Our complicated federal and state tax laws provide vehicles for protecting wealth for the current owner and future generations. Charitable lead trusts (CLTs) provide the means for wealth protection, serving as both a tax and an estate planning tool in West Virginia (WV), Kentucky (KY), and Ohio (OH). Understanding what CLTs are and how they work can help you determine whether they are the best tax and estate planning tool for your needs.
In this second blog in a series on charitable giving options, trusts attorney Anna M. Price at Jenkins Fenstermaker, LLP explains charitable lead trusts and when they might be right for you.
Benefit Today—and Tomorrow—with Charitable Lead Trusts
Trusts come in many varieties, each serving particular needs. Charitable lead trusts offer tax advantages for the grantor or the beneficiaries, depending on the type of CLT created, and serve as a vehicle for wealth protection and transfer. A thorough understanding of CLT options and the guidance of an experienced trusts attorney in WV, KY, or OH can help you realize tax savings and estate planning goals in one fell swoop.
Defining Charitable Lead Trusts
A charitable lead trust, sometimes called a charitable income trust, is a form of irrevocable trust, created when a grantor—the owner of the assets—transfers assets to a trust to benefit a charitable organization during the life of the trust. At the conclusion of the life or term of the trust, the assets either revert to the grantor (sometimes referred to as the donor) or will be passed on to one or more trust beneficiaries, as defined by the trust instrument. Any tax advantages are determined by the structure of the trust, created at the grantor’s direction.
CLTs can be categorized in different ways, based on the identity of the trust beneficiary and based on how the payout amount to the charity is determined during the life of the trust.
In the first category, CLTs are either grantor or non-grantor trusts, depending on the beneficiary identified in the trust instrument. As the name implies, at the conclusion of the grantor trust term, the trust assets revert to the grantor, while the assets are passed on to one or more non-grantor beneficiaries in a non-grantor trust.
The second distinguishing factor looks at how payments to the charitable organization are determined during the life of the trust. The trust instrument for a charitable lead annuity trust (CLAT) establishes a dollar amount to be paid to the charitable organization during the term of the trust. Alternatively, a grantor may establish a charitable lead unitrust (CLUT), in which the amount paid to the charitable organization is a percentage of the value of trust assets. In other words, in a CLUT, the value of trust assets must be recomputed prior to each distribution to the charitable organization.
When and How Charitable Lead Trusts Are Useful
CLTs provide a mechanism for making substantial philanthropic gifts and for passing wealth on to family. The transfer of wealth may be partially or completely free of estate and gift taxes for qualified CLTs, meaning those that comply with certain IRS requirements. CLATs and CLUTs are both qualified CLTs. An experienced trusts attorney can identify when a CLT is an appropriate option for wealth protection and how to obtain the maximum tax advantage in the process.
The benefit to the charitable organization is obvious: a predictable and reliable income stream over a set period of time. The benefits to the grantor and beneficiaries depend on the type of trust involved.
The grantor determines the type of CLT in the trust instrument, and the type, in turn, determines the tax benefits to the grantor. One benefit is universal for both CLATs and CLUTs—unlike charitable remainder trusts, a related estate planning device, charitable lead trusts are not subject to minimum or maximum payout periods. Listed below are pros and cons for each type of CLT:
- For tax purposes, income shifts from the grantor to the charitable organization, a tax-exempt entity. As a result, the grantor is not responsible for taxes on trust income. However, because the grantor is not considered the owner of a non-grantor trust, the grantor gets no charitable deduction.
- Through charitable giving during the term of the trust, the grantor reduces the gift tax on the remainder when it passes to the trust beneficiaries—even on growth in the trust’s asset value.
- The grantor receives a federal charitable deduction upfront for the present value of the payments to be made to the charity over the term of the trust.
- However, the grantor pays federal income tax on all trust income—even that distributed to the charity. There is no offset for the annual payments to the charity because the grantor already received the charitable deduction for the contributions to be made over the term of the trust.
Again, all CLTs are irrevocable, meaning the grantor cannot withdraw and is no longer the owner of assets placed in the trust. If early termination of the trust is possible, it would have significant consequences and would not retain all of the grantor benefits of a CLT.
The Key to Success is Working with an Experienced Trusts Attorney in WV, KY, or OH
Charitable lead trusts offer many benefits, but knowing when they are the best option as a tax or estate planning tool or for wealth protection requires a thorough case-by-case evaluation. For residents of West Virginia, Kentucky, or Ohio, experienced estate planning counsel is centrally located in Huntington, WV. For an experienced trusts attorney in WV, KY, or OH, call Anna M. Price at Jenkins Fenstermaker, PLLC, for a consultation on wealth protection options to best serve you. You can reach Anna by calling (304) 523-2100 or by completing this online contact form.