Why You Should Consider Gifting to a Charitable Lead Annuity Trust

November 27, 2020
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If you’ve been following the Illumination Wealth Blog lately, you will have seen some good year-end tax planning tips. If you are looking to lower your 2020 taxable income and do some good in the process, then you will want to consider gifting to a Charitable Lead Annuity Trust (CLAT) before the year is through. There are several reasons why it makes more now more than ever.

What is a CLAT?

First, let’s look at what a Charitable Lead Annuity Trust actually is. It is a trust set up by the donor. The donor (or sponsor) is able to contribute assets including cash, property or marketable securities. The CLAT pays an annuity amount each year to a charity of the donor’s choice based on the defined term of the trust. When the CLAT’s term has ended, the remaining assets can return to the donor or to their named beneficiaries. Or, the CLAT can be designed to pay out to a donor-advised fund (DAF). This means further charitable gifts will be made based on the direction of the donor or his/her family.

Setting up a Charitable Lead Annuity Trust will provide the donor with excellent income tax or estate and gift tax benefits. At the same time, it also supports charitable organizations of your choice. Like all charitable donations, a CLAT a win-win scenario as every party benefits in different ways. It’s just a more sophisticated legal arrangement that makes more sense for certain donors.

Types of Charitable Lead Annuity Trusts

There are two different types of CLATs you will want to consider, depending on your financial objectives:

  • Grantor CLAT—This is usually the best option if your goal is to create a charitable income tax deduction. You are able to deduct your donation immediately. However, you will have to pay income tax on the CLAT’s taxable income during the term, including any portion paid to charity. A grantor CLAT offers more immediate tax benefits compared to year-over-year gifting to charity.
  • Nongrantor CLAT—This is more of a long-term approach, typically aimed at transferring assets to family (or other beneficiaries). A nongrantor CLAT allows you to pass on these financial assets while using little-to-none of your lifetime estate and gift tax exemption. There is no initial income tax deduction, but the value will come over time and it’s a strategic method to transfer significant assets to your beneficiaries at the end of the CLAT’s term.

Why CLATs Are Smart Investments in 2020

The COVID-19 impact has resulted in very low interest rates. One of the most important rates to look at is the Section 7520 rate, which is reset by the IRS on a monthly to measure the value of an annuity or other stream of payments. The 7520 rate has been at historically low rates in recent months. This creates more opportunities for CLAT donors. In other words, now is a very good time to establish a Charitable Lead Annuity Trust before rates start to rise again. Whether you create a grantor CLAT or a nongrantor CLAT is up to you and your specific short-term or long-term financial goals.

To learn more about Charitable Lead Annuity Trusts and other financial planning, tax planning and estate planning techniques that you can take advantage of before 2020 comes to an end, contact Illumination Wealth today for a financial advisement session.