Charitable Remainder Trust: Meaning, How It Works

A charitable remainder trust is an irrevocable trust that pays income to the donor or other noncharitable beneficiary for a set period. Whatever is left after that time period, called the remainder, goes to charity^[0]

This type of trust is often called a “split interest” trust because it splits payments between charitable and noncharitable beneficiaries. It works in the reverse of a charitable lead trust, which supports a charitable organization first and then passes the remainder to personal beneficiaries such as family members.

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Once it’s set up, a charitable remainder trust can be a source of predictable income for you or your loved ones that also benefits charitable organizations you believe in. There are tax benefits, as well. Consider working with financial professionals with relevant expertise to ensure everything is done correctly and meets your goals.

1. Identifying beneficiaries 

The person setting up the trust — called a grantor — will have to decide who will receive income from the trust and for how long. Charitable remainder trusts can provide income for a term of up to 20 years or for the life of one or more beneficiaries, which could be the grantor or others, such as a spouse, children or grandchildren.

After the time has passed or the beneficiary has died, the remainder of the trust will be dispersed to the designated charitable organizations. That remaining amount must be at least 10% of the initial fair market value of the assets placed in the trust.

2. Understanding the tax implications

When you set up a charitable remainder trust, you’ll see a few tax benefits.

• Partial charitable deduction: You can make an income tax deduction when you transfer assets to the trust. The size of the deduction depends on the value of the “remainder” of the trust that’s intended to go to charitable organizations.

• Reduced estate tax liability: Assets moved to the trust will no longer be considered part of your taxable estate. A charitable remainder trust is an irrevocable trust, meaning once you put the assets in, you can’t change your mind and take them out.

• Tax-free investment growth: Investments held by the trust are tax exempt, so once they’re sold, the trust won’t pay taxes on the earnings. 

• Deferred income taxes: Keep in mind that noncharitable beneficiaries do pay taxes on the income they receive from the trust. But because the trust is tax exempt, the taxes owed are deferred until that income is distributed, which allows you to spread out the tax liability over time.

3. Setting up the trust

Setting up a trust can be a complicated process. Here’s what the process entails:

• Selecting a trustee to manage the trust. This can be a friend, family member or a third party, such as a bank. It’s up to the trustee to ensure your or your beneficiaries receive income from the trust every year.

• Funding the trust with assets, including cash, real estate, publicly traded securities and certain types of closely held stock, bonds and other investments.

• Drafting a trust deed with an estate planning attorney or other financial professional. In some states, you may need to register your charitable trust with a government agency such as the state attorney general or secretary. 

Each year, the grantor or trustee will fill out tax forms annually for the trust, typically IRS Form 990. You may also have to fill out a split-interest trust return, IRS Form 5227, or a trust return, IRS Form 1041 or 1041-A^[0]

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Charitable remainder trusts can be structured as a fixed amount like a regular, annual salary (annuity trust) or as a percentage of the trust's total value (unitrust).

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