Charitable Remainder Trusts

At a Glance

Gifts to charity of partial interests in property—gifts of less than the donor’s entire interest in property—generally do not qualify for the income tax, gift tax or estate tax charitable deduction. However, there are specific exceptions and one of the most important is for gifts to charity made through charitable remainder trusts. These "split-interest" trusts may provide benefits for both individuals and charities without violating the partial interest rule.

A charitable remainder trust is a unique kind of irrevocable trust in which

$image\bullet.jpg$ The donor, or one or more other individuals designated by the donor, receive(s) income from the trust for life, or for a period of up to 20 years, after which the trust terminates and its corpus is distributed to the charitable remainderman.

$image\bullet.jpg$ The income payout period may last for more than one life, but the present value of the charitable remainder must be at least 10% of the initial value of the property transferred to the trust. As the income payout period stretches out (due to young or multiple beneficiaries), the value of charity’s remainder interest shrinks under time-value-of-money principles, potentially jeopardizing the tax-qualification of the trust.

Because a CRT pays income to the donor (or other individual) for life, it often permits the donor to make a major gift to one or more charities, and gain immediate income tax benefits, without a loss of income. It is especially appropriate for the donor who wants to make a significant property gift but does not want to lose the income produced by that asset.

Funding a CRT

Charitable remainder trusts (CRTs) come in two main forms:

$image\bullet.jpg$ The charitable remainder annuity trust (CRAT), and

$image\bullet.jpg$ The charitable remainder unitrust (CRUT).

To establish a charitable remainder annuity trust, a donor creates a trust and irrevocably funds it with cash or appreciated property. Under the SECURE 2.0 Act, an IRA owner age 70½ or older can also choose to fund a new CRT by making a one-time, tax-free distribution from the IRA of up to $55,000 (in 2026). (Spouses may combine their $55,000 distributions into a single CRT.) This distribution does not create a charitable income tax deduction, but it does count toward the donor's required minimum distribution if one is due. Note that a CRT funded has certain restrictions.

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General Features

The trustee is required by the trust instrument to pay a specified annual annuity (at least 5% of the initial value of the assets transferred to the trust, but not more than 50%) to the donor or other designated individual beneficiaries for a certain period of time—often the lives of the beneficiaries—with the trust property passing to a designated charitable institution at the end of this time period. The value of the charitable remainder must be at least 10% of the net fair market value of all property transferred to the trust, as determined at the time of the transfer. The income beneficiary of a CRAT must receive the required annuity payout each year, even if the trust does not produce any income. Principal may have to be invaded, if necessary.

A charitable remainder unitrust is an irrevocable trust that names a charitable institution as remainder beneficiary, and pays one or more income beneficiaries a specified percentage of the value of the trust assets as revalued each year. If the trust principal rises in value, the income payout also will increase. The specified percentage must be at least 5%, but not more than 50%. The value of the charitable remainder must be at least 10% of the net fair market value of all property transferred to the trust, as determined at the time of the transfer.

While the CRAT comes in only one basic form, the CRUT comes in four sub-varieties:

$image\bullet.jpg$ The straight or fixed-percentage unitrust

$image\bullet.jpg$ The net-income (without make-up) unitrust

$image\bullet.jpg$ The net-income with make-up unitrust (NIMCRUT)

$image\bullet.jpg$ The "flip" unitrust.

Click here for a graphic that shows how charitable remainder trusts work.

Advantages of CRTs for Donors

At a Glance

Charitable remainder trusts must be irrevocable to qualify for tax benefits. However, CRTs are still an attractive option to donors because they offer tax benefits and a number of flexible planning options that offset some of the potential disadvantages of irrevocability.

Flexible Features

$image\bullet.jpg$ A charitable remainder trust may be established during life (inter vivos) or at death (testamentary).

$image\bullet.jpg$ The donor can choose a fixed-income payout (charitable remainder annuity trust) or a variable-income payout in which the payout amount can grow or decline with the value of the trust assets (charitable remainder unitrust).

$image\bullet.jpg$ The donor selects the payout rate of the trust, within certain legal limitations (e.g., 5% minimum, 50% maximum, 10% charitable remainder value, 5% probability test for annuity trusts). Once the payout rate is selected, it cannot be changed. By careful selection of the trust’s payout percentage, a donor can elect to optimize the charitable deduction (with a lower percentage) or the payout amount (with a higher percentage).

$image\bullet.jpg$ If a charitable remainder unitrust is used, additional contributions can be made to the trust, if desired, in subsequent years.

Right to Revoke

$image\bullet.jpg$ The donor also selects who will receive the income from the trust; the income beneficiary(ies) may be the donor and/or others. These income beneficiaries cannot be changed once they are selected. However, the donor may retain a testamentary right to revoke these income interests by will.

$image\bullet.jpg$ Such a retained right negates a completed gift from occurring until such time as each income payment is made to an income beneficiary (a donor who is an income beneficiary is not considered to be making a gift). The gift tax annual exclusion may apply to reduce or eliminate any gift tax for the donor on these annual gifts of trust income to individual beneficiaries if such beneficiaries hold present interests in the trust.

Beneficiaries

$image\bullet.jpg$ The income from a CRT may be paid to the income beneficiary(ies) for their lifetimes or for a term of years (not to exceed 20), as selected by the donor. Income may also be paid for the lifetime of beneficiary(ies), to be followed by a term of years.

$image\bullet.jpg$ One charity or several charities may be named as the remainder beneficiary(ies) of the trust. Further, the donor may retain the right to change the charitable remaindermen.

$image\bullet.jpg$ The donor names the trustee, which may be the donor, the charitable remainderman, a third party (e.g., attorney, accountant, relative, etc.), or a corporate entity (e.g., bank). The donor may retain the right to change the trustee.

Investment Discretion

The trustee of a CRT may exercise discretion over the investment of the trust assets, so long as the investment is handled in a prudent and reasonable fashion. The trustee must comply with applicable state laws (e.g., Uniform Prudent Investor Act, Uniform Principal and Income Act, Uniform Trust Codes) as well as federal laws (e.g., Philanthropy Protection Act). As a general matter, the trustee can balance the income needs of the income beneficiaries with the remainder interest of charity(ies).

