Back to: INHERITANCE, ESTATES, & TRUSTS
Charitable Remainder Annuity Trust Definition
A Charitable Remainder Annuity Trust (CRAT) is a form of a gift transaction in which a contributor (which is the taxpayer) donates assets or financial securities to a charitable organization which pays annuity designed to forfeit a huge part of the donated fund to charity in the case of a termination of the annuity. Charitable Remainder Annuity Trust (CRAT) serves as a way for donors to enjoy favorable tax treatments, since the tax billed on charitable trusts is way lesser than income taxes and capital gain taxes.
A Little More on What is a Charitable Remainder Annuity Trust
CRAT is very similar to other forms of charitable annuities. The only difference is that the remainder trust can be structured as a separate trust fund. Simply put, it implies that the charity is unable to incur debts, expenses, and liabilities as a result of the annuity since the funds are kept in a separate legal structure.
CRATs: The Nuts and Bolts
According to Accounting Today, “Charitable remainder annuity trusts have become a popular planned giving and estate planning vehicle.” “It involves a donor putting a large amount of money, or a piece of property into a trust, which then makes a payment of any designated amount to the donor or any beneficiary that is named by the donor. At the supposed passage of the donor, the remainder trust is contributed to the charity that is selected by the donor at the establishment of the trust. The donor usually appoints a third party who acts as a trustee to administer the CRAT. This party can either be an attorney, a bank or any financial institution, an accountant, a financial advisor.”
In order to open a CRAT, one must have an irrevocably transfer securities, cash, assets, or any other financial property to a trust. Income tax is charged on the earnings of the first year in which the trust is opened, and the donor is required to pay such taxes. However, there are no capital gain taxes on profits made during the first year of opening the trust. Through out the period of the trust, the donor or any named beneficiary is paid a sum of money per annum, as specified in the contract offered at the establishment of such a trust. In the case of passage of the donor, what remains of the trust is to be transferred to any charity named by the donor before he or she passed away. In some cases, the remainder of the trust can be passed down to a university, or a religious gathering. However, for a charitable remainder annuity trust to be valid, whatever remains of the trust after the donor is deceased must be passed down to a non-profit institution or organization.
Charitable Remainder Annuity Trusts are usually tagged to the lifetime of the donor, while in some cases, it can be expanded to cover up to two or three lives. The latter options are however rare, and thus, it is better to explain them as valid only during the lifetime of the donor. An annuity trust can have a maximum running duration of 20 years, or a maximum of two lives. In some cases, both conditions can be combined which will result in a hybrid solution of a number of years and lives.
A problem that donors face with CRATs is the complexity of income taxes. This complexity is, however, relative and isn’t encountered every time. All portions of the income from the trust, or some parts of it can be taxed at ordinary income rates, or possibly at lower capital gains rates. It isn’t uncommon to see income from trusts being exempted from taxes overall. For this reason, it is very crucial that donors employ the help of a financial advisor or an accountant before opening a charitable remainder annuity trust (CRAT).