Variable Annuity versus Charitable Remainder Trust

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windfall900
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Variable Annuity versus Charitable Remainder Trust

Post by windfall900 »

As I discussed in an earlier thread, I have a very large taxable portfolio and charitable inclinations. One idea pitched in that thread was setting up a variable annuity to hold certain high risk / high growth assets that I'd like to include in my portfolio. Lately, however, I've been learning about Charitable Remainder Trusts and they seem like a better option in most respects:

1) I get an up-front income tax deduction
2) The annual expenses are lower
3) Growth is preserved as capital gains; it isn't converted to ordinary income upon disbursement

Perhaps a downside is that the trust starts paying out immediately even though I do not need access to the funds for awhile, which means there's less principal to grow tax-free. Other than that, what am I missing?
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

A couple of points regarding CRTs which may or may not help you form a decison.

When investing in a CRT, you must follow "prudent investor" rules. I am not sure of the specific investments that you are considering for this vehicle, but they may not be suitable for a CRT.

If you are self-trusteeing the trust and doing the investments yourself, the trust still has to file an informational tax return with the IRS each year. Unless you are an accountant, I doubt you have the expertise to do this. Depending upon where you live I would expect to pay $1,000-$2,500 each year for this.

Finally the taxation of distributions from a CRT is bit complex. It basically follows the "worst in, first out" concept. As a result, a CRT first distributes ordinary income, then short term capital gain, then long term capital gain, then tax exempt income, and finally return of principal. I could provide an example if you like, but the point is your distrbution may very well be taxed as ordinary income depending upon your investments.

Not trying to throw a wet blanket on the CRT idea as for a charitablly inclined person they are a wonderful means to support your favorite charities. There are just a few more details involved.
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windfall900
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Re: Variable Annuity versus Charitable Remainder Trust

Post by windfall900 »

Thanks kiana. Any thoughts on the role of age in a CRT? I'm 29 right now. Is a CRT effective/efficient at this age?
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Barry Barnitz
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Re: Variable Annuity versus Charitable Remainder Trust

Post by Barry Barnitz »

Hi Windfall:

Here is a link from the Planned Giving Design Center : Charitable Remainder Trusts | Planned Giving Design Center that will probably give you more than you ever wanted to know regarding CRT's. Note that the report is likely to be revised soon.

regards,
Additional administrative tasks: Financial Page bogleheads.org. blog; finiki the Canadian wiki; The Bogle Center for Financial Literacy site; La Guía Bogleheads® España site.
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

Windfall -

If you are 29 I would absolutely not consider it unless you were thinking about a CRT that was for a term of years which cannot exceed 20 years. Most folks who consider CRTs providing lifetime income are generally 65+. There are exceptions, but that is a more typical age. In fact, a CRT providing lifetime income for a 29 year old just barely meets IRS regulations for a qualified trust ni todays low AFR environment. Again, if you are thinking of a trust for a defined period of time not to exceed 20 years, then perhaps it makes sense, but not for a CRT providing you with lifetime income.

While it would be outside of your prortfolio, a Donor Advised Fund might meet your charitable needs as well as your desire to invest in more risky assets. Many financial institutions offer these, including Vanguard and Fidelity, as well as local community foundations. Community foundations, however, won't allow you to direct the investment mix, but the financial institutions will. Again, the assets are no longer yours so this may not meet your need to have personal assets in a higher risk profile, but it does provide an upfront charitable deduction and allows you to direct gifts to favorite charities.

Kiana
HouseStark
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Re: Variable Annuity versus Charitable Remainder Trust

Post by HouseStark »

I knew I must be missing something. I thought the beneficiary of the CRT would receive the assets (the remainder) when that donor dies, and that was later than "for awhile", but that appears to not necessarily be the case. If the assets are reverting to the donor after a short term than life, then what value is going to the beneficiary to enable the tax deduction? I realize this may be under the category of "CRTs for Dummies" and off the OP's line of questioning.
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

Housestark -

There are two benficiaries with a CRT - the income beneficiary who is the person(s) receiving income during the trust's term and the remainder benenficary who is the charity(ies) (can be mutliple charities) recieving the remaining assets in the trust after the trust term. The income tax deduction represents the present value of the anticipated remainder to charity based upon an IRS formula.

Hope that helps.

Kiana
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Christine_NM
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Re: Variable Annuity versus Charitable Remainder Trust

Post by Christine_NM »

I'm leaving everything to charity so I've done some reading on this topic.

Since a CRT is irrevocable it would be a bad idea for a 29 year old. You can never change your mind even when/if the facts change. You will want some form of trust, but not a CRT or anything else that is irrevocable.
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Re: Variable Annuity versus Charitable Remainder Trust

Post by HouseStark »

kianajunior-
You explanation agrees with my understanding of a CRT. What confuses me is the OP's statement about access to the funds in the future:
windfall900 wrote: Perhaps a downside is that the trust starts paying out immediately even though I do not need access to the funds for awhile, which means there's less principal to grow tax-free. Other than that, what am I missing?
From your explanation, other than the income during the CRT's term, there is no access to the principal of the CRT for the donor in the future at all. It ends up with the beneficiary charities.
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

Housestark -

I did not read the OP post that closely, but you are correct in that the prinicpal of the trust is not available to the donor. The income beenficiary only has access to the distributions from the trust.