Common Characteristics of CRATs and CRUTs

Charitable remainder annuity trusts (CRATs) and charitable remainder unitrusts (CRUTs) have a number of characteristics in common.

$image\bullet.jpg$ The trust must be irrevocable; there can be no possibility that the remainder will revert to noncharitable beneficiaries.

$image\bullet.jpg$ The annual payout percentage cannot be less than 5% of the initial value of the trust, in the case of a charitable remainder annuity trust, or less than 5% of the annually revalued trust corpus in the case of a charitable remainder unitrust.

$image\bullet.jpg$ No payment other than the annuity amount or the unitrust amount can be made to noncharitable beneficiaries.

$image\bullet.jpg$ The annuity or unitrust payouts are deemed to be taxed in accordance with the "four-tier" system, in the following order of priority: (1) current and accumulated ordinary income; (2) short-term capital gain, followed by long-term capital gain; (3) "other income" (usually meaning tax-exempt interest); and (4) tax-free return of corpus.

$image\bullet.jpg$ The trust itself is generally income-tax exempt unless it receives unrelated business income.

$image\bullet.jpg$ The trust must meet either the definition of a CRAT or a CRUT at its inception, and must function exclusively as such at all times thereafter.

$image\bullet.jpg$ The term of the trust must be measured by the life or lives of one or more individuals living at the time the trust is created, or by a fixed term of not more than 20 years.

$image\bullet.jpg$ The payout percentage rate cannot exceed 50% of the initial value of CRAT assets, or 50% of the annually revalued CRUT assets.

$image\bullet.jpg$ The present value of the charitable remainder must be at least 10% of the fair market value of the assets transferred to the trust.

$image\bullet.jpg$ The trust must specify a contingent charitable remainderman in case the primary charitable remainderman ceases to exist or ceases to be a qualified charitable organization.

$image\bullet.jpg$ CRTs are subject to the private foundation prohibitions and excise taxes with respect to self-dealing, excess business holdings, jeopardy investments, and taxable expenditures.

$image\bullet.jpg$ The trust instrument cannot restrict the trustee from investing the trust corpus in a manner that will produce a reasonable income or gain.

Differences between CRATs and CRUTs

Annual Payout

While CRATs and CRUTs are similar in many ways, they also have significant differences. The most important is in the way the annual payout to the income beneficiary is defined: as either an "annuity amount" or as a "unitrust amount."

An annuity amount is a sum certain: a fixed percentage of the initial value of the property transferred to the CRAT. For example, if $100,000 is transferred to a CRAT, and the payout percentage is 5%, the income beneficiary will receive $5,000 each year until the trust terminates, regardless of the fluctuating value of the trust principal or the earnings of the trust.

On the other hand, a unitrust amount is a fixed percent of the annually revalued trust corpus. So, if the payout percentage is, again, 5% but the CRUT has grown in value to $120,000 in the second year of its existence, the income beneficiary will receive $6,000 as a payout. Likewise, if the trust's value drops to $80,000 in the third year, the income beneficiary will receive only $4,000 as a corresponding payout.

Other key differences

A CRAT cannot accept additional contributions, whereas a CRUT may because of the annual revaluation feature of CRUTs. The trust instrument for a CRAT should prohibit additional contributions.

In the case of a CRUT, the trust instrument may authorize or prohibit additional contributions; it is not required to accept additional contributions.

The trust instrument for a CRUT may provide for the payout of all trust income in a year in which that is less than the amount required by the fixed percentage (a "net income unitrust"). Further, the trust instrument may provide that any income shortfalls for years in which trust income was less than the fixed percentage may be made up at a later time (a "net income with make-up unitrust," or NIMCRUT). These provisions are optional with the donor.

"Flip" Unitrust

A "flip" unitrust allows a net income unitrust to flip or change into a straight or fixed percentage unitrust once a triggering event occurs, such as the sale of assets which may be illiquid or hard-to-market (e.g., real estate or closely held stock). Thus, the net income unitrust will not pay income if no income is earned, but—if a flip clause is included—once the asset is sold and the proceeds reinvested, then the trust changes from a net income unitrust to a straight CRUT and income is paid thereafter pursuant to the percentage payout requirement.

Charitable Remainder Annuity Trusts

Qualification Requirements for a CRAT

A CRAT must satisfy these requirements to receive tax-deductible contributions and to be income tax-exempt:

$image\bullet.jpg$ The trust must be irrevocable.

$image\bullet.jpg$ A annuity amount must be a sum certain that is payable to the donor or other designated individual beneficiary(ies).

$image\bullet.jpg$ The annuity amount must be paid out annually or at more frequent intervals, as prescribed in the trust instrument.

$image\bullet.jpg$ The annual annuity payment cannot be less than 5% of the initial value of the assets transferred to the trust, nor more than 50%.

$image\bullet.jpg$ The trust must provide income benefits to one or more individuals for life, or for a fixed term not to exceed 20 years.

$image\bullet.jpg$ If trust income for the year is insufficient to make the fixed payment, trust principal must be invaded to pay the annuity amount.

$image\bullet.jpg$ At the time the trust is established, the actuarial probability that the principal will be completely depleted during the trust term cannot exceed 5%.

$image\bullet.jpg$ Due to the fixed income payout obligation, additional contributions to an existing CRAT are not allowed. A new trust would have to be established to receive any additional contributions (or a CRUT used in the first place if the donor desires to make additional contributions).

$image\bullet.jpg$ The remainder interest must be payable to a qualified charity, and the present value of the charitable remainder must be at least 10% of the value of the contribution to the CRAT.

When a CRAT Is Appropriate

Charitable remainder annuity trusts are popular as a planned giving tool when equity values are sluggish and interest rates are high. Ideally, the CRAT donor would like to lock in a high income payout rate that will last over many subsequent years of fluctuating interest rate movements.

The CRAT also appeals to the donor who wants the certainty of a fixed-dollar payout and is willing to sacrifice the potential income growth and flexibility available with the unitrust for this certainty.

