College Fund Charitable Remainder Trusts
©2000 through 2009 by Lorin Castleman, Esq.
The Castleman Law
Firm
A Professional Corporation
5870 Stoneridge Mall Road, Suite
207
Pleasanton, CA 94588
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463-0328
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An excellent, but little known, estate
planning tool is a short term (no longer than 20 years) Charitable Remainder
Trust (CRT) that is used to pay for a child's or a grandchild's college
education.
These are the
Disadvantages
These are the Benefits
© 2000 through
2009 by Lorin Castleman, Attorney-at-Law. All rights
reserved.
Here Are Two Examples of How a CRT for
College Expenses Works
Example One: Trust Established in Year Child Begins
College
Parent establishes a charitable remainder annuity trust in the
beginning of the year when Jill will go to Uphill College. Parent contributes
$200,000 of appreciated stock, which is paying no dividends, to the trust. The
stock has a basis of $75,000. When the trust sells the stock, and converts it
into a balanced portfolio, the trust pays no income tax on the
gain.
Although the trust could last for any number of years from one to
twenty, parent chooses a four-year term to coincide with a typical four-year
college program.
Each
year, Jill will receive a $30,000 payment from the
trust (assuming a 15% annuity trust pay out). When the trust ends, the
college or a charity chosen by parent will receive approximately $113,000
(assuming that the trust has an annual return of 6%). When parent creates the
trust, parent gets a charitable income tax deduction of around $84,000. Also,
the income tax paid by Jill on the money she receives will be much less than
the tax that would have been paid by parent. If parent wants to put some
incentives in the trust to encourage Jill to get good grades, attend full
time, and stay off of drugs, parent can include a provision that her income
interest will terminate early if she fails to meet the standards set out in
the trust.
Because parent gives up ownership of the assets that are
contributed to the trust, the trust assets are not part of her estate. Thus,
her estate taxes are reduced.
In this example, $13,000 of the annual
payments from the trust to Jill will qualify for the annual gift tax
exclusion, so the gift tax cost is reduced. If the trust is established by
husband and wife, $26,000 of the annual payments will qualify for the annual
gift exclusion. It is important to note that the gift tax exclusion only works
when the payments to the child begin the same year the trust is
created.
The
example just given is an example of a short-term charitable remainder annuity
trust, because the amount paid to Jill each year is a fixed amount. Parent
could have created a trust that would have paid out up to $46,600 each year to
Jill, but the charitable income tax deduction would have to be lowered to
$20,000, and the charity would receive only $20,000. The trick is to find the
right combination of the annual payment to the child and the amount of the
income tax deduction.
Example Two: Trust
Established Several Years Before Child Begins College
Parent
establishes a charitable remainder unitrust when Jack is eleven years old.
Because parent anticipates that Jack will start college when he is 18 years
old, and will graduate when he is 23, parent sets the trust term for 14 years,
so that he will receive an extra payment after he graduates. The payments to
Jack will be delayed until he begins college.
Parent contributes
$200,000 of appreciated stock, which is paying no dividends, to the trust. The
stock has a basis of $25,000. When the trust sells the stock, and converts it
into a balanced portfolio, the trust pays no income tax on the gain. During
the first seven years of the trust, it invests solely in growth stock that
pays no dividends. In the eighth year, the trustee sells the growth stock, and
invests in a balanced portfolio.
The trust is designed so that it will
pay little or nothing to Jack during the first seven years. Beginning in the
eighth year, and continuing until the trust terminates, he will receive an
amount equal to 15% of the value of the trust assets, determined annually. In
this example, those payments will total about $219,000. (The payments for each
year, beginning with the first year they start, would be about: $45,000;
$39,000; $34,500; $30,000; $26,500; $23,000; and $20,000. (They decrease each
year, because the value of the trust is decreasing, since some of the
principal is being used to make the payments to Jack.)
When the trust
ends, the college or charity chosen by parent will receive about $118,500
(assuming that the trust has an average annual return of 6% until distribution
starts, and 3% after distribution begins). When parent creates the trust,
parent gets a charitable income tax deduction of about $20,500. As is the case
with Jill, the income tax paid by Jack on the money he receives will be much
less than the tax that would have been paid by parent. Parent can put the same
incentives in the trust as parent did for Jill.
Parent gets the same
estate tax benefit as in Jill's case, but the annual gift tax exclusion is not
available, because Jack does not start receiving immediate
payments.
The example just given is an example of a short-term
charitable remainder unitrust. Notice that there will be a significant
difference in the amount of the charitable income tax deduction, depending on
the type of trust used and the size of the distribution to the
child.
Conclusion
The above
two examples are obviously hypothetical cases. Each case must be planned
carefully, and each case will be different. Short-term charitable remainder
trusts should be compared to state supported "section 529 plans." in some
cases, the use of the CRT will produce a better result for the family than a
section 529 plan. A CRT for education is an excellent way to obtain an income
tax deduction, reduce estate tax, provide for a child's education, and make a
significant contribution to society.