How to skin a CRAT (and other remainder trusts)

I’ll admit that I struggled with the title — surely there’s a better pun to be used here, but it eludes me.

In all seriousness though, a Charitable Remainder Trust (CRT) can be a powerful financial planning tool, especially when certain tax and estate scenarios are at play.  If you’ve never heard of a CRT, here are the basics. 

• A CRT is an irrevocable trust that you fund with cash, property, or existing investments (like highly appreciated stocks)
• Funding the CRT provides an immediate tax benefit
• The CRT will provide the donor with an income stream for a fixed number of years or until death
• Once you die or at the expiration of the fixed period, the CRT gives what’s left in the trust to charity

First off, the tax benefit is calculated using a formula devised by the IRS that captures the fact that, while you’re donating something to charity, you’re going to get income out of it as well.  Things change if you designate the income stream as a gift (i.e., you as the donor don’t receive the income).

And you’ve probably noticed at this point that I’ve referenced a CRT and not a CRAT (the clever part in the title of this post).  A CRAT is a specific type of CRT that is a charitable remainder annuity trust, and — as you’ve probably surmised — the income stream is annuitized into period fixed amount payments.  There’s also a CRT known as a CRUT (a charitable remainder unitrust) that specifies the income stream as a percentage of the value of the trust.  There also things like a NIMCRUT (a net income with makeup provision charitable unitrust) and a Flip CRUT… the bottom line is that the charitable remainder trust and the variants that can be created through the trust documents can be used to:

• Transmuting highly appreciated, low-basis stocks into a tax-favored income stream
• Assist in better managing the tax impact and longer-term financial planning of a buyout or high taxable income
• Manage legacy and inheritance strategies by combining a CRT with an irrevocable life insurance trust

The important thing to remember, however, is that the trust is going to distribute the remaining value to charity — so a charitable intent is important.  While you can typically specify the uses of your gift (often your latitude is dependent upon the size of the trust), it’s still going to pass to the charity.

CRTs aren’t for everyone, even if you have a charitable intent.  To use a military analogy, CRTs are precision weapons that produce a very specific effect — so you wouldn’t just use them on random targets and hope for the best.  However, the trusts are powerful tools that can address very specific challenges with appreciated assets, high tax scenarios, liquidity events, non-income producing assets, and income management prior to and during retirement.  Additionally, the tax deduction from funding a CRT can be used to offset the taxes from converting a Traditional IRA to a Roth IRA.  Or, a CRT can be paired with a Donor Advised Fund (DAF) to allow the DAF to be the named charitable beneficiary of the CRT… which allows more control over the legacy/philanthropy aspects of the CRT while you’re still alive.