The non-grantor CLAT best fits those desiring to make
charitable donations and to transfer property to their heirs as part of their
estate tax planning. The value of the
charitable interest is subtracted from the fair market value of the property
contributed to the CLAT in determining the taxable gift amount for the
remainder passing to heirs. When
interest rates are low, the present value of the charitable interest is higher,
thus making the taxable gift lower. The
IRS valuation interest rate has never been lower in its history.
Unlike a charitable remainder trust, the CLAT is not exempt from income taxes. Therefore, it doesn’t make sense to contribute appreciated property to a CLAT, and then have the CLAT sell the property. The non-grantor CLAT is taxable on income and gains earned, but it also receives a charitable tax deduction for the amount paid to charity. Unlike an individual, the charitable deduction for a trust is not limited to a percentage of adjusted gross income (AGI). The payment to charity must be from “gross income” and be authorized in the trust agreement. Income earned above the lead amount can be contributed to charity and also receive a deduction, but only if the excess contribution is permitted by the trust agreement.
The IRS §7520 valuation rate is 1.2% for October 2012. The rate is adjusted monthly. The donor may select the lowest interest rate
for the period of the month the CLAT is established or the prior two
months. Since the interest rate was 1.0%
in September 2012, that rate can be selected for CLATs established in October
or November 2012. If the property
donated to the CLAT earns more than 1.0% a year over the life of the CLAT, there
will be significant estate and gift tax benefits.
Example
David pays tithing to his church and is interested in estate
tax planning. He owns $1,000,000 of
investments that produce a total return of 6% annually. Assume that yield and capital gains are
recognized only in sufficient amounts to pay 5% annually to charity (zero
taxable income) with the balance of the total return constituting unrecognized
appreciation. David would like to give
the investments to his heirs as part of his estate tax planning, but not for 20
years during which time his heirs will have had the opportunity to work and
gain maturity. If David establishes a
20-year, non-grantor CLAT in October 2012 with the investments, and the CLAT makes
a $50,000 annual payment to his church, then the following results would occur:
·
At the end of 20 years the balance in the trust
would grow to $1,367,856 and be transferred to his heirs for a gift tax value
of only $97,720 today. The gift value would
be offset by any unused portion of David’s lifetime gift tax exemption.
· The trust charitable deduction would offset the
trust earnings and gains resulting in no income tax to the trust. Because the trust is making the charitable
donations, David cannot take the deduction on his personal tax return. But in turn, he does not include the
investment income and gains on his return either, thereby lowering his AGI. A lower AGI often results in keeping more tax
benefits that are phased-out based upon AGI levels.
·
The amount of the $50,000 charitable deduction would
not be at risk of reduction (like it would be if made by David instead of the
CLAT) if the Bush tax cuts sunset in 2013, and if certain proposed tax reforms
of either presidential candidate are enacted.