It is possible for a CRT to be structured in such a way that distributions from the trust are non-existant to minimal. This is oftentimes done when the income beneficary wants to defer income until a later date when the income is desired (i.e. retirement).

Kiana
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Re: Variable Annuity versus Charitable Remainder Trust

Post by JDCPAEsq »

HouseStark wrote:From your explanation, other than the income during the CRT's term, there is no access to the principal of the CRT for the donor in the future at all. It ends up with the beneficiary charities.
Income as such is not paid to the grantor of the trust, but rather either a fixed dollar amount or a percentage of the value of the trust depending on the option chosen.
John
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windfall900
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Re: Variable Annuity versus Charitable Remainder Trust

Post by windfall900 »

kianajunior wrote:Windfall -

If you are 29 I would absolutely not consider it unless you were thinking about a CRT that was for a term of years which cannot exceed 20 years. Most folks who consider CRTs providing lifetime income are generally 65+. There are exceptions, but that is a more typical age. In fact, a CRT providing lifetime income for a 29 year old just barely meets IRS regulations for a qualified trust ni todays low AFR environment. Again, if you are thinking of a trust for a defined period of time not to exceed 20 years, then perhaps it makes sense, but not for a CRT providing you with lifetime income.

While it would be outside of your prortfolio, a Donor Advised Fund might meet your charitable needs as well as your desire to invest in more risky assets. Many financial institutions offer these, including Vanguard and Fidelity, as well as local community foundations. Community foundations, however, won't allow you to direct the investment mix, but the financial institutions will. Again, the assets are no longer yours so this may not meet your need to have personal assets in a higher risk profile, but it does provide an upfront charitable deduction and allows you to direct gifts to favorite charities.

Kiana
Thanks Kiana for the advice. I'm still a little confused and am hoping you can shed some more light on this since you seem quite knowledgeable about CRTs. Rather than talking about this vehicle in particular, let me explain my goals and then perhaps you can weigh in on whether a CRT is sensible.

I am a 29 year old who was fortunate enough recently to come into an 8-figure windfall. Once my family and my living arrangements are secure, I would like to donate this to charity during my lifetime and beyond. Although I am using a Donor Advised Fund for a portion, I would still like to grow a large amount within my own estate for the time being, until I have had more time to figure out the schedule on which I will make the donations. So my immediate goal is to create a lot more tax-advantaged space in my portfolio, with a general understanding that one day most of my money will end up with charity.

You indicate that I was likely too young to consider a CRT, but I didn't quite get the reason. Does it change your outlook to know that I would not be relying on the CRT for income? I was thinking of it more as a way to extend my Roth space, with the added bonus that it would further my charitable goals.
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

Windfall -

Are the assets which are considering contributing to the CRT real estate or securities? If real estate, is it income or non-income producing real estate? Regardless as to whether it is real estate or securities, are the assets appreciated?

Kiana
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windfall900
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Re: Variable Annuity versus Charitable Remainder Trust

Post by windfall900 »

kianajunior wrote:Windfall -

Are the assets which are considering contributing to the CRT real estate or securities? If real estate, is it income or non-income producing real estate? Regardless as to whether it is real estate or securities, are the assets appreciated?

Kiana
Just plain old unappreciated securities/cash
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

Windfall -

I'm not sure that I will be able to give you a specific recommendation to your stated goals, but let me give it some additional thought.

I asked about the assets you might be contributing to the CRT because the primary motivation to establish a CRT for charitably inclined individials is a) avoidance of capital gains tax on the sale of the property within the trust, b) procurement of lifetime income for the donor(s), and 3) investment diversification. None of those motivations really fit your objectives.

Since the assets which you are contributing are not appreciated the CRT will amost assuredly produce some income which will need to be distributed to you as I am assuming you would be the income beneficiary of the CRT. You can try to minimize the amount of the distribution but given the nature of the assets which you will be contributing, it will be very difficult to do this. That seems to run counter to one of your goals.

The other point is that you should not consider the CRT to be a part of "my personal estate". As another poster mentioned, a CRT is an irrevocable trust with a seperate EIN. You cannot dip into the trust at your leisure and use the funds. You could, however, dip into the trust to make early distributions to charities which you have named, but you do not have access to the funds. A CRT is like "giving the tree, but retaining the fruit".

Since a CRT is not part of the "personal estate" it would not help you to "grow your personal estate and later determine your charitable plans." In that regards, a Donor Advised Fund would be a better vehicle since under current law there are no mandatory annual distributions to charities so the balance could grow over time and, of course, you do not take any income from a donor advised fund. That rules aroudn distributions from a donor advised fund may change in the future and individual financial instrutions might have their own guidelines in place, but for now that woudl not be an issue.

