How would you like to escape a hefty capital gains tax on property that has appreciated tremendously, get a charitable gift tax deduction, create a steady income for the rest of your life, and remember your favorite charity after you die? It may seem crazy to think that all of those goals could be tied up in one legal instrument, but they can. By establishing a charitable remainder trust you would achieve each of these goals.

How Charitable Remainder Trusts Work

Let's say you have shares in IBM that you received as a gift when you graduated from college. Over the years, with splits and steady market growth, the shares are now worth $25,000. The cost basis is so low that were you to sell the shares, virtually the entire sale price would be subject to capital gains tax. Rather than having them sit there continuing to appreciate in value, only providing you dividend income, you could gift them into a charitable remainder trust designating your favorite charity as the ultimate beneficiary. Maybe you are a big fan of the work done by the Boys and Girls Clubs of America. An irrevocable trust could be created in which the Boys and Girls Clubs would become the owner of the IBM shares. You would work out a guaranteed income stream for you and your spouse for the rest of your lives, or a limited timeline. Since the charity is tax exempt, the IBM shares can be sold without paying the capital gains tax and 100 percent of the trust value goes to work generating income for you. Your financial planner can invest 100 percent of the proceeds in a diversified portfolio and pay out income to you according to the terms of the trust. The income can be established either as a fixed dollar amount that never changes or as a percentage of the value of the holdings in the trust, say 5 or 6 percent annually. When you, the donor to the trust, pass on, the property becomes the sole possession of the charity, the Boys and Girls Club in this example.

Incredibly, you can also take an income tax deduction at the time you set up the charitable remainder trust. It is a bit complex determining the figure. Basically, it is the net of the projected value of the holdings of the trust when they transfer to the charity less the distributions forecast for you to receive.

Versions of Charitable Remainder Trusts

There are two versions of charitable remainder trusts: an annuity trust and the uni-trust. The annuity trust pays out a fixed amount set at the inception of the trust. No changes are made in this amount regardless of what happens to the value of the holdings. No additional property can be added to the annuity trust. The uni-trust is structured to make regular payments based on a percentage of the value of the trust. The donor enjoys the growth, but also suffers with down periods. Additional property may be added to the uni-trust.

You can retain control of the assets in the charitable remainder trust. The property in the trust does not generate either estate or gift taxes because the charity becomes the owner outside of your estate. You might consider taking the money you will be saving in income tax savings and capital gains tax avoidance to purchase a life insurance policy that is also outside of the estate for tax purposes. In this way you can replace for your heirs the value of the gifted assets.

Additional Options

If all of this seems a bit too complicated, you can always make an outright gift of appreciated property to your favorite charity. This maneuver shields you from capital gains tax, and allows you to make a larger gift. To use the $25,000 in IBM shares again as an example, if you sold them and paid the capital gains tax you might realize about $20,000 after taxes. If you were to give the shares to a tax-exempt charity it can sell them and keep the entire $25,000. You should be able to get the full value of the $25,000 as a charitable contribution for your own taxes.