Charitable Lead Trust – The Wealth Transfer Engine

If you have a large estate and are looking for ways to pass more on to your heirs, a Charitable Lead Trust may be an excellent plan for you. A Charitable Lead Trust is a gift plan that allows you to transfer assets to future generations at a significantly reduced gift or estate tax cost, while providing a stream of income to Eckerd College for a term of years.

What is a Charitable Lead Trust?

A Charitable Lead Trust (CLT) is a powerful way to transfer assets to your heirs at a significantly reduced gift and estate tax cost, while supporting Eckerd College with income payments for a period of years. During the term of the trust, a CLT makes fixed or variable income payments to one or more charitable beneficiaries. When the trust terminates, the assets pass to your heirs (called a Non-Grantor Lead Trust) or revert to you (called a Grantor Lead Trust).

Non-grantor CLTs qualify for a gift or estate tax charitable deduction equal to the income payments made to charity, and are a great way to reduce the cost of intergenerational wealth transfers. Grantor CLTs generate a current income tax deduction, and are useful if you wish to accelerate future deductions into the current year. Since Non-Grantor Charitable Lead Trusts are by far the most common form of lead trust, we will focus our discussion on them. Consult your legal or tax advisor to determine what format is best for you.

What Are the Advantages of a Non-Grantor CLT?

For people who have significant assets (typically, $10 million or more), a Non-grantor CLT spells gift and estate tax relief:

• You receive a charitable gift tax deduction equal to the future income payments made to charity. When used in combination with your lifetime gift and estate tax exemptions, this deduction can reduce or even “zero out” your tax liability on substantial transfers to your children or grandchildren.
• The assets you contribute to a non-grantor CLT are removed from your taxable estate, lowering your future estate tax liability.
• Any growth that takes place in the trust assets passes tax-free to your heirs. You can even structure your CLT to start with smaller payments to charity that “build-up” over time in order to enhance asset growth.
• Unlike most other kinds of planned giving arrangements, a CLT provides immediate benefits to your charitable beneficiaries. Payments from a CLT can be used to fund capital projects as well as endowment.

Points to Remember

• The IRS uses a special discount rate—known as the Section 7520 rate—to calculate the present value of remainder interests left by charitable trusts. In the case of CLT’s, the lower the monthly discount rate, the lower your gift and estate taxes on the transfer. The section 7520 rate is currently at relatively low levels, so now is an excellent time to establish a CLT.
• CLT’s are taxable trusts. It is preferable, when possible, to fund a CLT with high basis assets so that the trust will not have to pay significant capital gains taxes.

Example

Assume that you use appreciated property with an average cost basis of 50% to fund a $2 million Charitable Lead Annuity Trust (CLAT) that makes a 6% annuity payment ($120,000) to Eckerd College for 20 years, after which the trust principal reverts to your grandchildren in a generation skipping transfer. Assume also that your gross estate is currently $10 million, you have made no previous taxable transfers, you are in the 35% federal income tax bracket, and the state income tax for trusts is 2.5%. Assume further that your average total investment return is 5% over the 20 year term. A 5.6 IRS Discount Rate is used to calculate the value of the remainder interest to your heirs.

PLEASE NOTE: This example is for illustrative purposes only and is not intended as legal or tax advice. Consult your legal and tax advisors prior to making any material decisions based on this data.

What About the 2001 Tax Act?

But, you say, doesn’t the 2001 Tax Act phase out the estate tax by 2010, making the Lead Trust irrelevant as a wealth transfer device? The short answer is “not likely.” The consensus among legal and tax experts is that, for a variety of reasons too numerous to discuss here, Congress will act to freeze income and estate tax rates at pre-2010 levels before the law “sunsets” in 2011. If rates were frozen at 2007 levels, for example, the estate and GST exemption would be $4 million for joint filers with a top gift and estate tax rate of 45%, leaving plenty of justification for CLTs in larger estates. More importantly, whatever happens to the estate tax, the gift tax exclusion is scheduled to remain at $1 million.

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For more information

E-mail us, complete the Personal Illustration form, or call us at (727) 864-8229 so that we can assist you.

Judi Schraer
Director of Gift Planning
Eckerd College
4200 54th Avenue South
St. Petersburg, FL 33711
(727) 864-8229