Dear AAS Member,
The American Astronomical Society is a non-profit organization that carries out its programs through a variety of programs that benefit both astronomy and its members. While the Society is very dependent on its membership dues, it also benefits, as other similar organizations do, from the generosity of its members. That generosity takes many forms, including annual contributions and gifts of many kinds. One of those avenues of support is gifts through wills and charitable trusts that can be set up as our members get older.
I would like to describe to you a procedure that will accomplish several things simultaneously -- (1) getting the value assets out of your estate, tax-free, when you die; (2) making a charitable donation to a non-profit institution (the AAS, of course!); and (3) leaving to your heirs the approximate equivalent of the amount that you left to charity. It is called a Charitable Remainder Annuity Trust (CRAT), combined with an Irrevocable Life Insurance Trust (ILIT), and here is how it works.
You create an irrevocable Charitable Remainder Annuity Trust document, select a payout rate (must be 5% or higher), and select a Trustee to whom you transfer the high-capital gain, low dividend stocks. The Trustee sells the stocks and reinvests the proceeds in investments that have higher income rates of interest (e.g., bonds, selected REITs, utilities, high yield mutual funds, etc). This is the CRAT. The CRAT will be exempt from income taxes at the Trust level. The Trustee you designate can buy and sell the assets of the Trust without recognizing any capital gain on the Trust. The income of the Trust (and principal, if needed) comes to you at the payment rate you selected until you die and you are responsible for paying tax on it. After your death, the Trustee transfers the remaining principal of the Trust to the one or more charitable institutions that you designate (including the AAS, of course!). For the year you create the CRAT you get a deduction on your income tax return for the value of the future remainder charitable donation you will be making. That deduction is not at 100% of the assets transferred because the amount of the deduction -- its remainder value -- is equal to the present value of the assets less the present value of your right to receive a stream of income appropriate to your life expectancy. Under certain conditions the deduction can be considerable and can be carried over up to five years if the deduction cannot be used in the first year.
For those of you who have children or other heirs who might be concerned about your donating their inheritance to charity, you can have it both ways. There is a way to replace the assets that will go to charity (think AAS!) free of estate tax. If you are in good health and can pass a life insurance physical, then part of the income from the CRAT can be used to purchase a life insurance policy on your life, owned by the ILIT that you create at the same time, and held perhaps by the same Trustee. When you die, the principal of the CRAT goes to charity and the proceeds of the life insurance are paid to your children or heirs and it is not taxable to them. If you elect to create the CRAT, it will involve making annual gifts (by means of a process called Crummy Letters) to your children, grandchildren or heirs who are given a withdraw power that they elect not to use. Their refusal makes the gifts qualify for the current $11,000 annual gift tax exclusion and enables the premium of the life insurance policy to be funded by the Trustee.
There are obviously variations in the procedure that you can tailor to your own situation, such as taking out a second-to-die life insurance policy on yourself and your spouse, or not doing the life insurance trust if there is no consideration of heirs (in which case you wind up with a higher annual income from the CRAT and still get the income tax deduction). There is a Trust variant called a Charitable Remainder Unitrust (CRUT) that helps to keep up with inflation by providing a payment each year of a fixed percentage of the trust assets' current market value and to which you can make future additional gift contributions.
There are costs and possible adverse considerations to using the CRAT/ILIT combination, of course, including the lawyer's fee to be assured of good legal advice on setting them up (probably $2-4K), your state of health (affects premiums on the life insurance), heirs who may be reluctant to give up their annual Crummy withdrawal right, a reluctance to lose the previously unencumbered income from the low yield assets that you donated to the CRAT, a restriction that prevents you from making additional contributions to the CRAT, etc. In addition, the CRAT only provides a fixed dollar amount annually, but since the insurance premium is constant and your income tax on the CRAT income is approximately constant, that is not a bad problem.
Despite these considerations, the advantages to you are significant, and include getting assets out of your estate, a year or so of income tax deduction, the warmth of a donation to charity, and maintaining provision for your heirs. The advantages to the charity recipient are obvious (think AAS!) but they must wait until you die. The advantage to your heirs includes not having to pay estate taxes on the appreciated value of the stocks you choose to fund the CRAT, and there is no tax on the principal of the ILIT which goes to your heirs. Choosing a family member or a close friend to act as Trustee might cut the administration fees that a bank or other Trustee might charge.
If you want more details, you should really seek the legal assistance of an estate lawyer. If you don't know one, my personal estate lawyer has volunteered to suggest the names of estate lawyers near you who are members of the ACTEC (American College of Trust & Estate Counsels). Send me an Email with your address (city, state and zip code), and I will send you one or more names of these legal specialists who practice near you, for your consideration.
William E. Howard III, (email@example.com)
Director of Planned Giving