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Adding flexibility to charitable remainder trusts

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Charitable remainder trusts generally pay income beneficiaries a fixed amount or a fixed percentage of the trust's assets each year. That's not ideal for every client, though, so planners are increasingly turning to variations on these trusts, allowing them to better tailor income flows to clients' particular needs.

There are two main types of charitable remainder trusts: unitrusts pay income beneficiaries a fixed percentage of trust assets, while annuity trusts pay out a fixed amount. Among the unitrusts are net income with makeup charitable remainder unitrusts, or NIMCRUTs. "A NIMCRUT can be used if the donor does not have an immediate need for higher income," says Rob O'Dell, co-founder of Wheaton Wealth Partners, with offices in Wheaton, Ill. and Naples, Fla.

According to O'Dell, a NIMCRUT must distribute the lesser of the payout rate or the distributable net income (DNI). That's most often defined as interest, dividends, and rents less expenses, says O'Dell. If the distributable net income is less than the payout rate today, the shortfall can be made up later with a higher payout, once DNI exceeds the fixed payout rate.

O'Dell provides an example to show how this might work. "Suppose a donor gifts an asset to a NIMCRUT and selects a 7% payout rate," he says. "The NIMCRUT trustee could sell the asset and then reinvest the proceeds.”

As a reinvestment, the NIMCRUT trustee might select a balanced portfolio that pays 1% in interest and 1% in dividends, while posting 6% of unrealized appreciation. The trustee must then distribute the 2% DNI, which is less than the 7% NIMCRUT payout rate. Later, when the portfolio is restructured to produce more DNI, makeup payments can result in income distributions higher than the 7% payout rate.

For greater makeup income, a NIMCRUT might start with a heavy exposure to no-dividend stocks. "However," says O'Dell, "this could increase investment risk, which may not be desirable for the donor. From my experience, clients will not complain if they have to take 2% from their NIMCRUT."


Another variety of unitrust is the Flip CRUT , which starts out as a NIMCRUT. "A Flip CRUT trust document defines a trigger event, at which time the NIMCRUT will convert into a standard CRUT, with a fixed payout rate," says O'Dell. Trigger events can vary, but can include the sale of a trust asset, a specific age of an income beneficiary (such as retirement age), or the death of a beneficiary.

Flip CRUTs have become increasingly popular. "Most of the charitable remainder trusts I see now are Flip CRUTs," says Roger Lusby, III, managing partner in the Alpharetta, Ga., office of the accounting firm Frazier & Deeter. Flip CRUTs can be helpful for retirement planning purposes because the trigger event can be the planned retirement date.

After the trigger event takes place, the trust's income beneficiary will be assured of receiving the stated percentage of trust assets each year, regardless of the trust's actual DNI. "Low yields have changed the investment approach," says Lusby. "With a Flip CRUT, it's possible to increase the beneficiary's income without limiting the investments within the trust."

Donald Jay Korn is a contributing writer at Financial Planning.

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