Again, let me think a bit on your basic question.

Kiana
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Re: Variable Annuity versus Charitable Remainder Trust

Post by JDCPAEsq »

kianajunior wrote:In that regards, a Donor Advised Fund would be a better vehicle since under current law there are no mandatory annual distributions to charities so the balance could grow over time and, of course, you do not take any income from a donor advised fund. That rules aroudn distributions from a donor advised fund may change in the future and individual financial instrutions might have their own guidelines in place, but for now that woudl not be an issue.
Is that accurate? My understanding is that the entire fund still has the private foundation 5% minimum distribution requirement but, because there are adequate distributions from other subfunds, the main fund doesn't require the individual funds to distribute 5%. I also believe there are some community foundations and similar types that do require the individual funds to distribute 5% a year.
John
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Eric
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Re: Variable Annuity versus Charitable Remainder Trust

Post by Eric »

JDCPAEsq wrote:Is that accurate? My understanding is that the entire fund still has the private foundation 5% minimum distribution requirement but, because there are adequate distributions from other subfunds, the main fund doesn't require the individual funds to distribute 5%.
I don't follow this area as closely as I used to, but at last check there was still no statute or regulation requiring the entire program to satisfy a 5% distribution requirement. That said, I've heard that as a matter of administrative practice, the IRS is not approving new applications for tax exemption by fund sponsors who do not impose this requirement on themselves. I suppose a prospective fund sponsor could fight that in court, as an abuse of the Service's administrative discretion, but I don't think any are inclined to bother. It doesn't end up mattering in practice, as all of the major DAF programs would easily satisfy a 5% distribution requirement on an "entire program" basis.
kianajunior
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Re: Variable Annuity versus Charitable Remainder Trust

Post by kianajunior »

Windfall -

I've thought more about your dilemna and I am just not skilled enough to come up with a solution. Every charitable tool that I am aware of bumps up against your intent to grow your assets within your personal estate. In effect, it sounds as if you would like to be able to access the funds for personal use should some unforseen need arise. I just don't think there is a charitable vehicle (i.e. CRT, donor advised fund, private foundation, etc.) that will enable you to do that.

If I am missing your intent, please let me know. Sorry.

Kiana
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Re: Variable Annuity versus Charitable Remainder Trust

Post by JDCPAEsq »

Eric wrote:
JDCPAEsq wrote:Is that accurate? My understanding is that the entire fund still has the private foundation 5% minimum distribution requirement but, because there are adequate distributions from other subfunds, the main fund doesn't require the individual funds to distribute 5%.
I don't follow this area as closely as I used to, but at last check there was still no statute or regulation requiring the entire program to satisfy a 5% distribution requirement. That said, I've heard that as a matter of administrative practice, the IRS is not approving new applications for tax exemption by fund sponsors who do not impose this requirement on themselves. I suppose a prospective fund sponsor could fight that in court, as an abuse of the Service's administrative discretion, but I don't think any are inclined to bother. It doesn't end up mattering in practice, as all of the major DAF programs would easily satisfy a 5% distribution requirement on an "entire program" basis.
When I established a donor advised fund with Vanguard about ten years ago I inquired about the requirement for a mandatory 5% distribution. They responded that I need not worry about it because the entire program met the requirement and it was not necessary for each individual fund to do so. Furthermore, the fund is the only entity required to file a 990-PF and so there would be no way for the IRS to see if the individual funds met such a mandate.

John
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Re: Variable Annuity versus Charitable Remainder Trust

Post by letsgobobby »

JDCPAEsq wrote:
Eric wrote:
JDCPAEsq wrote:Is that accurate? My understanding is that the entire fund still has the private foundation 5% minimum distribution requirement but, because there are adequate distributions from other subfunds, the main fund doesn't require the individual funds to distribute 5%.
I don't follow this area as closely as I used to, but at last check there was still no statute or regulation requiring the entire program to satisfy a 5% distribution requirement. That said, I've heard that as a matter of administrative practice, the IRS is not approving new applications for tax exemption by fund sponsors who do not impose this requirement on themselves. I suppose a prospective fund sponsor could fight that in court, as an abuse of the Service's administrative discretion, but I don't think any are inclined to bother. It doesn't end up mattering in practice, as all of the major DAF programs would easily satisfy a 5% distribution requirement on an "entire program" basis.
When I established a donor advised fund with Vanguard about ten years ago I inquired about the requirement for a mandatory 5% distribution. They responded that I need not worry about it because the entire program met the requirement and it was not necessary for each individual fund to do so. Furthermore, the fund is the only entity required to file a 990-PF and so there would be no way for the IRS to see if the individual funds met such a mandate.

John
There have been years I haven't donated 5% from my Fido DAF, so apparently this is still ok.
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