Charitable Lead Trusts

Charitable Lead Trusts

Article posted in Charitable Lead Trust on 26 June 2003| comments
audience: Partnership for Philanthropic Planning, National Publication | last updated: 16 September 2012


In this edition of Gift Planner's Digest, Robert Lew and Darryl Ott, Esq. provide a concise overview of the variety of charitable lead trusts and provide eight creative case studies that illustrate their application.

Case Study Seven: Name That Building

(Intervivos, CLAT, and Grantor)

A donor wishes to help build a new building on the campus of His Favorite University (HFU) but is unwilling to liquidate any of his current assets and does not have the cash for an outright gift. He is very motivated to make a gift of about $1,000,000 to HFU and will fund it somehow over a six-year period. But he wants to know how to do it most advantageously for himself from an income tax standpoint. The donor is a real estate developer who expects to have very substantial income in the year of the gift because several of his projects are being completed and sold in that year. He then expects to have a five-year period during which he is re-tooling for his next endeavors when his reportable income will be very low.

The donor has considered making gifts of $160,000 per year for six years outright to HFU, but he is concerned that after the first year his income may not be high enough to support a full income tax deduction. Instead, after several meetings with the planned giving officers at HFU (and with the president on one occasion) and his advisors, he creates a six-year charitable lead annuity trust with an initial payout rate of 8% per year. He places $2,000,000 of income producing real estate in the trust that nets from the rent an amount equal to $160,000 per year. The assets remaining in the CLT at its termination are to return to the donor, which causes this trust to be a "grantor owned" CLT. HFU borrows from an institutional lender using the lead trust income as a primary source of repayment so that HFU can complete the construction of the building now. HFU names the building after the donor since he is the single largest contributor of $960,000 for this major capital campaign.

The donor enjoys a federal and state charitable income tax deduction in the year that he creates the CLT in the amount of $757,968. Assuming that the donor can deduct the entire amount of this charitable gift in the year that the CLT is established, he will realize income tax savings of approximately $303,187. Over the term of the CLT, the donor will be required to report all of the taxable income earned by the CLT. Assuming that the taxable income from the real estate owned by the CLT is equal to the charitable payout each year (the sum of $160,000), the donor will be required to pay income taxes on this sum from other assets equal to $64,000 each year.

Then, assuming that the tax savings earn an annual after tax total return of 4.8% in the first year, and 6.4% in the next five years, the total net "cost" to the donor from the payment of the income taxes on the CLT income is about $49,291. The calculation of a lost opportunity cost from the diversion of the income from the real estate to HFU seems unnecessary because the donor was motivated to make the gift one way or another.

So, at a nominal cost over the six-year period, the donor has retained the ownership of his real estate, and has provided a major gift to His Favorite University, and has a building on the campus named after him.

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