A charitable trust holds assets and distributes them to charities. When you establish the trust you can specify how it will manage and invest its assets, as well as how it will make donations. There are some tax benefits to setting up a charitable trust. However, unless you are particularly wealthy, these tend to be minimal compared to other forms of tax management. In general, the best reason to establish a charitable trust is if you would like to create a long-standing form of charitable giving. Here’s what you need to know.
Consider working with a financial advisor as you incorporate charitable giving into your estate plan.
What Is a Charitable Trust?
Like all trusts, a charitable trust is a legal entity that you create for the purpose of holding and managing assets. The trust is wholly separate from you. It owns any assets it holds, pays taxes and requires management just like any other legally recognized entity.
A charitable trust is set up specifically to help manage charitable giving. It distributes its proceeds and assets to charity based on your instructions, and can do so both during your lifetime and after your death. For this reason charitable trusts are often a significant portion of estate planning. Many individuals will use them to set up ongoing gifts, since a trust can manage these gifts into the future and can even ensure that an initial gift grows over time.
On occasion someone will use a charitable trust to manage real estate or other forms of non-fungible property. For example, say that you wanted to leave your house to the local town to use as a community center. You might set up a charitable trust to hold the house and oversee its use and caretaking even after your death. This is uncommon, however. Most charitable trusts sell off any assets they receive and make their transactions entirely in cash.
The IRS provides a more formal definition. A charitable trust described in Internal Revenue Code section 4947(a)(1) is a trust that is not tax exempt, all of the unexpired interests of which are devoted to one or more charitable purposes, and for which a charitable contribution deduction was allowed under a specific section of the Internal Revenue Code. A charitable trust is treated as a private foundation unless it meets the requirements for one of the exclusions that classifies it as a public charity.
In a nutshell, a charitable trust holds and manages assets for distribution to charity.
Charitable Lead Trust vs. Charitable Remainder Trust
There are two main types of charitable trusts:
- Charitable Remainder Trust
A charitable remainder trust primarily exists to make distributions to you or other beneficiaries that you name. It makes those distributions, then it gives any remaining funds to charity.
Like all trusts, a charitable remainder trust can distribute its principal, its income or both. For example, you might set up a trust which invests and manages its money, and then only distributes any earnings from those investments. Or you might set up a trust which distributes all of its holdings over time, eventually zeroing out its accounts.
It is common for a charitable remainder trust to distribute the proceeds of its investments to named beneficiaries, then to distribute its principal to a charity after a period of years.
- Charitable Lead Trust
This is the mirror opposite of a charitable remainder trust. This trust first distributes a portion of its assets to charity. It makes this distribution for a defined amount of time. At the end of the trust’s term it distributes any remaining assets to beneficiaries that you name. If you include yourself as one of the trust’s beneficiaries it is called a “reversionary trust.”
Like a charitable remainder trust, you specify which charities receive these funds and how they are to be distributed.
Both forms of charitable trust are irrevocable, meaning that you cannot take back any assets that you contribute to the trust. However, you also receive a tax deduction for the assets that either one donates to charity. To qualify for this tax deduction your trust must donate its assets to a legally qualified charity (meaning one that is recognized by the IRS).
When you establish a charitable trust you can also specify who will manage and run the entity.
Tax and Estate Planning
Charitable trusts have several benefits, but two in particular stand out: tax management and estate planning.
- Tax Management
When you place your assets into a charitable trust you can receive several tax benefits depending on your specific circumstances. You receive a tax deduction for the value of the trust’s charitable contributions. A charitable trust can also significantly impact your capital gains taxes, although this depends significantly on how you structure the trust and your own potential tax liabilities. If you establish the trust and name yourself a beneficiary, it is relatively uncommon for this to significantly reduce your own tax liability.
- Estate Planning
A charitable trust is very useful for estate planning and long-term financial distributions. With a trust, you can create a running series of gifts and instructions. This is different from a will, which typically involves a one-time series of bequests. In addition, leaving assets through a trust can often help avoid estate taxes, although this is a concern only for households worth more than $11.7 million.
The Bottom Line
A charitable trust is a trust which you establish to distribute assets to a charity. A charitable remainder trust distributes assets to named beneficiaries first, then distributes any remaining assets to charity. A charitable lead trust distributes money to charity, then distributes any remaining assets to named beneficiaries.
Tips on Estate Planning
- Trusts can be one of the most versatile forms of long-term financial planning, and they come in a wide variety of types. Perhaps the most basic division among trusts is the split between simple and complex.
- Can a trust help you reduce your taxes? Can it help you structure your charitable giving? What is the right way to achieve your own goals over the long run? A financial advisor can provide valuable answers to these questions. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three financial advisors in your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
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