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Thursday, May 2, 2024
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Case Studies |
The Ultimate Donor Advised Fund
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Case:
Juan and Maria Hernandez, ages 65 and 60 respectively, are successful produce farmers and own 200 acres of prime land on the outskirts of their local community. The land is currently being farmed and produces primarily a variety of fruits and vegetables. Because of the prime location of the land, Juan and Maria have decided to sell 20 acres in one-acre parcels to local developers. They desire to pass on the remaining 180 acres to their two children, who are now running the farming enterprise. Because they inherited the land from their parents over 30 years ago, their basis in the total 200 acres is only $20,000. In the current market, however, the land will sell for $50,000 per acre.
Juan and Maria are known throughout the local farming community as very generous people. They seem to always be the first in line to help fellow farmers in the event of natural disasters or personal tragedies. They instruct their workers to leave an abundance of crops in the field when harvesting so that one of the charities they support, their local food bank, will have crops to pick to provide for needy families. They are very fond of this food bank, having served as volunteers over the years. In addition, they have made substantial gifts for the past 10 years to supplement the charity's budget needs.
Question:
Juan and Maria, however, do have a couple of concerns. Since they are involved with a variety of charities, they would like to see the assets of the trust transferred to a number of charities when they pass away. In addition, they would like to have the right to change those charities over time should they so desire. Their other concern is that - since they are planning to choose a 5% distribution percentage - the trust will probably grow in value over the years. They would like the ability to distribute the growth of the trust to their favorite charities at any time throughout their lifetimes. They have heard of donor advised funds (DAFs) and are wondering if a charitable trust could serve in a like capacity.
Solution:
In discussions with the Director of Gift Planning at the food bank, Juan and Maria learn that they can retain the power in the unitrust document to change the charitable remaindermen. Therefore, at any time they can change (add, delete, change percentages of distribution) the charities that will ultimately receive the trust assets by written instruction to the trustee.
Further, Juan and Maria can make distributions from the trust during their lifetimes to specified charities. For example, assume that the value of the trust assets grows to $1.2 million and they would like to give the $200,000 growth in the trust to charity as soon as the growth occurs. Once again, by written instruction to the trustee, a partial distribution from a unitrust can be made and designated to any of their favorite charities. In essence, the trust can serve as the ultimate DAF wherein not only do they have the power to distribute trust principal to various charities during their lifetimes, but they also receive income from the trust for their lives as well.
What are the tax benefits of this arrangement? Based upon a $1,000,000 unitrust and 5% trust distributions, Juan and Maria will receive an income tax deduction of over $330,000. The capital gains tax on the sale of the property will be bypassed, which will result in tax savings of almost $200,000. They will receive income of $50,000 for the first year, and the income is projected to grow over their lifetimes. When they pass away, a substantial gift will flow to their favorite charities.
Last, and probably most important, they can use the trust as a conduit to make current gifts to their favorite charities whenever and in whatever amounts they so desire. Another side tax benefit is that Juan and Maria will receive an additional income tax deduction every time they give to charity from the trust. According to PLR 9550026, the tax deduction will be based upon their relinquished right to receive the net fair market value of the distributions made to charity.
By utilizing the charitable trust as the ultimate DAF, Juan and Maria are able to fulfill all of their objectives for making gifts to their favorite charities in the short term as well as the long term.
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