A charitable remainder trust (CRT) is a “split-interest” trust where a donor contributes assets to a charitable trust and receives a partial tax deduction for the charitable contributions.
The trust agreement appoints a trustee to manage the assets and pay an income stream to the noncharitable lead beneficiary. After the term ends, the trustee distributes the remaining trust assets (if any remain) to a Section 501(c)(3) charitable organization.
There are two types of CRTs:
Example of a Charitable Remainder Trust (CRT)
John Doe wants to form a charitable remainder trust to provide him with a current-year charitable tax deduction and a fixed income stream for a period of years.
John’s lawyer creates a Charitable Remainder Annuity Trust (CRAT), which will pay John an annuity of 6% of the net FMV of trust assets for ten years. At the end of 10 years, the trust will distribute any remaining assets to a Section 501(c)(3) nonprofit organization in Miami, Florida.
John contributed $2,000,000 in cash to the trust on January 1, 2023. John’s calculated charitable contribution deduction is $1.07 million for the 2023 tax year. John reports the charitable deduction on Form 1040 Schedule A (Itemized Deductions).
The trust will pay John an annual annuity of $120,000 (6% times $2,000,000). Each year, the trust must file Form 5227 (Split Interest Trust) and provide John with a Schedule K-1. John must report any income and deductions from the Schedule K-1 on his Form 1040 (US Individual Income Tax Return).
The type of income reported to John on his Schedule K-1 will depend upon the type of income earned within the trust. Under Section 664(b), the trust must follow strict ordering rules as to character of income distributed to beneficiaries. Income is generally distributed in the following order:1
- Ordinary income
- Capital gains and undistributed capital gains
- Other income
- Principal distributions
Charitable Remainder Trust vs. Charitable Lead Trust
With a charitable remainder trust, the charitable beneficiary is the “remainder” beneficiary because it receives the remaining trust assets at the end of the term. In contrast, a charitable lead trust (CLT) provides the opposite arrangement.
With a CLT, the charitable beneficiary receives the current income stream each year until the trust expires. So, the charitable organization is the “lead” beneficiary. When the trust expires, the trust distributes the remaining assets to the noncharitable remainder beneficiary.
Additional Information
Taxpayers can find more information on charitable trust arrangements on the IRS website.