The donor probably should be contemplating a minimum corpus of $100,000 to set up a CRAT. The fees associated with establishing and administering of a CRAT make smaller trusts less feasible.

Deduction for Charitable Remainder

The present value of the charity’s remainder interest is deductible for federal income and gift tax purposes (if an inter vivos CRAT is established and if the donor itemizes), or for federal estate tax purposes (if a testamentary CRAT is established).

The various factors which affect the donor’s deduction for setting up a CRAT that meets all of the qualification requirements are:

$image\bullet.jpg$ The amount transferred to the trust

$image\bullet.jpg$ The life expectancy of the income beneficiary (or joint life expectancy if multiple beneficiaries are named), or the term of years specified as the trust term

$image\bullet.jpg$ The payout rate selected by the donor

$image\bullet.jpg$ The frequency of the payout (monthly, quarterly, semiannually or annually)

$image\bullet.jpg$ The applicable federal rate (AFR) chosen by the donor from among those available at the time the trust is established

Online calculators can compute the amount of a donor's deduction or calculate scenarios with different values to compare the effects on the payout and deduction.

The 5% Probability Test

The 5% probability test requires that the annuity amount cannot be so large that there is a greater-than-5% probability that the corpus will be exhausted before the (last) noncharitable beneficiary dies, the trust terminates, and charity receives its remainder [see Rev. Rul. 77-374, 1977-2 C.B. 329; see also Ltr. Rul. 8152019].

Low AFRs Can Jeopardize CRATs
Under the 5% Probability Test

A donor will usually select the highest rate available in order to maximize the deduction for a charitable remainder annuity trust or a charitable gift annuity (the effect of the AFR on the charitable deduction for a CRUT is not as significant).

With respect to charitable remainder annuity trusts (CRATs), the IRS takes the position that the trust is disqualified for a charitable deduction if there is a greater than 5% probability that the income beneficiary will survive the exhaustion of principal [Rev. Rul. 77-374, 1977-2 C.B. 329; see also Ltr. Rul. 8152019]. If a CRAT is required to pay out 7% and the pertinent AFR is, say, 1.0% rather than 4.0%, the risk increases that principal will have to be invaded to make the payout. Thus, the CRAT may fail the 5% probability test.

Do some of your donors have testamentary CRATs drafted into their estate plans? If so, these CRATs could come into existence at a time of low AFRs. Even with fairly elderly income beneficiaries, these CRATs might fail to qualify for the income tax and estate tax charitable deductions. To alleviate the possible failure of the 5% probability test, the IRS issued Revenue Procedure 2016-42, which provides a way to terminate a CRAT if the trust corpus falls to 10% of the initial value. The IRS notes that the precise language included under Rev. Proc. 2016-42 must be incorporated into the trust agreement to avoid the 5% test.

If your donors and their advisors agree, a potentially problematic testamentary CRATs could also be changed by codicil into charitable remainder unitrusts (CRUTs). CRUTs are not subject to the 5% probability test, since the CRUT payout is not fixed but is tied to the floating annual value of the trust principal [Ltr. Ruls. 7915038 and 8419005].

The 10% Remainder Value Test

A CRAT must provide for a charitable remainder with a present value of at least 10% of the value of the property transferred to the CRAT, as determined at the time the trust is established. Donors may have to limit the number of income beneficiaries, select older beneficiaries, or lower payout rates (but not below 5%) to ensure that the 10% test is met.

Charitable Remainder Unitrusts

Qualification Requirements for a CRUT

A charitable remainder unitrust (CRUT) must satisfy these requirements:

$image\bullet.jpg$ The trust must be irrevocable

$image\bullet.jpg$ The trust must pay out a fixed percentage of the net fair market value of the principal, as redetermined annually, to the donor or other individual income beneficiary or beneficiaries (i.e., a "regular" or "straight" CRUT). Alternatively, the trust may pay out annually to the income beneficiary the lesser of the fixed percentage or the actual trust income for the year (i.e., a "net-income" CRUT.)

$image\bullet.jpg$ In the case of a net-income CRUT, the net income earned during some payment periods may be less than the fixed percentage amount. Therefore, a special "make-up" provision may be included in a net-income CRUT to allow the trustee to maintain a record of such shortfalls. These shortfalls may be made-up in future payment period(s) when the net income earned exceeds the fixed percentage amount. The net income CRUT with this "make-up" provision is also known as a "NIMCRUT."

$image\bullet.jpg$ The fixed percentage payout cannot be less than 5% nor more than 50% of the annually revalued trust corpus

$image\bullet.jpg$ The trust must provide income benefits to one or more individuals for life (or joint lives) or for a term of not more than 20 years

$image\bullet.jpg$ The income may be paid once a year, semi-annually, quarterly, or monthly, as defined in the trust instrument

$image\bullet.jpg$ The donor can make additional contributions to a regular or net income CRUT, as well as to a NIMCRUT

$image\bullet.jpg$ The remainder must be payable to a designated and "qualified" (pursuant to Internal Revenue Code definition) charity

$image\bullet.jpg$ The present value of this charitable remainder interest must be at least 10% of the initial contribution and of any subsequent contribution, as measured at the time of the contribution

Caution: Planned giving calculation software should be used to ensure compliance with the 10% minimum charitable remainder test.

The Net Income Unitrust, With and Without Makeup

A variation possible only with the unitrust is the net income unitrust. The unitrust agreement can direct that each annual payment be the lesser of:

$image\bullet.jpg$ The specified percentage of value in that year, or

$image\bullet.jpg$ The net income actually earned by the trust in that year.

If this option is selected, the trust agreement may (but does not have to) provide that, if less than the specified percentage is paid out in one or more years, the accumulated "income deficits" will be made up in a subsequent year in which income exceeds the specified percentage. When a net income unitrust has a makeup provision, it is sometimes called a NIMCRUT.

The NIMCRUT technique can be used to time trust income payouts to coincide with the donor's need for retirement income. The trust might be funded with non-income producing assets, or the trustee might invest the trust corpus initially in assets that produce little or no income.

