Charitable Remainder Annuity Trust (CRAT)
A Charitable Remainder Annuity Trust (CRAT) is a type of gift transaction in which a donor contributes assets to a charitable trust which subsequently pays a fixed income to a designated beneficiary, in the form of an annuity. A Charitable Remainder Annuity Trust (CRAT) is a type of gift transaction in which a donor contributes assets to a charitable trust which subsequently pays a fixed income to a designated beneficiary, which can be a non-profit entity, a university, or another such party. Beneficiaries receive a fixed income from the CRAT in the form of an annuity, which is typically calculated as a fixed percentage of the initial value of trust assets. Note: although the trust itself is a tax-exempt entity, the trust income distributed to beneficiaries is in fact taxable, according to terms dictated by the U.S. Internal Revenue Code and accompanying U.S. Treasury regulations.
What Is a Charitable Remainder Annuity Trust (CRAT)?
A Charitable Remainder Annuity Trust (CRAT) is a type of gift transaction in which a donor contributes assets to a charitable trust which subsequently pays a fixed income to a designated beneficiary, in the form of an annuity. The value of the annuity is calculated as a fixed percentage of the initial value of trust's assets, but that amount must be no less than 5%. A CRAT lasts until the donor passes away, at which time any funds remaining in the trust are then donated to a charity pre-chosen by the donor.
CRATS offer a sense of reliability, in that their beneficiaries enjoy a guaranteed income stream every year, where the amount received never fluctuates — regardless of the trusts' investment performance. For example, a CRAT with an initial value of $4,000,000 and a 5% payout would pay $200,000 annually to the income beneficiary, regardless of the returns of the underlying assets and economic conditions.
CRATs are similar to other charitable annuities, with one chief difference: CRATs are structured as a separate trust fund, which consequently shields them from incurring any liability, due to their autonomous legal structures.
Note: although the trust itself is a tax-exempt entity, the trust income distributed to beneficiaries is in fact taxable, according to terms dictated by the U.S. Internal Revenue Code and accompanying U.S. Treasury regulations.
How a Charitable Remainder Annuity Trust (CRAT) Works
To create a CRAT, a trustee, such as an accountant, financial advisor, or attorney helps donors design the terms of the entity. The assets in the trust are then sold, without triggering a taxable event, which consequently increases the assets’ income potential. The proceeds of the sale of the underlying assets are then reinvested into investments that are more suitable for generating income for donors.
Because the annuity payments doled out by CRATS are fixed and must immediately begin after the creation of the trust, the underlying assets within the structure must be kept highly liquid.
While these trusts typically last for a term that equals the lives of an individual or the combined lives of a couple, the terms can also be determined not to exceed 20 years, or they can be calculated as a combination of a certain number of lives plus a certain number of years.
Income tax consequences for the donor can be complex, depending on the individual situation. All or some of the income from the trust may be taxed at ordinary income rates, but part may be taxed at lower capital gains tax rates, or may even be tax-free, for some years.
Related terms:
Annuities: Insurance for Retirement
An annuity is a financial product that pays out a fixed stream of payments to an individual, primarily used as an income stream for retirees. read more
Charitable Gift Annuity
A charitable gift annuity is an arrangement for a series of income payments for life, to be paid to an individual in return for a donation of assets. read more
Charitable Gift Life Insurance
Charitable gift life insurance is a method of contributing to charity by taking out life insurance on yourself with the charity as a beneficiary. read more
Charitable Donation
A charitable donation is a gift of cash or property to a non-profit organization. American taxpayers can deduct such donations up to an annual cap. read more
Charitable Remainder Trust
A charitable remainder trust is a tax-exempt irrevocable trust designed to reduce the taxable income of individuals and support charities. read more
Pooled Income Fund
A pooled income fund is a type of charitable trust. read more
Qualified Personal Residence Trust (QPRT)
A qualified personal resident trust (QPRT) is a type of trust that allows its creator to remove a personal home from their estate. read more
Taxable Event
A taxable event is any financial action or transaction that may result in taxes being owed to a federal or local government. read more
Trust Fund : Types & How They Work
A trust fund is a legal entity that holds and manages assets on behalf of another individual or entity. read more