-being and development of communities. Engaging with charitable organizations can foster meaningful relationships and create networking opportunities with like-minded individuals.

What Are the Potential Drawbacks of a Charitable Trust?

1. Complexity and Legal Formalities: Establishing a Charitable Trust involves navigating complex legal and tax rules. Ongoing administrative, legal, and tax compliance can be intricate and require constant attention.
2. Irrevocability: Many Charitable Trusts are irrevocable, meaning the decision cannot be reversed once assets are placed in the trust. Donors may not access the original assets once transferred to the trust.
3. Operational Costs: Involving attorneys and financial advisors in crafting the trust can be costly. Ongoing management, reporting, and legal compliance might incur additional costs.
4. Investment Risk: The trust’s investments are subject to market risks, potentially affecting the charity's generated income and remaining assets. Effective investment management is crucial to safeguard and grow the trust’s assets, sometimes necessitating expert involvement.
5. Limited Beneficiary Control: Altering terms or beneficiaries is often restricted once the trust agreement is formulated. Beneficiaries depend on the competency and integrity of the trustee to manage and allocate the assets effectively.
6. Tax Implications: Immediate tax deductions might be limited, depending on the donor’s Adjusted Gross Income and the nature of the donated asset. Inaccurate structuring or mismanagement of the trust might inadvertently result in tax liabilities.
7. Charity Limitations: Only donations to qualified charities are eligible for tax benefits, potentially limiting donor choices. The trust must adhere to stringent rules ensuring a genuine charitable component, subject to regulatory scrutiny.

It's crucial to weigh the potential drawbacks against the benefits and consult with an estate planning attorney and financial advisor to determine whether establishing a Charitable Trust is suitable for your estate plan based on individual needs and circumstances.

How Much Does a Charitable Trust Cost?

Establishing a Charitable Trust involves several costs, which can vary widely depending on the complexity of the estate, the attorney's fees, and the jurisdiction. While it's challenging to provide a precise cost without specific details, let's explore the general financial components:

• Attorney's Fees: Legal fees might range from a few thousand dollars to several thousand for a straightforward Charitable Trust. Attorney's fees can escalate substantially if the estate has numerous assets, diverse investments, or complex family considerations.
• Trustee Fees: If a bank or a professional trustee manages the trust, fees could be a percentage of the trust's assets annually, often ranging from 0.5% to 2%. Costs for individual trustees might be lower but could still involve compensation and expenses related to trust management.
• Administrative Costs: Costs associated with filing the trust documents with relevant authorities. Potential costs related to preparing and filing tax returns for the trust. Management of trust finances might involve accounting fees, especially if the estate is extensive or intricate.
• Asset Management Fees: Investment advisory fees will apply if the trust's assets are actively managed. Property management fees may be incurred if real estate is held within the trust.
• Ongoing Operational Costs: Managing and executing income distributions might have associated costs. Ensuring meticulous documentation and record-keeping might involve additional expenses, mainly if professional services are engaged.

Given the range and variability of costs involved in setting up and maintaining a Charitable Trust, it's crucial to obtain detailed estimates from attorneys, trustees, and other professionals before proceeding.

Is a Charitable Trust Right for You?

Whether a charitable trust makes sense depends on an individual’s financial and philanthropic circumstances and goals. Here are some key factors to weigh when deciding if a charitable trust is worth pursuing:

Potentially worth it for:

• Donors with highly appreciated assets – the capital gains savings can be significant.
• Individuals with estates subject to high estate taxes – trusts can help minimize estate tax exposure.
• Donors who want to support charities through estate planning.
• Philanthropic individuals who still want to benefit their heirs.
• Those without the immediate need for all investment income.

Likely not worth it for:

• Donors with minimal assets or with no estate tax concerns. The costs may outweigh the benefits.
• Those wanting access and control over donated assets in the future.
• Individuals whose priority is leaving the maximum amount to heirs rather than charity.
• People without charitable inclinations or philanthropic goals.
• Anyone uncomfortable with the required irreversible commitment.

When considering a Charitable Trust, it's important to remember that its value is a personal decision that varies by individual. Seeking professional advice from an estate planning attorney and a financial advisor can help you understand the costs, benefits, and potential implications of choosing a charitable trust. This information will be crucial in making an informed decision.

Remember, depending on your needs and financial situation, you can use different types of trusts. It is important to take the time to thoroughly research setting up a trust and consider all available options, taking into account your financial objectives, family, and personal preferences.

Frequently Asked Questions

What is the difference between charitable trusts vs. foundations?

Charitable trusts and foundations are legal entities used for philanthropic donations yet possess key differences.

Charitable Trusts:

• Typically more straightforward to establish, often requiring fewer formalities and documentation. Governed by trust laws and generally must abide by the stipulations set out in the trust deed.
• Managed by trustees responsible for overseeing the trust’s activities and ensuring compliance with the trust deed and relevant laws. Trustees might or might not be compensated for their roles.
• They have specific distribution requirements, like disbursing a minimum percentage of assets annually. May operate programs or give grants, depending on the trust’s mandate.
• Can be established to operate in perpetuity or for a specified term. It might be more rigid in altering terms once established due to the irrevocable nature of many trusts.
• Generally offers the grantor significant control over assets and distributions. It may provide limited flexibility in adapting to changing circumstances or objectives.
• Depending on the jurisdiction, it may have less stringent reporting and transparency requirements. Financial and operational details might be less publicly accessible.
• Typically formed with a well-defined purpose and predetermined beneficiaries. The trust deed commonly outlines precise distribution guidelines.
• Subject to specific tax rules and benefits, often offering deductions for the grantor and avoiding estate taxes.
• May or may not engage in public fundraising, depending on their structure and funding model.

Foundations:

• Typically, it involves a more complex and regulated setup process. Can be structured in various ways (e.g., a corporation) and are governed by respective laws.
• Governed by a board of directors or members who steer its activities and ensure compliance with legal and ethical standards. Depending on jurisdictional laws and foundation policies, board members may be paid or unpaid.
• Can be grant-making entities (distributing funds to other charitable organizations) or operating foundations (running their own programs). May have mandatory distribution requirements to maintain their charitable status.
• Can be designed to exist perpetually or spend down their assets over a defined period. Might possess more flexibility in adjusting their activities and operations over time.
• It can provide the founders with considerable control, especially in private foundations. It may allow for greater adaptability in response to evolving needs and contexts.
• Often subject to comprehensive reporting, disclosure requirements, and possibly public scrutiny. Usually obligated to submit detailed financial reports and information about grant-making activities.
• It might have broadly defined objectives, enabling support for varied causes and entities. It could encompass diverse activities, from grant-making to direct program implementation.
• Generally eligible for tax-exempt status but may be subject to taxes on net investment income.
• Might actively seek donations, engage in fundraising activities, and involve the public in their initiatives.

Sources

1. Charitable Contribution Deductions. https://www.irs.gov/charities-non-profits/charitable-organizations/charitable-contribution-deductions.
2. Charitable remainder trusts. https://www.irs.gov/charities-non-profits/charitable-remainder-trusts.