“We make a living by what we get, but we make a life by what we give.”
— Sir Winston Churchill

Retirees and investors approaching retirement face a low-interest rate environment in which future price inflation is a virtual certainty. The financial industry has responded with a confusing array of products intended to supplement the traditional “spending down” of an investment portfolio. In June we began a series of articles intended to help readers understand the promises and pitfalls of these alternatives. This month we address planned giving, a less well-publicized alternative, which in addition to satisfying one’s philanthropic intentions can provide donors with a dependable income stream and attractive tax advantages.

In addition to helping a charity to fulfill its mission, planned giving can garner significant tangible benefits for donors including:
• Federal and state income tax deductions
• Capital gain tax savings on gifts of appreciated assets
• Annual income for life or for a designated term
• Flexibility. Gifts of cash, securities, or other property including buildings and land are possible
• Reduced probate costs and estate taxes
• Expert investment management

In this article we describe three strategies for planned giving: pooled income funds, charitable remainder unitrusts, and charitable lead trusts.

Pooled Income Funds

A pooled income fund (PIF) is a trust maintained by a sponsoring charity. A PIF operates very much like a mutual fund. The donor contributes property
to the trust and is assigned a number of units, depending on the value of the assets donated. These assets are pooled with those of other donors. Typically the donated assets are sold, and the proceeds reinvested in income-oriented securities. Notably, neither the trust nor the donor will incur taxable long-term gains on such sales, so the full market value of the donor’s contribution is put to work generating income.

Income generated by the fund (dividends, interest, etc.) is distributed (often quarterly) to the income beneficiaries according to the number of units assigned. The income paid out therefore varies with the level of income generated within the fund. When the last income beneficiary named by the donor dies, the remaining value of the units is distributed to the charity for its charitable purposes.

Donors can transfer cash, securities, or other property to a pooled income fund, and receive an income tax deduction at the time of the donation that is based on the estimated present value of the assets that will eventually pass to the charity.

Charitable Remainder Unitrusts

A charitable remainder unitrust (CRUT) is another planned giving alternative. CRUTs are similar to PIFs in several respects. They can be established with donations of cash, securities, or other property, and the donor receives an income tax deduction based on the present value of the assets that eventually pass to the charity. The donor pays no capital gains tax on the appreciated value of his property, so the full market value of the property is available for reinvestment within the CRUT. Donors may add funds to their CRUT at any time. When the CRUT term ends, the principal passes to the charity for its charitable programs.

A CRUT, however, is fundamentally different from a PIF. It is not a pooled account but a separate trust with parameters that can be specified to
address intentions and circumstances specific to the donor. Most notably, CRUT donors stipulate the annual fixed percentage of the fund’s value (not less than five percent) that must be distributed to income beneficiaries.

Payments are made from trust income (dividends and interest), or from trust principal if trust income falls short of the required payout. Income may continue for the lifetimes of the beneficiaries named, a fixed term or a combination of the two.

CRUTs are subject to restrictions. A CRUT will be disqualified if the remainder interest for each contribution is not at least ten percent of the net fair market value of the initial contribution.The only restriction on the naming of beneficiaries is that they must be living at the time the gift is made.

Charitable Lead Trust

A Charitable Lead Trust (CLT) can be used to transfer assets to children or others at a significantly reduced tax liability. Though they can be a powerful
tool in gift and estate tax planning, CLTS are complex arrangements that require careful consideration. In some ways a CLT is the inverse of a CRUT, because a CLT distributes periodic income to the charity, while the remainder at the end of the trust term is either returned to the donor or passed
on to heirs. Donors get an income tax deduction if they receive the remainder at the end of the trust term. If the assets are passed on to heirs, applicable estate or gift taxes on the value of the gift are reduced or completely eliminated.

A charitable lead trust may provide either a fixed “annuity” payment or a variable “unitrust” payment to the charity for a specified term, measured either by someone’s life or a selected number of years. Low interest rates currently make the annuity payment option attractive for donors as more assets may be passed on to heirs with reduced or eliminated transfer tax liability.

The tax benefits of a charitable lead trust depend on several factors, including the value of the donated asset, the duration of the trust, the type of trust (grantor or non-grantor; annuity trust or unitrust), the charitable payout rate and the Federal Reserve Board discount rate.

Also in This Issue:

Quarterly Review of Capital Markets
Planned Giving and AIER
Gifts and Estate Taxes: Changes Afoot
The High-Yield Dow Investment Strategy
Recent Market Statistics
The Dow-Jones Industrials Ranked by Yield
Asset Class Investment Vehicles