When the donor reaches retirement age, the trustee would then convert the corpus to income-producing investments and begin to pay out trust income (including any makeup amounts, if called for by the trust instrument).

"Flip" Charitable Remainder Unitrusts

At a Glance

A charitable remainder unitrust (CRUT) may include language that allows the trust to change its payout method from a net-income unitrust to a straight, fixed-percentage CRUT upon the occurrence of a triggering event. The specific date or other triggering event for the "flip" must be spelled out in the trust instrument.

The flip option is particularly attractive when the donor wishes to donate to the CRUT illiquid or hard-to-market assets such as real estate or closely held stock. If the real estate or stock is not sold right away, or does not earn any income inside the trust, the net-income limitation relieves the trust from the obligation of paying the unitrust amount to the income beneficiary (often the donor) via distributions in kind or of partial interest—with no cash to pay the income tax—or via a forced sale of the contributed property.

However, once the illiquid asset is sold and reinvested in income-producing assets (or some other triggering event occurs), the donor or other income beneficiary may prefer a more predictable payout than the net-income limitation will permit. If a flip provision is included in the CRUT, the trustee can make the fixed-percentage payout without being limited to the trust's net income in years when that is less than the unitrust amount.

The flip unitrust was designed to satisfy the income beneficiary’s desire for flexibility in the payout method within an irrevocable trust. In a flip unitrust, the net-income limitation serves its purpose of (1) negating the fixed-percentage payout during the initial period of the trust, and (2) disappearing at the point it could begin to adversely affect the income beneficiary. Note, however, that this increased flexibility could be detrimental to the charitable remainderman, whose interest may be eroded by the higher payouts after the fixed-percentage method takes effect.

The Flip Requirements

The trust instrument of a net-income CRUT (with or without a makeup provision) can provide for a switch to a straight CRUT if the following requirements are met [Reg. Sec. 1.664-3(a)(1)(i)(c-f)]:

$image\bullet.jpg$ The unitrust percentage stays the same after the flip

$image\bullet.jpg$ The flip is triggered on a specific date or by a single, specific event (more on this shortly)

$image\bullet.jpg$ The flip is to be effective on the first day of the CRUT's taxable year that follows the triggering event

$image\bullet.jpg$ A CRUT may flip only from a net-income unitrust (with or without makeup) to a straight, fixed-percentage CRUT

$image\bullet.jpg$ When the CRUT has a makeup provision, the trust instrument must state that any unpaid makeup amount as of the flip date is forfeited

$image\bullet.jpg$ A CRUT may flip only once in its history

It is worth emphasizing that a CRUT may flip only from a net-income unitrust (with or without makeup) to a straight, fixed-percentage unitrust. No other type of flip is permitted. A charitable remainder annuity trust (CRAT) cannot flip to any type of unitrust, nor can a straight unitrust flip to a net-income unitrust.

No income tax deduction can be taken for the permanently forfeited makeup amount when a NIMCRUT flips to a straight CRUT. Note that any makeup forfeiture will benefit the charitable remainderman, partially negating the adverse consequences to the charity of the flip in the payout method.

Events That Can Trigger A Flip

Permissible Events. Examples of permissible triggering events mentioned in the regulations include the following:

$image\bullet.jpg$ A specific trigger date

$image\bullet.jpg$ The sale of "unmarketable assets" (defined below) such as real estate or restricted (Rule 144) stock

$image\bullet.jpg$ The marriage or divorce of the noncharitable (income) beneficiary

$image\bullet.jpg$ The death of the noncharitable beneficiary

$image\bullet.jpg$ The birth of a child to the noncharitable beneficiary

$image\bullet.jpg$ The attainment of a specified age by the noncharitable beneficiary

Caution: A permissible triggering event must be outside the control or discretion of the donor, trustee(s), income beneficiary, or any other person [Reg. Sec. 1.664-3(a)(1)(i)(c)(1)]. The sale of unmarketable assets would seem to be within the trustee's control, but it is listed as a permissible triggering event—an intended exception to the general rule.

"Unmarketable assets" are assets other than cash, cash-equivalents, and assets that can readily be sold [Reg. Sec. 1.664-1(a)(7)(ii)].

Impermissible Events. Examples of impermissible triggering events include:

$image\bullet.jpg$ A sale of marketable assets by the trust, which would put the timing of the flip squarely within the trustee's control, and

$image\bullet.jpg$ A beneficiary’s request that the trust flip to a straight unitrust.

In the case of a pre-existing CRUT that was reformed to comply with the flip requirements, the triggering event cannot occur in a year prior to the year in which the CRUT was reformed.

Suppose the triggering event is defined in the CRUT as the date of the donor's retirement rather than a specific calendar date. Will this pass muster? Probably not, since the date when the donor retires is within the donor's discretion and control.

Flip Unitrust Planning Ideas

In the pre-flip days, charitable remainder trust (CRT) planning was relatively straightforward. Was an annuity trust or unitrust appropriate for the client, and what should the payout percentage and frequency of payment be? If a unitrust was selected, was a straight CRUT or a net-income CRUT the right choice? And finally, if a net-income CRUT was chosen, should a makeup provision be included?

While the flip CRUT gives your clients another planning option, it creates an additional burden on their advisors to steer them toward the best alternative to meet their objectives and circumstances. We review below some common uses of the flip unitrust, but bear in mind that it is a powerful tool that can be adapted to a variety of uncommon situations.

Gift of Appreciated, Illiquid Asset

An obvious use of the flip CRUT is for charitable gifts of appreciated, illiquid assets such as real estate and closely held stock. Now, many CRUT draftsmen are using the flip unitrust rather than the NIMCRUT because of the flip CRUT's unique advantages when hard-to-market assets are involved.

In terms of planning, we think immediately of real property for which the capital gains exclusion is not available (e.g., a physician's office building or a second home that fails to qualify as a principal residence). But even a principal residence may be a viable candidate for a flip CRUT if the gain on a sale of the property would substantially exceed the available exclusion ($500,000 for married clients filing jointly, $250,000 for an unmarried client).

