|
Saturday, April 27, 2024
 |
Case Studies |
Low AFR Generates 107% Deduction
|
Case:
Jack Shaw was a highly decorated colonel in the service. He graduated from a military academy at age 22 and went on to serve his country for the next 20 years. After a successful business career, Jack finally decided to retire at age 65 to spend more time with his children (his wife passed away several years prior). In addition to his family pursuits, Jack was an active supporter of his alma mater, which was undergoing a multi-year capital campaign. In fact, in the year he retired, Jack created a Charitable Remainder Annuity Trust for the academy. He liked the tax benefits of such a trust, but more importantly he liked the fixed payments each year. Jack's 7% CRAT was funded in April of 1995 with $500,000. At that time, the AFR (Applicable Federal Rate, a.k.a. Rate of the Month) was very high, and thus the CRAT computation used the February AFR of 9.6%. As a result, Jack was entitled to a charitable income tax deduction of approximately $235,000 (47% of the original gift). For the next five years, Jack happily received his $35,000 a year from this CRAT. In addition to this CRAT payment, Jack had another $100,000 each year from his other investments. However, turning 70½ in 2000 caused Jack consternation because he had to begin taking Minimum Required Distributions (MRDs) from his IRA. His IRA had $2 million, and therefore his MRD was be about $85,000 that year. Jack is a simple man, and did not need or want all that extra income - or the extra tax liability! He has already provided for his children financially with bequests from his estate, so he wanted to investigate other uses of his excess income.
Question:
Jack wants to know the best way to lower his reportable income each year, make a current gift to his alma mater's capital campaign, and generate a large tax deduction.
Solution:
The planned giving officer at Jack's alma mater informed Jack about making a gift from his existing CRAT. Specifically, Jack would assign his entire interest in the CRAT to his alma mater. This act would result in the termination of the trust, and an immediate gift to the capital campaign. Furthermore, under the theory of PLR 9550026, Jack would be entitled to a charitable income tax deduction. The deduction would be calculated using a new gift date, the current age of the donor, and a current AFR. Because the deduction would be based on the value of the annuity stream, not the remainder interest, the lowest AFR was most desirable. As a result, his new charitable contribution was approximately $300,000 (60% of the original gift). Jack was astonished with the results. He transferred appreciated property worth $500,000, and, in the next five years, he received more than $175,000 of income and two tax deductions totaling $535,000! This was truly a win-win for Jack and his alma mater.
|
|
|
|
