A charitable lead trust is a type of irrevocable trust that makes payments to a charitable organization for a set period of time and then transfers the remaining funds to other beneficiaries, such as family members.
This type of trust is essentially the opposite of a charitable remainder trust, which provides income to beneficiaries during your lifetime or theirs, with the remainder going to charity.
Charitable lead trusts, when set up correctly, can help reduce income tax, estate tax or gift tax for estates or their beneficiaries while providing a way to donate some of the estate to an organization the estate owner cares about. Here’s what to know.
Pros and cons of a charitable lead trust
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Terms and beneficiaries can’t be changed once the trust is set up. |
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Can be complex to set up correctly. |
How a charitable lead trust works
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The grantor (creator) funds the trust with assets that can include cash, real estate, publicly traded securities, some types of closely held stock and other complex assets. The tax consequences of moving assets into a trust can vary depending on the type of asset, and some may need to be sold eventually so the trust has enough liquid funds to make charity payments.
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The trust is set to a “fixed term,” which is a set amount of time during which the trust makes payments to a charity. The term can be a number of years, or it can be the lifetime of the grantor or their beneficiaries. Charitable lead trusts don’t have a mandatory time limit.
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Payments are sent to the charity or charities the grantor chose. The charity is called the lead beneficiary. There is no minimum or maximum amount required, as long as payments are made at least annually. Payments can either be set up as annuities (a specific, fixed amount) or unitrust (a percentage of the total trust fund).
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The remaining funds go to noncharitable beneficiaries (called remainder beneficiaries) when the term ends. The trust can even be set up so that the grantor receives the remainder — this would be called a reversionary trust. If the funds go to other beneficiaries, it’s called nonreversionary.
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Types of charitable lead trusts
You can set up either a grantor charitable lead trust or a nongrantor charitable lead trust. The type you choose can affect how you’ll pay taxes on the trust.
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Grantor Charitable Lead Trust |
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The grantor must pay income taxes on any investment income the trust earns during its term. |
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Nongrantor Charitable Lead Trust |
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Charitable lead trust vs. donor-advised fund (DAF)
Charitable lead trusts and donor-advised funds (DAFs) are two ways to donate to charitable organizations over time. Both can also reduce your estate taxes (if your estate is large enough to be subject to estate tax).
The main difference between charitable lead trusts and donor-advised funds is the flexibility to change the charity you want to donate to.
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Charitable lead trusts are irrevocable trusts, so it can be difficult or impossible to change the recipient once the trust is in motion.
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A DAF is managed by a sponsoring organization, but you generally can recommend which charities should get the money you put in the account.
You can actually use a charitable lead trust and a DAF together to maximize your flexibility and tax savings. First, you set up a charitable lead trust, then name an organization that sponsors DAFs as the lead beneficiary. Next, you recommend charities to the DAF sponsor. In that scenario, you’ll still be able to pass the remainder to your personal beneficiaries.
How do I set up a charitable lead trust?
