Charitable Estate Planning

Using Charitable Trusts, Donor Advised Plans and Family Foundations for tax advantaged wealth transfer

For many individuals and families with substantial wealth, estate planning conversations focus on maximizing after tax value passed on to the heirs of the estate. Others are driven by a passion to benefit not just their heirs, but also charitable causes, enabling their wealth to leave a lasting legacy and affect change and progress well after they are gone. For estates with charitable objectives, several different vehicles are available to facilitate the tax efficient transfer of wealth.

To learn more about how charitable trusts, donor advised plans and family foundations can be used for tax advantaged charitable wealth transfer, we spoke with Wonsun Willey, tax partner at Sensiba San Filippo LLP. Willey helps Bay Area individuals and families maximize the impact their estates have on the people and causes that matter most to them. As a tax advisor, Willey utilizes a variety of charitable structures to help her clients make wealth transfer as tax efficient as possible, helping to ensure the ongoing impact of their legacies.

What is charitable estate planning?
Charitable estate planning utilizes various tax advantaged vehicles for those with substantial estates who are charitably minded. Charitable planning vehicles can be used for a number of reasons, but are most commonly used to  transfer value to charity with reducing taxable estate values and remove future gains from estates. Donations can also generate current year charitable tax deductions (i.e. income tax savings), creating a double tax benefit.

When does charitable estate planning make sense?
Charitable estate planning is most beneficial to estates with significant value. With the personal estate tax exemption currently at $5.43 million ($10.86 million for couples), the maximum benefits of charitable estate planning are only realized when the estate amount exceeds the available exemption. Charitable estate planning is most useful with estate values of $20 million or greater.
In addition to providing the greatest benefits to high value estates, charitable estate planning structures are useful to those who desire to donate a significant amount of their wealth to charity. When tax efficient transfer of wealth to heirs is the only priority, charitable estate planning is probably not the best solution.

What alternative structures are available for charitable estate planning?
Charitable estate planning structures fall into two primary categories: those that are purely charitable in nature and those that serve a dual purpose of private wealth transfer and charitable wealth transfer. For purely charitable endeavors, private foundations and donor advised plans can provide tax efficient vehicles for directed charitable contribution. Charitable remainder trusts and charitable lead trusts on the other hand provide alternative methods of tax advantaged planning where both the charity and the estate beneficiaries can benefit.

How do donor advised plans and private foundations work? How do they differ?
Donor advised plans and private foundations are almost purely charitable vehicles for estate planning. They allow assets to leave an estate without reducing the lifetime gift and estate tax exemption, ensure that unrealized prior gains are not taxable and create a tax deduction in the year the donation is given.
Current year charitable deductions are limited to 20/30 percent of the current year’s adjusted gross income for appreciated assets and 50 percent of adjusted gross income for cash. Other limitations to current year deductions may also apply for those in high income brackets.

When are donor advised funds most appropriate?
Donor advised funds are great for those who want to give while providing continued direction over the allocation of funds, but don’t necessarily want to be hands on with the management of the funds or a foundation moving forward. Many community foundations provide donor advised fund options where the foundation can make charitable grants at the direction of the donor. Donor advised funds are not required to distribute any specific amount of the fund annually.

How do private foundations differ from donor advised funds?
Private foundations provide the ability for greater involvement and control in the administration of the fund and charitable distributions. For many families, private foundations also provide a method of creating a family legacy, as family members can be involved in the management of the foundation on an ongoing basis. Family members frequently serve as officers of private foundations, and can even draw a reasonable salary for their work. Still, private foundations are not intended to be a method of family wealth transfer and there are significant limitations on salaries and hefty penalties for inside dealing. Unlike donor advised funds, private foundations require annual federal and state tax filings. They are also required to distribute at least 5 percent of the fund value to charity annually.

What structures can facilitate charitable giving and wealth transfer to heirs?
Unlike donor advised funds and private foundations, charitable remainder trusts and charitable lead trusts can serve a dual purpose. These estate planning structures allow for tax efficient transfer of wealth with both charitable and generational wealth transfer elements.

How do charitable remainder trusts work and when are they useful?
With charitable remainder trusts, ownership of assets is transferred to the trust and income from the trust is provided to designated individuals over a predetermined term. Like the structures discussed above, once the assets have been gifted, they are out of the estate and do not reduce the lifetime gift and estate tax limitations and there is no reduction for built-in gains when computing charitable deductions for transfers of long-term capital gain property.
At the end of predetermined life of a charitable remainder trust, remaining assets are distributed to charities. For the donor, charitable remainder trust contributions generate charitable tax deductions equal to the amount of the net present value of the future value donated to charity. While the trust is a tax exempt entity, income distributions are taxable. Charitable remainder trusts can be very beneficial when highly appreciated property is contributed in a year with greater than average income.

How are charitable lead trusts different? How are these utilized?
Charitable lead trusts help to eliminate estate tax much like charitable remainder trusts, but function much differently. In the case of charitable lead trusts, fixed amounts are donated to charity from the trust for a predetermined term, while the remainder is later distributed to non-charitable beneficiaries. Charitable lead trusts are ideally suited for assets with rapidly growing value.
Unlike charitable remainder trusts, charitable lead trusts are not tax exempt entities, and the grantor must report all income from the trust in order to qualify for a charitable tax deduction. The allowable charitable tax deduction is equal to the net present value of the income stream donated to charity. Charitable lead trusts can be extremely beneficial for high net worth individuals, allowing them to transfer highly valued assets out of their estate, avoid estate tax and generate a charitable tax deduction in the year of the asset transfer.

How should an individual or family go about planning for charitable wealth transfer?
The right charitable estate plan is highly dependent on both the objectives of the estate and the assets involved. When tax efficient charitable contribution is the only objective, donor advised funds and private foundations are great options. When generational wealth transfer is also a priority, charitable remainder trusts and charitable lead trusts can provide tremendous tax advantages.
For those with significant estates and strong charitable inclinations, charitable estate planning can be a very valuable tool. Designing a tax efficient structure that achieves all of the estate’s objectives requires an in-depth knowledge of the tax advantaged vehicles available, the assets in the estate and the goals and objectives of the individual or family involved. CPAs with experience in estate planning and charitable planning can provide guidance regarding structure and strategy, while experienced attorneys can help with setup and maintenance of charitable structures. If you have a significant estate, strong charitable inclinations and want to ensure that your estate provides the greatest benefit to the causes that matter most to you, you should talk with a qualified estate planner about all of your available planning options.

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