Example: Phil (a widower) has a principal residence valued at $3 million. He has a $750,000 basis in the property. The federal capital gains tax alone on a sale of the property would be $300,000, even after taking the $250,000 exclusion. Selling costs and state capital gains taxes would further deplete Phil's net gain on a sale.

Rather than take this huge tax hit on a sale, Phil could contribute the property to a CRUT for a favored charity, and convert the highly appreciated residence into a lifetime income stream without depletion by an immediate capital gains tax. (It would be self-dealing if Phil continued to live in the residence after contributing the property to the CRT.) Because the prospects for a $3 million residence are limited, finding a buyer for the property might take a while. Using the flip option would let the trustee delay the start of Phil's income stream until the year after the property sells.

Flip CRUT or NIMCRUT? When a long period is expected to elapse before the flip-triggering event occurs, the NIMCRUT may continue to be preferred over the flip CRUT. In this case, forfeiture of the makeup account could involve a significant, accumulated sum, which would militate in favor of the NIMCRUT. Likewise, a CRUT that defines trust income to include post-contribution appreciation might tend to favor a NIMCRUT, especially when the trust is not likely to sell the property quickly.

Retirement Planning with a Flip CRUT

NIMCRUTs traditionally have been used to supplement retirement income. While the donor is in the high-income years and does not need additional income, the net-income limitation restricts payouts. Moreover, the charitable deduction offsets the donor's income from that tax year. Then, when the donor retires and wants additional income, the trust sells the unmarketable assets and reinvests the proceeds to make the annual payouts and required makeups. A major risk here has been that investing to meet the donor's income needs could be viewed by the IRS as a proscribed act of self-dealing within the meaning of IRC Sec. 4941.

A flip CRUT can be used instead of a NIMCRUT to supplement retirement income. The triggering event could be a fixed date that coincides with the donor's expected retirement. Prior to that time, the trust assets could be invested for growth or total return, and the donor would receive only the CRUT's actual income pursuant to the net-income limitation. After the flip, the donor begins to receive the fixed-percentage payout without having to change the trust's investment strategy—and without raising the self-dealing issue. Moreover, if the trustee invests for growth or total return from day one, this should have the effect of increasing the fixed-percentage payout amounts after the flip if the investment strategy results in increased asset values.

Beware of defining the triggering event as the donor's retirement date, as mentioned earlier. Instead, specify a fixed date such as the donor's 65th birthday or other objective event that is outside the donor's discretion and control.

Using a Flip CRUT to Meet Family Income Needs

The flip CRUT can be adapted to serve a variety of family income needs. If the donor's spouse will need income following the donor's death, a CRUT could be established with the spouse as the income beneficiary and the triggering event as the donor's death. This could also work for an elderly parent or an adult child who is disabled or otherwise financially dependent.

It has also been suggested that a child's divorce, the death of a child's spouse, the birth of a child's first son or daughter, or a grandchild's expected college matriculation date could be designated triggering events in particular family situations.

Accelerated Unitrusts

The IRS has issued regulations to halt "accelerated unitrusts"—a technique designed to avoid capital gains taxes by placing highly appreciated property into charitable remainder unitrusts with a very short term and a very high payout rate.

An elaborated version of the accelerated unitrust technique enables the trustee to pay the unitrust amounts rather than selling assets. Because the payments are not derived from trust income or capital gains, they are reported as a tax-free return of corpus under IRC Sec. 664(b)(4). In the last year of the trust, the appreciated assets are either sold to repay the loan or distributed to the charitable beneficiary (subject to a contractual obligation to repay the loan).

To prevent the use of CRTs for converting capital gains into tax-free corpus, the regs have a "deemed sale" rule. A CRT will be treated as having sold, in the year of the trust payout, a pro rata portion of the trust assets. Capital gain income will flow out to the income beneficiary under the tier system rather than tax-free return of corpus [Reg. Sec. 1.643(a)-8(b)(1)].

The regulations can be utilized as a de facto safe harbor for short-term, high-payout CRTs. A CRT that complies with (1) the 10% minimum charitable remainder rule, (2) the 50% maximum payout rule, and (3) the deemed sale rule—and that doesn’t otherwise abuse the tier system—offers significant advantages to certain types of donors. Think of a young and wealthy entrepreneur who, in the past, has not been considered a likely CRT grantor because of his or her long life expectancy. By using, say, a 5-year term certain CRT and a 40% payout, the entrepreneur could recover much of the original contribution and still leave a significant remainder to charity that meets the 10% test.

However, a major concern is the broad reach of Reg. Sec. 1.643(a)-8(b)(2), which states that transactions intended to circumvent the regulations will be disregarded. A donor should always seek the advice of a seasoned attorney when establishing a CRT.

More on a CRT Funded from an IRA

The SECURE 2.0 Act created the opportunity for those age 70½ or older to fund a CRT with a one-time qualified charitable distribution (QCD) from an IRA of up to $55,000 (in 2026). This can be a CRAT or a CRUT. In either case, the CRT generally follows the restrictions already covered in this section, with a few important differences:

$image\bullet.jpg$ The IRA distribution must go directly to create a new CRT that meets the qualifications for a charitable income tax deduction—a minimum payout rate of 5% and, in the case of a CRAT, the 5% probability test (or the 10% alternative termination test).

$image\bullet.jpg$ No charitable income tax deduction is allowed, but the distribution (which counts toward the donor's required minimum distribution if one is due) is free of tax.

$image\bullet.jpg$ All payments from the trust will be taxed as ordinary income. The donor is essentially spreading out the tax that would have been due on the IRA distribution over time, which can be advantageous.

$image\bullet.jpg$ Spouses may each make a $55,000 distribution from their respective IRAs and combine them to create a single $110,000 CRT.

$image\bullet.jpg$ The CRT cannot make income payments to anyone other than the IRA owner and/or the owner's spouse. The income interest is nonassignable.

$image\bullet.jpg$ Whether a CRAT or a CRUT, the CRT cannot accept additional contributions.

$image\bullet.jpg$ The trust term may not be limited to a term of years.

