As the holiday season approaches, so does the desire to give gifts to those around us. These gifts are not just for people we know. Americans are some of the most charitable people on the planet, and that trend even grew over the last two years as people came together to fight both existing challenges and new challenges created by the pandemic. According to Giving USA, Americans donated a record-breaking $471 billion dollars in 2020. In 2021, Americans broke that record yet again by giving $484.85 billion.

Is travel a part of your retirement plan?

Doubling the standard deduction did not crimp the tax incentives as much as some feared it might. Perhaps some have shifted their strategy, giving more every other year, and itemizing only in those years. The larger disincentive is likely to be the uncertainty inflation brought this year, and the volatile financial market conditions that followed. It has usually been the case that making substantial gifts involves uncertainty regarding how a family’s wealth will be affected in the long term.

This is where a charitable trust may help mitigate some of that uncertainty. For greatly appreciated assets, a charitable trust may generate superior tax advantages compared to a gift of cash. Consider the fictional example of Alice approaching retirement:

Alice is a widow who is aging alone, about to retire at age 65. Among her possessions, she owns stock, which she acquired for $50,000 thirty years ago. It grew in value to $5 million dollars, and Alice would like to use that money for retirement. She doesn’t think she’ll need the full amount for retirement and is fairly confident some could be left to her preferred charity.

The conventional route – without a charitable trust:

Alice could sell the stock, pay a capital gains tax on the appreciation, and have approximately $3.5 million left to fund her retirement. She lives for another 20 years, with her fund returning an approximate 5% each year. She only spends the income of her fund ($175 thousand each year), so she ends up bequeathing the charity $3.5 million after 20 years even though she’s spent $3.5 million over those 20 years.

Adding in the benefits and risk of a Charitable Remainder Annuity Trust (CRAT).

Alice funds a Charitable Remainder Annuity Trust (CRAT) with the stock and relinquishes any rights to the stock in the future. The trust sells the stock, but, because it is a charitable trust, it avoids all capital gains tax and is funded with $5 million instead of $3.5 million. Alice sets up the trust with herself as the beneficiary because she is aging alone, and receives a fixed amount of $250,000 each year for 20 years (because there was no tax on the sale of the stock). At the end of the 20 years, Alice has received $5 million from the trust and the $5 million remainder flows to the charity.

In this scenario, there is enhancement of the gains both for Alice and the designated charity. In fact, if Alice only spends $175K per year, and leaves the extra earnings to the charity, she’ll have almost doubled her gift from $3.5 million to $6.5 million. However, there is additional risk to consider. Having given up the right to the stock, Alice doesn’t have a safety net of additional funds to draw on if an extraordinary need arises.

There is also an enhancement in the form of a tax deduction for charitable gifts. Generally, the income tax-deductible value of a charitable remainder interest ranges from 20% to 50% of the value of the assets placed in trust. Deductions (as opposed to tax credits) have the greatest benefit when you are in the highest tax bracket, so if Alice has highly appreciated assets in a retirement account that would be taxed as ordinary income, this large charitable gift could reduce the tax burden on those distributions if timed properly.

Are all charitable trusts the same?

There are a few differences to consider when looking at charitable trusts. Charitable Remainder Trusts are either Charitable Remainder Unitrusts (CRUTs) or Charitable Remainder Annuity Trusts (CRATs) as described above. The primary difference is that the unitrust payments are a fixed percentage of trust assets determined each year instead of a fixed dollar amount.  If the unitrust grows in value by more than enough to fund the income, the future income payments go up. This can help protect the income against inflation, but also runs the risk of reduced income payments in times of economic difficulty.

If there is no need for the income, but instead a wish to preserve an inheritance or to witness the good that comes from donations, the same strategy can be reversed. This is known as a charitable lead annuity trust, which provides the annuity payments to the charity and the remainder flows to the beneficiary.

Speaking to a trust officer.

If you or a loved one are considering significant philanthropic efforts, consider speaking with an Arvest Trust Officer. It is gratifying to help our customers with any of their trust needs, whether creating a legacy for heirs, keeping the family business in the family, or ensuring continued care in the case of incapacity. However, it is especially gratifying to help facilitate our client’s philanthropic goals so Americans can keep breaking that charitable giving record every year. We would be pleased to help ensure your gift giving strategy makes sense in both the long term, and the short-term.

This content has been prepared by The Merrill Anderson Company and is intended as a general guideline.

© 2022 M.A. Co. All rights reserved.

Arvest Wealth Management does not offer tax or legal advice – consult a professional.