What are the Pitfalls of a Charitable Remainder Trust?

If you have discretionary funds and are philanthropically minded, a charitable trust can serve you well, giving money to an organization you want to support, while passing assets to beneficiaries without burdening them with estate or gift taxes, but is it right for you? Some of the answers can be found in a recent article from U.S. News & World Report titled “Should you Set Up A Charitable Trust?”

Some basics to consider about charitable trusts are:

  • There are a number of different types.
  • Consider all disadvantages and alternatives.
  • Make sure it works with your estate plan and your long-term financial plan.

The most common types of charitable trusts are the Charitable Remainder Trust (CRT) and the Charitable Lead Trust. For the CRT, funding begins with cash or other assets, like stocks. The trust pays an income stream to family members or beneficiaries while they are living or for a set period of time. When they die, or when the time period ends, the remaining assets in the trust go directly to the charity.

For a Charitable Lead Trust (CLT), payments first go to the charity and then the remainder transfers to the beneficiary at the end of the trust term. One of the benefits of the CLT is to reduce the beneficiary’s tax liability, while giving the estate a charitable deduction.

An estate planning attorney will help refine these choices to the ones best suited for each individual. The CLT and CRT let you support a cause you believe in, while alleviating the tax burden to loved ones.

Charitable trusts are also useful when wishing to sell an asset. If an asset with a large capital gain is to be sold, like real estate, individual stock or a business, the asset may be moved into the charitable trust. The trust becomes the owner of the asset, and then the asset can be sold, avoiding the capital gain. Speak with your estate planning attorney to ensure that this is done correctly.

What about the disadvantages? There are fees to establish and maintain a trust. Charitable trusts are usually irrevocable, so if your financial situation changes, you may not be able to gain access to the funds. There may also be some pushback from heirs or family members who would rather see your money being given directly to them and not a charity.

Make sure that the benefits you and your heirs seek to gain from establishing a charitable trust, whichever type you use, outweigh the management costs. Do not create a trust with money you may need in the future. Charitable trusts are feasible only if you have already paid off all debts and are confident you will not need any of the assets in the future.

The exact amount to put in the trust should be carefully considered, with an eye to future expenses and your overall financial status. Your estate planning attorney may wish to meet with you and senior officers from the charity to ensure a clear understanding of your wishes and make sure that this is the best solution for all.

Reference: U.S. News & World Report (Feb. 23, 2022) “Should you Set Up A Charitable Trust?”

How Does a Charitable Trust Help with Estate Planning?

Simply put, a charitable trust holds assets and distributes assets to charitable organizations. The person who creates the trust, the grantor, decides how the trust will manage and invest assets, as well as how and when donations are made, as described in the article “How a Charitable Trust Works” from yahoo! finance. An experienced estate planning attorney can help you create a charitable trust to achieve your estate planning goals and create tax-savings opportunities.

Any trust is a legal entity, legally separate from you, even if you are the grantor and a trustee. The trust owns its assets, pays taxes and requires management. The charitable trust is created with the specific goal of charitable giving, during and after your lifetime. Many people use charitable trusts to create ongoing gifts, since this type of trust grows and continues to make donations over extended periods of time.

Sometimes charitable trusts are used to manage real estate or other types of property. Let’s say you have a home you’d like to see used as a community resource after you die. A charitable trust would be set up and the home placed in it. Upon your death, the home would transfer to the charitable organization you’ve named in the trust. The terms of the trust will direct how the home is to be used. Bear in mind while this is possible, most charities prefer to receive cash or stock assets, rather than real estate.

The IRS defines a charitable trust as a non-exempt trust, where all of the unexpired interests are dedicated to one or more charitable purposes, and for which a charitable contribution deduction is allowed under a specific section of the Internal Revenue Code. The charitable trust is treated like a private foundation, unless it meets the requirements for one of the exclusions making it a public charity.

There are two main kinds of charitable trusts. One is a Charitable Remainder Trust, used mostly to make distributions to the grantor or other beneficiaries. After distributions are made, any remaining funds are donated to charity. The CRT may distribute its principal, income, or both. You could also set up a CRT to invest and manage money and distribute only earnings from the investments. A CRT can also be set up to distribute all holdings over time, eventually emptying all accounts. The CRT is typically used to distribute proceeds of investments to named beneficiaries, then distribute its principal to charity after a certain number of years.

The Charitable Lead Trust (CLT) distributes assets to charity for a defined amount of time, and at the end of the term, any remaining assets are distributed to beneficiaries. The grantor may be included as one of the trust’s beneficiaries, known as a “Reversionary Trust.”

All Charitable Trusts are irrevocable, so assets may not be taken back by the grantor. To qualify, the trust may only donate to charities recognized by the IRS.

An estate planning attorney will know how to structure the charitable trust to maximize its tax-savings potential. Depending upon how it is structured, a CT can also impact capital gains taxes.

Reference: yahoo! finance (Dec. 16, 2021) “How a Charitable Trust Works”

Does a Trust Protect You From a Lawsuit?
A gavel and a name plate with the engraving Lawsuit

Does a Trust Protect You From a Lawsuit?