Considerations in Selecting a Trust

At a Glance

The donor must understand the important differences among a CRAT, straight CRUT, net income CRUT, NIMCRUT and flip unitrust prior to executing a trust. Donor objectives and motivations often will make one trust form more appropriate than the others.

Charitable Remainder Annuity Trust

The CRAT may be chosen where the asset to be donated already earns a fixed income (e.g., a corporate or tax-exempt bond or rental property). Other benefits of the CRAT include avoidance of capital gains tax when the trust is funded with appreciated property, as well as the removal of the donated assets from the donor’s gross estate.

Older donors who desire a fixed income may prefer a CRAT, but more likely will be attracted to the higher payout rates of a charitable gift annuity. However, a gift annuity may not be an option if the charity does not promote them in the donor's particular state.

Straight or Fixed-Percentage CRUT

If the donor has a relatively long life expectancy, the straight CRUT may be selected with the principal invested for growth. Over the long-term, more income may be paid as the trust principal grows in value and some of this growth or appreciation is realized and paid as income.

Net Income CRUT

The net income CRUT may be appropriate when the asset to be donated:

$image\bullet.jpg$ Produces little income or is difficult to sell, and

$image\bullet.jpg$ The income beneficiary has little need for additional income currently.

In this way, the trustee is not burdened with having to sell the property right away to pay the unitrust amounts, as would be the case with a straight CRUT.

The natural markets for the net income unitrust are high-earning professionals, executives, business owners and investors, generally ages 40 to 60, who are holding substantially appreciated property that may be illiquid or hard to market, and produces little in the way of current income. An individual who sold those assets would be devastated by capital gains taxes (e.g., think of real property that has been fully depreciated). But a unitrust could sell the property without paying capital gains taxes. So, the donor could transfer the asset to a net income unitrust, which would allow the trustee to hold the asset until it could be sold on favorable terms, and without worrying about a forced, untimely sale to pay the fixed-percentage unitrust amount.

NIMCRUT

A "makeup" provision may be added to a net income CRUT to allow payment of the "income deficits" from earlier years in the future when the trust produces more annual income. This will be especially attractive to the donor who has no need for additional current income, but who anticipates a need for higher income in the future, perhaps after retirement.

Flip Unitrust

The flip unitrust option allows a net income CRUT or a NIMCRUT to convert to a straight CRUT upon the occurrence of a permissible triggering event, such as the sale of the illiquid asset(s) used to fund the trust. This will be useful when the donor does not want the trust payout restricted by the net income limitation after the asset is sold or some other flip-triggering event occurs.

Tax Consequences of a CRT

A charitable remainder trust enjoys several tax advantages, but is also subject to several restrictions.

Income Tax Charitable Deduction

The donor receives an immediate income tax charitable deduction based on the present value of the charity's remainder interest. This deduction is calculated pursuant to a formula using the percentage payout stated in the trust, the life expectancy of the income beneficiary(ies) and the interest assumption reflected by the AFR (Applicable Federal Rate) for the month of the gift or either of the two preceding months. The selection of a higher AFR can allow for a greater income tax charitable deduction.

If appreciated property is donated to the trust, then the deduction is limited to 30% of the donor's adjusted gross income (AGI). The deduction may be claimed in the year of the gift and, if any portion exceeds the percentage limitation in that year, may be carried over and deducted for up to five subsequent years.

Capital Gains Tax

Appreciated property can be transferred to a CRT without the donor incurring capital gains tax on the disposition of the property. The trustee can sell the property, reinvest the full sale proceeds, undiminished by capital gains taxes, to produce a high income inside the trust. Thus, the donor converts an appreciated asset into an improved cash flow, and the capital gain on the trustee's sale goes into tier 2 of the 4-tier system (see below).

Trust Is Tax Exempt

The CRT itself is income tax-exempt and pays no income tax on interest, dividends, rents, or capital gain unless it receives certain kinds of tainted income.

Income Taxation of Beneficiaries: Four-Tier System

Income paid to the beneficiaries of a CRT is taxable to these recipients in one of four tiers or categories, in the following order of priority:

$image\bullet.jpg$ Ordinary income

$image\bullet.jpg$ Capital gain income, with net short-term capital gains deemed distributed before net long-term capital gains

$image\bullet.jpg$ "Other income," generally meaning tax-exempt income

$image\bullet.jpg$ Tax-free return of principal

The regulations [Reg. Sec. 1.664-1(d)(1)] require the highest taxed income or gain within the first two tiers to be paid out first, followed by each lower taxed income or gains within the same tier. After all of the income and gain within each class of the first (ordinary income) tier has been exhausted, distributions will be deemed to come from the highest-taxed class in the second (capital gains) tier. All of the capital gains must be exhausted before distributions are attributed to the exempt income tier, and all exempt income must be exhausted before distributions are attributed to return of capital.

Thus, ordinary income that is taxable up to 37% will be deemed distributed before qualified dividends (taxable up to 20%). Then capital gains will be paid out, beginning with the highest taxed gain (short-term capital gain taxed at 37%, 35%, 32%, 24%, 22%, 12% or 10%, or long-term capital gain taxed at 20%, 15% or 0%). In other words, 20% dividends from the first tier will be deemed distributed before 37% short-term capital gains from the second tier. This, however, will not affect the ordering rules for categorizing income distributed from a CRT.

To the extent the trust earns ordinary income from dividends, interest, rents or other sources, then this income retains its taxable character when paid out to and reported by the beneficiaries. All ordinary income is deemed to be distributed before any capital gains are deemed distributed.

Likewise, before any tax-free "other income" can be reported, all capital gain on the trust assets which accrued prior to donation to the trust, must be accounted for as the income is paid. This income is taxed at capital gains rates. After all such pre-gift capital gain is accounted for, then the income may be tax-free. Due to this rule, it is impossible for a CRT to pay tax-free income immediately following the donation of appreciated assets and the subsequent sale of these assets and reinvestment of the proceeds in tax-exempt bonds.

A 3.8% tax is imposed on net investment income for higher earning taxpayers. As a result, the distribution from a CRT characterized as ordinary income or short-term capital gains could be taxed at 40.8%; qualified dividends or long-term capital gains taxed at 23.8%.

