The Swiss Army knife of financial planning

By Randy Neumann

According to Wikipedia, the term “Swiss Army knife” is “sometimes used metaphorically to describe usefulness, such as a software tool that is a collection of special-purpose tools.”  The online encyclopedia says the name “Swiss Army knife” was coined by U.S. soldiers because they had trouble pronouncing its original name, “Offiziermesser.”  The knife is in the collections of the Museum of Modern Art (MoMA) in New York and in Munich’s state Museum of Applied Art for its design.
Well, in personal financial planning, a charitable remainder trust (CRT) can be compared to the Swiss Army knife.  The Swiss Army knife can contain knife blades, tweezers, toothpicks, a corkscrew, etc.  And talk about being up to date, a year ago, Victorinox, the manufacturer of the “official” Swiss Army knife, came out with a cyber version that includes a laser pointer, a 32 GB detachable fingerprint USB flash drive and Bluetooth.
A CRT can provide tax savings: income, estate and inheritance, gifts to charities, income for life, and gifts to heirs with multipliers, et al.
Let’s start with the basics.  With a CRT trust, you can transfer cash and highly appreciated assets to the trust and, in return, you may arrange to receive income for life or a specified stretch of time (not to exceed 20 years).
Income may potentially be paid out of the CRT not only during your lifetime, but also over the lifetimes of your heirs.  Eventually, a percentage of the assets in the CRT go to charities or nonprofits of your choice.  In brief, the CRT gives you a chance to:
Enjoy a current income tax deduction
Avoid estate taxes on the gifted assets
Create an income stream
Achieve tax-free compounding of assets (until withdrawn from the CRT)
Sell assets with a low-cost basis without incurring capital gains taxes
The transfer of assets to a CRT qualifies as a charitable contribution, thereby allowing you to take an income tax deduction based upon the estimated present value of the remainder interest that will eventually go to charity.
Let’s say that you have a stock that is worth $100 for which you paid $10.  If you sell the stock, you would have to pay capital gains on $90.  The capital gains tax rate was cut during the Bush administration to a maximum of 15%.  Based on what’s going on in Washington these days, who knows where the rate will be in the future?  Capital gains rates have been as high as 60%.
So, not paying capital gains tax is a good thing that happens when you make a contribution to a CRT.
What about income?  To be recognized as valid by the IRS, the payout of a CRT must be at least 5%.  Although this amount can be increased, there is a trade-off between the upfront tax deduction and the stream of income provided by the trust enabling you to customize the program to fit your needs based on an acceptable formula.
CRTs can provide income for life for you and other beneficiaries; therefore, they can be considered retirement income vehicles.  Like any other retirement income vehicle, the assets in the trust are subject to market fluctuation, so if you’re concerned about running out of money before you die, you can guarantee payments through annuity contracts.
So far, so good.  You make a donation to a trust and, in turn, receive an income tax deduction.  You receive a stream of income over your life and the life of another beneficiary.  When you and your beneficiary (you can have more than one) die, a charity or multiple charities receive what’s left in the trust so your estate pays no tax on that asset.
Sounds too good to be true, but it’s not.  Why?  Because who gets the short end of the stick on this deal?  Your heirs.  Had you not funded the trust, received an income tax deduction, taken a stream of income over your life, and had not made a gift to a charity(ies), your heirs would have received something.
I say “something” because in most cases because there are transfer taxes to be paid that will reduce what you pass on to your heirs, so they wouldn’t get it all anyway.  But there a fix that can multiply what your heirs receive when you pass on.
Remember that stream of income that you are receiving from the trust?  Well, assuming your health is okay, you can use some of that income to buy a life insurance policy on yourself that will guarantee a specific amount of money to your heirs.  Furthermore, you can put this life insurance into a trust ensuring that the life insurance proceeds will not be subject to a transfer tax.
Talk about having your cake and eating it too!

The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for the individual.  Randy Neumann CFP® is a registered representative with securities and insurance offered through LPL Financial.  Member FINRA/SIPC.  He can be reached at 12 Route 17N, Suite 115, Paramus, 201-291-9000.

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