By Cary B. Stamp CFP®, CDFA™

Charitable remainder trusts (CRTs) are a strategy used to convert an appreciated asset into an income stream with the remaining interest passing to a charity. Donors defer paying tax on the appreciated asset’s sale, plus they get an immediate tax deduction for the amount that will ultimately pass to the charity.

The arrangement is irrevocable. But that doesn’t mean the funds are locked up for life.

For example, a divorcing couple who has a CRT can simply terminate the trust and split up the assets between the income beneficiaries and the charity.

However, there is an alternative to trust termination that could result in more money going to the income beneficiaries …

Clients could sell the income interest of their CRT for a lump sum cash payment. A sale is relatively easy to execute, and buyers are out there. In a Florida divorce case, this means that a CRT could become a cash asset that could be divided between the parties. Instead of having to wait for a stream of payments, the marital estate could have additional liquidity if needed. It is also important information to have when valuing the income interest in marital settlement negotiations.

First you need to determine if there is a market for your client’s CRT. Buyers generally don’t require sellers submit to medical underwriting. But if your client has a terminal illness, it could be difficult to find a buyer.

And you must be sure that the trustee will consent to a sale and all income beneficiaries will agree to sell their interests.

The next step is …

Determining Value

The market value on the income interest for a CRT depends primarily on the expected size and frequency of the payments.

Plus a buyer might consider additional factors, such as:

• Current value of trust assets
• Payout rate
• Number of remaining payments
• Expected investment return
• Tax rate on future payments
• Assets in trust — liquid or illiquid
• Age of income beneficiaries

Tax Implications

Income from a CRT is generally taxed as ordinary income, which could be as high as 35%.

However, since this is a sale of a capital asset the proceeds are considered capital gains. That means if the asset has been held for more than a year, it would qualify for long-term capital gains treatment. The maximum federal long-term capital gains tax rate for 2011 is 20%.

Clients would be selling the income interest. The remainder interest is given irrevocably to charity when the trust is created. It is this gift which gives rise to the initial tax deduction. The sale of the lead interest does not change the fact the remainder is still assigned to charity. So clients will not lose the original charitable tax deduction.

To Sum It Up

With a potential greater lump sum than the net present value of their remaining interest and a lower tax rate on the distribution, it makes sense to inform divorcing clients who have CRTs that they might benefit from a sale of their CRT.

In most cases a CRT sale can be completed in a matter of a few weeks from the date at which all the information is made available and a decision to sell has been made. Clients will receive full payment upon closing. If there are complicating factors, the sale can take longer.

The market for these interests is, and probably will remain, a specialized niche. Also, each transaction must be evaluated on its own merits, and an appropriate buyer matched with a seller.

Give me a call to discuss your case. I’ll be glad to review its potential for a sale, help secure a commitment from a buyer and put together a presentation for your client.