Finally, after all ordinary income, capital gains and "other income" have been exhausted, the trust is deemed to have made tax-free distributions of principal. And this can happen in years in which the trust’s earnings performance is poor and it must nevertheless meet the trust’s percentage payout requirement.

Under the Uniform Principal and Income Act, which has been adopted by nearly every state, the trustee of a CRT may invest for a "total return," and the trustee has the power and duty to reallocate this total return annually to either income or principal. For instance, a portion of realized capital gains could be allocated to income, or a portion of interest could be allocated to principal, if the trustee concludes that a particular allocation is necessary to balance the interests of the income and remainder beneficiaries.

In response to the revised uniform act, the IRS issued regs in 2003 that revise the definitions of principal and income for purposes of IRC Sec. 643(b). Under these regs, charitable remainder unitrusts may allocate capital gain to income, but only under local law or the trust instrument itself, not the trustee’s discretion [Reg. Sec. 1.664-3(a)(1)(I)(b)(3)].

Also, the Uniform Prudent Investor Act, which has been adopted by a majority of states, permits the trustee to delegate the responsibility of day-to-day investment decisions, though not to abdicate oversight altogether.

Unrelated Business Taxable Income

Charitable remainder trusts that produce unrelated business taxable income (UTBI) will be taxed (a 100% excise tax) solely on the UBTI itself.

Gift Tax and Estate Tax Considerations

The present value of the charity's remainder interest is entirely deductible for gift tax purposes. However, a donor may or may not incur gift tax on the creation of a CRT (during the donor's lifetime) depending on the trust's named beneficiary.

If the donor is the only income beneficiary of the CRT, no gift of the income interest is made since the donor cannot make a gift to himself or herself.

If the donor’s spouse is the income beneficiary, any gift to the spouse is sheltered from taxation by the gift tax or estate tax marital deduction. This is true whether the spouse is the initial beneficiary (who has a right to payments from the trust right away) or a survivor beneficiary (who will receive payments after the death of the donor).

If a person other than the donor or spouse is an income beneficiary of the trust, then federal gift and estate tax may be owed. For example, if a non-spouse is named to receive current income, then the present value of his or her income interest is a taxable gift of a present interest. Up to $19,000 (in 2026 as indexed for inflation) of this value may be shielded from federal gift tax by using the annual exclusion.

The gift tax credit may also be used to shelter up to $15 million (in 2026, as indexed for inflation) in taxable gifts from the gift tax. If another person is a successor beneficiary upon the death of the donor, then the present value of the person’s income stream is included in the taxable estate, also subject to the applicable credit amount.

The present value of the charity's remainder interest is gift tax-deductible in the case of an inter vivos CRT, or estate tax-deductible in the case of a testamentary CRT.

Waiver of Spousal Election

In 2005, the IRS took notice of state law changes that posed a potential threat to CRTs. In common law states, surviving spouses generally have a right to "elect against" a deceased spouse’s will. The surviving spouse is entitled to the greater of what he or she would take under the will or some portion of the estate specified under statute. This election had been generally understood to reach only the decedent’s probate estate. However, some states dictate that the decedent’s estate subject to the spousal election included trusts the decedent created during his or her lifetime. The threat the IRS recognized was the loss of the qualification of a CRT given the possibility the trust could be invaded in order to satisfy the spousal election.

In Rev. Proc. 2005-24, 2005-16, I.R.B. 909, the IRS outlines a safe harbor to avoid potential loss of CRT status: The grantor’s spouse signs a written waiver to forgo any right to an elective share that includes the CRT. This waiver must be obtained at the time the CRT is established or else the trust is not qualified as a CRT. For CRTs established before June 28, 2005, a waiver is not necessary for the trust to be qualified. However, if the spouse does exercise an elective right against the decedent’s estate, the CRT will be disqualified retroactive to the trust inception.

Note the IRS requires a waiver executed on or before the date six months after the due date for filing the IRS form 5227 for the year in which the latest of the following occurs:

$image\bullet.jpg$ Creation of the trust

$image\bullet.jpg$ Date of the grantor’s marriage to the spouse

$image\bullet.jpg$ Date the grantor becomes domiciled in a jurisdiction whose law provides the right of election can be satisfied with assets of a CRT, or

$image\bullet.jpg$ Date of enactment of a state law creating a right of election against a will that includes CRT assets in the decedent’s estate.

In early 2006, the IRS reconsidered its requirements for a spousal waiver. In light of criticism from practitioners and commentators, the IRS has indefinitely extended the June 28, 2005 "grandfathered" status for CRTs so that a waiver is not necessary for the trust to be qualified. Notice 2006-15.

Administration of Charitable Remainder Trusts

Duties of a Trustee

The trustee of a CRT has a number of significant responsibilities, including:

$image\bullet.jpg$ Prudent investment of the trust assets

$image\bullet.jpg$ Payment of the income to the beneficiaries

$image\bullet.jpg$ Tax return preparation

IRS Form 5227 must be filed annually with the IRS. The 1041 K-1 must be given to the income beneficiaries summarizing their annual payments.

Donor as Trustee

The donor may serve as trustee, or may select another entity such as a bank or the charity. A survey by the Partnership for Philanthropic Planning suggests that the younger the donor, the more likely the donor will serve as trustee. The older the donor, it is more likely a fiduciary (e.g., bank, trust company, etc.) will be hired to serve as trustee, or the charity may be asked to be trustee.

Charity as Trustee

Applicable state law will dictate whether a charitable organization may serve as trustee. Where state law allows, the charity should serve as trustee only after careful consideration of the potential liabilities, administrative costs and with final approval by its board of trustees.

If the charity serves as trustee, it may hire an agent such as a bank to fulfill all or some of the trustee responsibilities. If an agent is hired, income checks may still be sent with a cover letter from the planned giving officer with news about the charity. The costs of trust administration may be paid for by the trust income and/or principal or assumed as an operating expense of the charity.

Institution as Trustee

An entity such as a bank or trust company can serve as the trustee. A donor who wishes to choose an institutional trustee should compare fees, investment policies, history, etc. An institutional trustee may be better qualified to manage certain assets (such as real estate) but may charge additional fees, depending on the trust's assets and the institution's level of expertise.

