Making Charitable Donations with Charitable Trusts

Whether it’s because of the religious nature of the country, the public’s interest in public service, the importance the government attaches to them, or all three of these reasons, charitable donations are very popular in the United States. In the U.S., there are three common types of charitable donations: charitable trusts, charitable foundations, and Donor Advised Funds. Today, we will introduce you to charitable trusts.

The Components of a Charitable Trust

There are two parts to a Charitable Trust. One is the Charitable Remainder Trust (CRT) and the other is the Charitable Lead Trust (CLT). Today we will focus on the Charitable Remainder Trust.

Charitable Remainder Trusts

Target: Highly appreciated assets. The characteristics of these types of assets are:

1. You may have little to no income during normal times. For example, if you bought land or stocks, their appreciation is very good, but they don’t generate much income. Or, if you bought stocks that don’t pay much in dividends, you can’t rely on their income to make a living.

2. When you sell, you must pay value-added tax (VAT).

3. When you pass away, you must calculate your inheritance.

The advantages of using high value-added assets as a Charitable Remainder Trust:

1. You can take the income during your lifetime and donate it until you and your spouse pass away.

2. No need to pay VAT the year you sell your assets.

3. When the person passes away, the charitable trust is not counted as an inheritance, so there is no need to pay an estate tax.

4. Charitable organizations benefit from your donation, and, most importantly, your children may also receive some assets. In the end, it’s a win-win situation for all parties.

Common Charitable Remainder Trusts

Three common types of assets put into CRTs are stocks, companies, and real estate. There are only a few other types because most people still tend to use the exchange method. There are two things to keep in mind here: one is that these assets cannot be used as collateral for loans, and the other is that when you want to sell these assets, they must be placed in a trust before you can find a buyer.

Example analysis:

Let’s say Chang has a highly appreciated asset worth $10 million. When he chooses to sell it, after deducting the value-added tax (which can be as high as 35% in states with higher state taxes), he will end up with $6.5 million in hand. If Chang dies soon thereafter, the $6.5 million will be counted as an inheritance, and his child will receive only $3.9 million.

Now, consider the same scenario, only this time with a CRT: Chang sets up a Charitable Remainder Trust, into which he places the $10 million in assets, and then he sells them again. Because the assets already belong to the CRT, when he sells them, he doesn’t have to pay taxes, so he still has $10 million left.

In the two different scenarios above, the amount of capital remaining differs drastically. If you are making an investment with the same return, then isn’t the one that retains more capital better?

If the return on the assets invested is adequate, the charitable organizations also fare well, ending up with a generous sum. Now, under this scenario, we see that Chang retains a significant amount of money, and the charitable organization also benefits from a sizable donation, but what about Chang’s children? With a CRT, they benefit as well. Here’s how it works: Because Chang donated the assets through a CRT, the IRS allows only a portion of the normal tax deduction. Chang will be able to deduct perhaps 15–20% of the donation made through the CRT, and there is a fixed amount. This is different from directly donating the asset to a charity, which is fully tax deductible. However, this smaller deduction can be split over 5 to 6 years. For example, if Chang donates $10 million and receives a deduction of nearly $2 million, he can use the deduction over 5 to 6 years, and each year, he will have around $300,000 of income to claim as an additional deduction. With the money Chang saves this way, he can buy life insurance for himself and his wife, and then set up an irrevocable trust, so that ultimately, he won’t have to pay any taxes. As you can see, Chang gets more income each year, his chosen charitable organizations will continue to receive gifts in the future, and most importantly, the kids will benefit from tax-free insurance claims. It’s a WIN-WIN-WIN situation.

“Give a rose, and the fragrance remains in your hand.” Making charitable donations is an act of public service, the U.S. government offers tax incentives to encourage it. During tax season, individuals and corporations making charitable donations can realize great tax benefits. But the main motivation for making these donations is to help people, spread happiness, and benefit others as well as yourself. If you are interested in learning more about the financial ins and outs of charitable giving, please feel free to contact us at TransGlobal. Our experts will help you maximize the benefits of your donations and realize tremendous tax savings.

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This article is for informational purposes only and should not be construed as financial advice or legal advice. Please consult with a professional to develop a strategy that is right for you. Investing in securities involves risks, and there is always the potential of losing money when you invest in securities. TransGlobal Advisory, LLC (TGA) does not provide legal, tax, or accounting advice. You should consult your personal tax or legal advisor before making any financial decisions.