"Cheating" the Tax Man

The holiday gifting season has come to an end. But it’s never too late, or too early, to talk about charitable-giving strategies. Particularly, longer-term strategies involving vehicles like charitable remainder trusts and their close cousins NIMCRUTs (net income makeup charitable remainder trusts), which can help clients achieve a number of financial objectives simultaneously: leaving a legacy, maximizing retirement income and reducing income and estate taxes.

The holiday gifting season has come to an end. But it’s never too late, or too early, to talk about charitable-giving strategies. Particularly, longer-term strategies involving vehicles like charitable remainder trusts and their close cousins NIMCRUTs (net income makeup charitable remainder trusts), which can help clients achieve a number of financial objectives simultaneously: leaving a legacy, maximizing retirement income and reducing income and estate taxes.

Indeed, NIMCRUTs seem to again be gaining favor with the wealthy for a number of reasons, says Kimberly Wright-Violich, the head of Charles Schwab’s charitable giving division. Those reasons? One, there is a lot of interest in philanthropy these days—in part due to the recent generosity of “symbolic leaders” like Warren Buffet and Bill Gates. Two, many wealthy individuals are liquidating real estate right now. Three, as demographics shift, more and more Americans are getting serious about preparing for their retirement-income needs, she says.

In fact, if you have a wealthy client who is planning to sell off a highly appreciated piece of property, or any other highly appreciated asset, like a family business, but who is five or more years away from retirement and doesn’t need the income now, a NIMCRUT may be just the thing. NIMCRUTs allow individuals to earn a charitable income-tax deduction on the asset placed in the trust, avoid capital-gains taxes on the sale of that asset and defer taking income from the trust until a set date or event takes place, thus allowing the value of the asset to accumulate and compound tax-free. In the end, IRS rules require that at least 10 percent of the value of the original asset must be left to a charity of the individual’s choosing and, each year, 5 percent of the value of the asset or, alternatively, the accounting income from the asset in the trust (the lesser of these two) must be paid out in income.

To get the full benefits of the NIMCRUT, the value of the investment must continue to grow without throwing off accounting income until the individual hits retirement age. “It’s like creating a private retirement plan,” says Mitch Drossman, managing director and senior financial-planning officer for U.S. Trust. “What separates a good performing NIMCRUT from a great performing NIMCRUT is the attention given to the underlying investments. You want to be able to generate sufficient return without income,” he says.

Typically, NIMCRUT assets might be invested in a zero coupon bond, a life-insurance contract or through a partnership, because the earnings from these investments can be trapped inside them until they are needed. Capital gains can also be actively managed to cancel out income, Drossman says.

But be careful about recommending these to clients, too. You have to be sure that, given the life expectancy of the donor, the income payments won’t deplete the principal before his or her death. It’s essential that “the expectations are realistic in terms of income payments, appreciation and preserving the balance that goes to charity,” says Wright-Violich.

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