Charitable Remainder Trust Instruments

A charitable remainder trust is a legal entity with its own tax identification number.

In 2003 the IRS released model agreements for charitable remainder annuity trusts (CRATs), some of which were modified by subsequent provisions released by the IRS in 2016 in Rev. Proc. 2016-42 (as noted in the table, below). The model CRAT agreements come in eight variations, each with its own explanatory revenue procedure, as summarized in the following table:

	Inter Vivos CRAT	Testamentary CRAT
One measuring life	Rev. Proc. 2003-53,2003-31 IRB 230, as modified by Rev. Proc. 2016-42	Rev. Proc. 2003-57,2003-31 IRB 257, as modified by Rev. Proc. 2016-42
Term of years	Rev. Proc. 2003-54,2003-31 IRB 236	Rev. Proc. 2003-58,2003-31 IRB 262
Two consecutive measuring lives	Rev. Proc. 2003-55,2003-31 IRB 242, as modified by Rev. Proc. 2016-42	Rev. Proc. 2003-59,2003-31 IRB 268, as modified by Rev. Proc. 2016-42
Concurrent and consecutive interests	Rev. Proc. 2003-56, 2003-31 IRB 249, as modified by Rev. Proc. 2016-42	Rev. Proc. 2003-60,2003-31 IRB 274, as modified by Rev. Proc. 2016-42

"Concurrent and consecutive interests" means that two co-beneficiaries have concurrent lifetime interests, and the survivor succeeds to the entire annuity.

In 2005 the IRS released model forms for charitable remainder unitrusts (CRUTs). As with the CRAT models, the new CRUT models come in eight different variations, each supported by its own revenue procedure.

	Inter Vivos CRUT	Testamentary CRUT
One measuring life	Rev. Proc. 2005-52, 2005-34 IRB 326	Rev. Proc. 2005-56, 2005-34 IRB 383
Term of years	Rev. Proc. 2005-53, 2005-34 IRB 339	Rev. Proc. 2005-57, 2005-34 IRB 392
Two consecutive measuring lives	Rev. Proc. 2005-54, 2005-34 IRB 353	Rev. Proc. 2005-58, 2005-34 IRB 402
Concurrent and consecutive interests	Rev. Proc. 2005-55, 2005-34 IRB 367	Rev. Proc. 2005-59, 2005-34 IRB 412

Charitable Remainder Trust Advantages

Flexible Gift Plan

The charitable remainder trust is perhaps the most flexible of the available gift plans, allowing the donor many options.

Give the Tree, Keep the Apples

A CRT can pay an income to the donor or other income beneficiary for as long as he or she may live. It often permits the donor to make a major gift to a charitable institution $image\emdash.jpg$ and gain immediate federal income tax benefits $image\emdash.jpg$ without any loss of spendable income. It is a great arrangement for the donor who wants to make a significant charitable gift but does not want to lose the income that the gift assets can produce, especially when invested wisely.

Increase Retirement Income

A net income unitrust can help increase retirement income, especially when a make-up provision is included.

Gift of Income to Family Members

A CRT may also be used to help build an education fund for a grandchild $image\emdash.jpg$ or to support an elderly parent $image\emdash.jpg$ with favorable income tax consequences.

Converting an Appreciated Asset to an Income Stream

Appreciated property can be transferred to a charitable remainder trust, and sold by the trust without incurring any capital gains tax.

Attractive Alternative to a Charitable Bequest

A CRT created during life is an effective alternative to a charitable bequest, especially since a bequest produces no lifetime income tax benefits for the donor.

Tax Advantages of CRTs

$image\bullet.jpg$ A donor who itemizes may take an immediate income tax charitable deduction for the present value of charity’s remainder interest (subject to limitations), generally in the year that the charitable remainder trust is established. Part of the deduction may be deferred to future years if the AGI percentage limitation is a factor.

$image\bullet.jpg$ No capital gains taxes are payable at the time appreciated property is used to fund the trust.

$image\bullet.jpg$ A CRT is generally income tax-exempt unless it receives certain kinds of tainted income. Thus, the trust itself does not pay any federal income tax.

$image\bullet.jpg$ The donor (or other income beneficiary) receives an income for life or for a term of years from the CRT.

$image\bullet.jpg$ Income distributions made to noncharitable trust beneficiaries are taxed to the beneficiaries under the "four-tier system" for taxing trust distributions.

$image\bullet.jpg$ A CRT can reduce federal gift and estate taxes by transferring assets out of the donor’s estate. If the donor and/or the donor’s spouse is (are) the only income beneficiary(ies), then the assets donated to the trust escape federal gift and estate tax due to the unlimited charitable and marital deductions.

IRS Identifies a Transaction of Interest Involving a Charitable Remainder Trust

The IRS issued Notice 2008-99 which described a transaction of interest involving a charitable remainder trust. First, the grantor contributes appreciated property to a CRT. Next, the trustee sells the appreciated property and reinvests the proceeds in new assets. And the grantor and charity coordinate the sale of their interests in the CRT to a third party for approximately the fair market value of the assets within the CRT.

In the transaction of interest scenario, the grantor claims that IRC Sec. 1001(e)(1) the requirement to disregard basis in the case of the sale of a term interest—does not apply because the entire interest in the trust has been sold. Rather, under IRC Sec. 1001(a) and related provisions, the gain on the sale of the grantor’s term interest is computed by taking into account the portion of the uniform basis allocable to the grantor’s term interest under Reg. Sec. 1.1014-5 and 1.1015-1(b) with the uniform basis being the basis of the reinvested assets rather than the basis of the assets originally contributed to the CRT.

The IRS is concerned about the grantor’s claim of an increased basis in the term interest coupled with the termination of the CRT in a single coordinated transaction under IRC Sec. 1001(e) to avoid tax on gain from the sale or other disposition of the appreciated property. Notice 2008-99 requires parties to disclose these transactions and suggests further action might be taken consistent with labeling the transaction as a means of tax avoidance.

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