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Sunday, May 5, 2024
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Case Studies |
A CRT as the Guarantor of a Charity's Loan
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Case:
Jennifer Lange, age 65, is a retired stockbroker who has remained active in the markets ever since her retirement five years ago. She never married and has one surviving brother who now is 75 years of age. Apart from her brother and his two children, she has no immediate heirs. Jennifer has been very successful in her investing, having purchased stock in a number of computer and chip companies in the late 1980s. Her strategy to buy and hold has yielded great dividends, as she has seen an original portfolio of $250,000 balloon to $1,000,000. Apart from this portfolio of computer stock, she has another $500,000 in much more conservative balanced mutual funds.
Jennifer has been active in a small charity which deals primarily with abused and neglected children. Apart from her annual gift of $10,000, she has been volunteering at the facility about 20 hours per week. The charity has been desiring to expand their facility for a number of years because of the tremendous demand to care for children, but they have been unable to do so. Even though their facility is currently paid for, the banks are very hesitant to loan them any money because of their up-and-down cash flow. In order to borrow the sum that they need, approximately $250,000, the banks require additional collateral.
Jennifer has been in discussions with the Development Officer, Thomas Adams, at the charity in regards to creating a charitable remainder unitrust for herself to provide lifetime income. She is considering funding the trust with $500,000 of the highly appreciated computer stock and would name this charity as the remainderman. She would like to receive $35,000 per year and, therefore, would choose a 7% payout rate. Jennifer likes the economic benefits of the trust - bypassing capital gains taxes on the initial sale, increased income and an up front charitable income tax deduction - but also would love to help the charity. She feels that based upon her life expectancy the charity will not have access to the trust principal for many years to come. Jennifer would like to see the charity benefit now.
Question:
Is there some method whereby the charity could benefit currently from the unitrust? Jennifer would like to keep the trust principal intact, but is interested in allowing the charity in some way to have access to the $250,000 they currently need for the facility expansion. What, if anything, can be done to meet this objective?
Solution:
Thomas, a former paralegal with a firm specializing in taxation, was intrigued by Jennifer's questions and decided to do some research. In researching his various tax databases, he came across a very unique private letter ruling - PLR 8823057. In this particular ruling, the trustees of a unitrust were granted the authority under the provisions of the document to guarantee loans made by third parties to the remainderman. In the event of default on the loan, the instrument permits the trustee, in its discretion, to sever the pledged assets from the trust principal and deliver those assets to the creditor. Furthermore, securities belonging to the trust would be deposited into an escrow account maintained by a third party creditor in order to guarantee a loan to the charitable remainderman. In the event of the remainderman's default, some or all of the assets in the escrow account may be delivered to the third party creditor to satisfy the charity's obligation.
This technique of guaranteeing a loan by the trust could work very well with Jennifer's unitrust. Her unitrust document would be drafted with the guarantee provisions outlined above. A bank would then loan $250,000 to the charity which would be guaranteed by the unitrust assets. If the charity did ever default, the pledged assets would then be used to satisfy the loan.
Upon hearing this, Jennifer actually wasn't too concerned as she knew the charity was fiscally responsible. After all, she was currently serving on the board! However, she stated that she would be more than happy to 'step up to the plate' and make the appropriate contributions to cover any payments during her lifetime. Of course, because of self-dealing concerns, her contributions would be undesignated and not earmarked for this purpose. Upon her death, the trust principal would then be distributed to the charity which would satisfy the loan obligation in full at that time.
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