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Monday, April 29, 2024
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Case Studies |
Gift of Philanthropy to Two Sons
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Case:
Lorraine Moore, a widow age 75, has an estate valued at $1 million. Her estate consists of her home valued at $100,000, liquid investments of $400,000 consisting primarily of bonds and some stock and an apartment building valued at $500,000. As a former high school history teacher, she lives comfortably with her pension and the income from her investments. The apartment building generates an income stream of about $20,000 per year after expenses. However the property is continuing to age and, because of recurring repairs, she is growing tired of dealing with the responsibilities of the day-to-day management. Her husband, who actually enjoyed taking care of the property during hie retirement, passed away five years ago. He knew many of the tenants personally and, in many cases, was the handyman handling most of the repairs.
Lorraine has lived in Fargo, North Dakota, most of her life, but would like to purchase a winter home in Arizona to escape the harsh winters. However, managing the apartment building has kept her tied closely to the property. She has fully depreciated the building and her adjusted basis in the property is only $25,000. She thought about selling the apartments a number of times, but was always discouraged by her CPA due to the capital gains tax problems. Lorraine just never could justify paying almost $75,000 in tax to sell the property. Apart from the tax bite, she would love to unload the property and be free from its burdensome responsibilities. In fact, she recently received a tentative offer of $500,000 on the apartments and, even though she has not formally accepted the offer, is seriously considering selling.
Lorraine has continued in her retirement to tutor high school students at the private high school where she taught many years ago. She has made contributions to the school and to other community-related organizations and would like some of her capital to be preserved for these types of organizations when she is gone. Lorraine's two sons, who both teach at the private school in Fargo, have many ambitions and charitable interests. She would like them to have control of some of the capital of her estate for charitable purposes after she passes away.
Question:
Lorraine wants to sell the apartment building, but she would like to avoid the capital gains tax. Because she is receiving income from the property, she would like to continue to receive income from the sales proceeds. Finally, she would like her sons to retain some control over the proceeds of the sale when she is gone. In other words, Lorraine would like the family to administer the estate's "social capital."
Solution:
She told her desires to the Director of Major Gifts, Timothy Carlson, at a local charity. Timothy said that these concerns could all be addressed by using a charitable remainder trust. The charitable trust would be funded by the apartment buildings, which then would be sold within the trust, thereby bypassing the onerous capital gains taxes. Timothy stated that she would have the option to choose the distribution percentage on the trust. After discussing the options with her, Lorraine chose a 6% payout percentage. Therefore, she will receive a charitable income tax deduction of over $275,000. With her 31% income tax bracket, this will produce income tax savings in excess of $90,000. And, because she chose a payout rate of 6%, she can expect to receive an annual distribution of $30,000 per year, which, based upon projected trust earnings, may increase in future years.
Lorraine was very impressed with these benefits - great lifetime income, a tax deduction and bypass of capital gains taxes. But how would the trust preserve the family's social capital? Timothy replied by stating that the trust must have a charitable remainderman. In other words, when she passes away, the trust assets must then be transferred to a qualified charity. He suggested that the trust could eventually be distributed to charity for a donor advised fund (DAF) under her family's name. Since her sons have the same charitable interests as Lorraine, they would be given the right to direct those assets held by the DAF to various charities for a specified period of time, such as 10 years after Lorraine passes away. In this way, they would control the family's social capital for a number of years after Lorraine's passing.
Lorraine was delighted with the charitable remainder trust concept. She not only is able to fulfill her financial and tax-related goals, but also is able to preserve her family's social capital.
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