Business Matters: Why a charitable remainder trust might be a good idea for you.
ATTORNEY STEPHEN J. LACEY, GUEST COLUMNIST
As you might recall, last month I dedicated my article to the impact of the SECURE Act when doing estate planning with retirement accounts or IRAs. In the article, I concluded that we may be able to mimic the stretch IRA benefits by utilizing a charitable remainder trust (CRT). This article will explore this valuable tool further.
What is a CRT? A CRT is an irrevocable trust that during the life of the trust, the grantor will choose an income rate and receive this percentage from the trust. The income rate is received as a percentage of the trust assets each year. The income from the trust is taxable once received. A primary stipulation of a CRT is 10% of the fair market value of the original contribution (amount placed in the trust) is designated solely to a charity of the grantor’s choosing.
How does this mimic the stretch IRA? As you recall, the stretch IRA was a technique we utilized in which a retirement plan would be paid to a “designated beneficiary” upon the death of the account-owner. The designated beneficiary could hold the retirement plan for their lifetime, and assets in the retirement plan could grow tax-deferred during the beneficiary’s life. One of the constraints of the SECURE Act is the retirement plan would need to be liquidated within 10 years, consequently destroying the plans ability to grow tax free over the lifetime of the beneficiary. A CRT is an exempt entity for income tax purposes. Therefore, by naming a CRT as the beneficiary of your retirement account, there is no immediate income tax due even if the account is liquidated. As a result, the entire amount can be invested to produce income for the benefit of the income beneficiary of the trust.
How does this benefit you? Let’s look at an illustration. A parent has a retirement account worth $1,000,000. If left to, let’s say a 55-year-old daughter, outside of a CRT, the account must be liquidated within 10 years.
After taxes, let’s assume the net retirement account is therefore worth approximately $650,000. However, this parent wisely planned that upon their death the retirement account is distributed to a CRT. Their daughter assumes an 8% income rate and a 5% growth rate. The daughter would receive $80,000 per year (which would fluctuate with the value of the principal) for her lifetime. When the daughter passes away, the remaining trust amount would pass to a charity of the parent’s choice. Assuming the daughter lives to be 75 years old and the amount of income remains the same, the daughter would have received $1.6 million over her lifetime rather than trying to generate the same revenue using the net amount of $650,000 under the SECURE Act rules. By utilizing a CRT, the daughter receives an additional $950,000 over her lifetime; for the majority of us, a seriously significant amount.
Additionally, a CRT, as an irrevocable trust, maintains asset protection for the beneficiary from their creditors, divorce and sometimes, themselves. While there are certain drawbacks to a CRT such as the filing of tax returns by the trust, picking a trustee, etc., the financial benefit to your beneficiaries may be far greater than being subject to the rules of the SECURE Act.
Stephen J. Lacey, J.D., LL.M-Tax, partner, is with the law firm of Lacey Lyons Rezanka, PLLC.