If you have a trust, plan to create one or are the beneficiary of one, you’ll want to understand whether or not a trust can be sued. It’s not a simple yes/no, according to a recent article titled “Estate Planning: Can You Sue a Trust?” from Yahoo! Finance. For instance, a trust generally cannot be sued, but a trustee can.

Understanding when a lawsuit can be brought against a trust should be considered when creating an estate plan, a good reason to work with an experienced estate planning attorney.

A trust is a legal entity used to hold and manage assets on behalf of one or more beneficiaries. A trustee can be a person or business entity responsible for managing the trust and the assets it holds. Trusts can be revocable, meaning the person who created them (the grantor) can make changes, or irrevocable, meaning transfer of assets is permanent (for the most part).

Trusts are used to manage assets while the grantor is living and after they have died. There are many different types of trusts, from a Special Needs Trust (SNT) used to manage assets for a disabled person, or a CRT (Charitable Remainder Trust) used for charitable giving.

A trust cannot always protect the grantor or beneficiaries from litigation. If a person has debt and creditors want to be paid, they can sue a revocable trust, as you have not given up much in the way of control using this type of trust—you still directly own the assets in the trust!

Irrevocable trusts provide more protection. Once assets are in the trust, the grantor has given up control of the assets. However, if the trust was created mainly to protect assets from creditors, a court could determine the trust was created fraudulently, and rule against the grantor, leaving all of the assets in the trust vulnerable to creditor lawsuits.

Can you sue a trust directly? Generally, no, but you can sue the trustee of a trust. You can also sue beneficiaries of a trust.

Here’s an example. If you transfer a car into a revocable living trust and cause an accident leading to the death or serious injury of another driver, the driver or their family could sue the trust for damages indirectly, by suing you as the trustee.

Trustees are bound as fiduciaries to manage the trust assets as directed by the grantor and for the best interest of the beneficiaries. The trustee can be sued if someone, typically a beneficiary, believes the trustee is not carrying out their duties. A beneficiary might sue a trustee, if they were supposed to receive a certain amount of money at a specific time, but the trustee has not distributed the funds. This is known as a “breach of fiduciary duty.”

Trustees are also prevented from self-dealing or using trust assets for their own benefit. If a beneficiary believes a trustee is taking money from the trust for their own benefit, they can sue the trustee.

A trust can also be “contested,” which is different from suing. Contesting a trust occurs when someone believes the grantor was coerced or subjected to undue influence in creating the trust. It also happens if someone believes the trust or amendments to the trust were the result of elder financial abuse, or if it appears trust documents have been forged or fraudulently altered.

Before a trust can be contested, there needs to be a valid suspicion the trust is somehow in violation of your state’s estate planning laws. You also have to have legal standing to bring a claim. The court may or may not side with you, so there are no guarantees.

Reference: Yahoo! Finance (Nov. 17, 2021) “Estate Planning: Can You Sue a Trust?”

Stretch Out IRA Distributions, Even Without ‘Stretch’ IRA

It’s sad but true: the SECURE Act took away the long lifetime stretch that so many IRA heirs enjoyed. It was a great efficiency tool for family wealth transfer, but there are ways to fill the gap. A recent article “3 Strategies That Dry Your Stretch IRA Tears” from InsuranceNewsNet.com explains what to do now that IRAs need to be cashed out within ten years of the original owner’s death.

There are a number of tax-efficient planning opportunities, falling into three basic categories: wealth replacement with life insurance, Roth planning and charitable opportunities.

The life insurance policy is straightforward: parents buy life insurance to close the gap between what the IRA could have been, if it had been stretched out over the heir’s lifetime. For parents who are in a lower tax bracket than their children, it might make sense for parents to take distributions out of their IRA and buy insurance with after-tax dollars. This method may also present an opportunity for parents to purchase life insurance with long-term care protection, if they have not already done so.

The “Slow Roth” strategy is for families who might not think they can benefit from a Roth, but they can—just not all at once. By converting an IRA to a Roth IRA over time, only in amounts that keep parents in the same tax bracket, and paying taxes on the conversion slowly and over time, the Roth IRA can be built up so when it is inherited, even though it has to be taken out within ten years after your death, it is income tax free.

The third strategy is for families already planning on making charitable gifts. A Qualified Charitable Distribution, or QDC, lets the owner make distributions directly from their IRA to qualified charities, up to $100,000 annually. Remember that the distribution must go directly to the charity and it cannot be used for a donation to a donor-advised fund or private foundation. Your estate planning attorney will be able to help determine if your charity of choice qualifies.

Finally, you can name a Charitable Remainder Trust as an IRA Beneficiary. This is not a do-it-yourself project and mistakes can be costly. By naming a CRT as a beneficiary of your IRA, you avoid taxes on the entire lump sum when the trust liquidates the IRA. At the same time, the income beneficiary of the trust can receive income from the CRT over their lifetime or a term that you determine. It can’t be more than twenty years from the date of death, but twenty years is a long time. The payments from the trust will be treated as taxable income, so be sure that this will work for the recipient. If you accidentally push them into a higher tax bracket, they may not be quite as grateful as you wanted.

Reference: InsuranceNewsNet.com (Oct. 28, 2020) “3 Strategies That Dry Your Stretch IRA Tears”