Take Advantage of Low Interest Rates with a Charitable Lead Trust

Low interest rates have really smacked investors around for several years. But if you have a taxable estate, you can use a Charitable Lead Trust to actually take advantage of low rates. If you do, you can “stick it to the man”, save a boat load of money on estate taxes and at the same time make very large tax-free gifts to your beneficiaries. Do I have your interest yet? I thought I might.

The way very low interest rates help you is through the use of “CLATs” – Charitable Lead Annuity Trusts. Don’t worry. It’s not as complicated as it sounds and you don’t need to invest in annuities in order to take advantage of this gem. Using this “CLAT” you make an annual gift to a charity for 10 or 20 years. And when you pass away your heirs really cash in – deluxe style. Let’s go through an example together.

Let’s say you have a large taxable estate and you want to do something about it. You take $500,000 and you put the money into a “CLAT” which will benefit a charity of your choice over the years (you’ll see how in a minute). You don’t mind helping the charity but your main goal is to pass on as much money as possible without incurring estate, income or gift tax. Let’s see how this works.

You’ve funded your trust with $500,000. In order for the CLAT to work, the IRS requires that you pay out that $500,000 plus interest to the charity over the life of the trust. The “plus interest” is the most important part of this and it’s how you leverage this gift to your heirs. Don’t worry. This will all be crystal clear to you in 2 minutes. Back to the “plus interest” issue.

The government determines the interest rate you have to use though the tax code. This is called the “7520 rate” which is likely the section of the tax code where this is mandated.

The rate changes all the time and right now it’s 1%. That’s why this is a prime time to get going on this idea. Let me explain further.

Remember, you are obligated to give the charity $500,000 over 20 years plus interest. Since the interest is only 1% the IRS isn’t expecting (or requiring you) to give the charity much more than the $500,000. In fact, under the current interest rate, you have to give xxxxx per year to the charity. If you do that, you’ve fulfilled your obligation and your heirs get whatever is left over tax-free. This is where it gets interesting.

Using the CLAT, you can invest your $500,000 any way you like – as long as you pay out $27,700 per year to the charity. Since this is a 20 year investment, let’s say you decide to invest the money in a balanced mutual fund and let’s assume that the money grows at 6% on average over that 20 year period. If that’s the case, you’re going to have $584,325 left over after you’ve paid out the money to the charity. And that left over amount can go to any heir you like completely tax free.

Even though interest rates are very low, if you look hard enough you can find a way to use those low rates to your advantage – especially if you are concerned about estate taxes. What are you doing to take advantage of current low interest rates? Do you think this “CLAT” idea would be helpful to you?