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Sunday, May 5, 2024
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Case Studies |
A Guardianship CRT
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Case:
Franklin Roth is Sr. Vice President of a Major National Bank ("Bank"). The bank is currently acting in two fiduciary capacities with respect to Johnny Persons, who has been adjudicated mentally incompetent by the courts. First, the Bank is guardian of Johnny's estate. Second, the bank serves as trustee of an irrevocable trust (IRT) created for Johnny's benefit. The IRT was created by a decree of the Court ten years ago and was funded with cash from a substantial insurance settlement. Johnny suffered serious head injuries when he and his wife were hit head-on by a drunk driver which left him in an incompetent state. This trust was intended to protect Johnny's assets and ensure that they are used for his benefit. Johnny's wife was tragically killed in the accident.
Franklin knew Johnny before he was involved in this serious accident. Johnny was Vice President of a competing bank in town and they had established a friendship through their banking relationship. They would often play golf together on the weekends and they and their wives had taken a vacation or two together. In the times they played golf together, Johnny would discuss his charitable activities. He was involved in inner city projects both financially and as a volunteer and had a passion for the education of underprivileged children. Franklin learned that Johnny and his wife were planning to set up a charitable remainder trust to benefit underprivileged children and had discussed the trust with their attorney. The attorney was just beginning to draft the trust document when the accident happened.
Question:
Since the Bank is guardian of Johnny's estate and is appointed by the Court to provide estate planning, Franklin asked the bank's attorney whether a charitable remainder trust could be set up to provide income to Johnny's IRT for his lifetime. Upon Johnny's death, the charitable trust assets would be distributed to those charities that provide for the educational needs of underprivileged children. The primary questions raised by Franklin are as follows: Can a charitable remainder trust created under a court-supervised guardianship for an incompetent individual qualify as a charitable trust? Further, can the distributions of such a charitable trust be payable for the incompetent individual's life to another trust (Johnny's IRT) established by the courts for the incompetent individual?
Solution:
In response to these questions, the bank's attorney researched tax law and came up with the following observations and conclusions. Section 664(d)(2) of the Internal Revenue Code sets forth the requirements to be a charitable remainder unitrust. Section 664(d)(2)(A) provides that a fixed percentage (which is not less than 5 percent nor more than 50 percent) of the net fair market value of its assets, valued annually, is to be paid, not less often than annually, to one or more persons (at least one of whom is not an organization described in section 170(c) and, in the case of individuals, only to an individual who is living at the time of the creation of the trust) for a term of years (not in excess of 20 years) or for the life or lives of such individual or individuals. Section 1.664-3(a)(3)(i) of the Income Tax Regulations provides that the unitrust amount must be payable to or for the use of a named person or persons. As defined in section 7701(a)(1), "person" includes an individual, a trust, estate, partnership, association, company or corporation. Section 1.664-3(a)(5)(i) provides, however, that only an individual or an organization described in section 170(c) may receive an amount for the life of an individual.
The attorney in his research also came across Revenue Ruling 76-270. This Ruling holds that an otherwise qualifying charitable remainder trust may make distributions to a second trust whose only function is to receive and administer those distributions for the benefit of an incompetent person. This person is the named individual lifetime beneficiary of the charitable trust, and distributions are treated as made directly to the individual. Therefore, the trust qualifies as a charitable remainder trust.
Therefore, based on the information submitted and the representations set forth above, the attorney concluded that a charitable trust will qualify as a charitable remainder trust pursuant to section 664 and may make unitrust distributions to the IRT for Johnny's lifetime.
As a result of these conclusions, Franklin, on behalf of the bank, obtained approval from the local probate court to fund the charitable remainder trust with $1 million of highly appreciated securities in Johnny's estate. This trust will make distributions to the IRT for Johnny's lifetime. Upon termination, the trust assets will be distributed to those charities which benefit underprivileged children throughout the local area. These are the charities which most likely would have been chosen by Johnny and his wife. Franklin is gratified to know that his friend's charitable wishes have been fulfilled.
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