Malpractice Issues #7 in CRT Planning – Vaughn W. Henry

Sometimes it’s interesting to sit in the back of the room during a seminar on advanced estate planning and listen to concepts. It’s a great way to learn and observe presentation skills in order to make my own workshops easier to understand.  Unfortunately, some folks doing these seminars have only a loose grasp on the nuances of how charitable trusts really function; as a result, often learn what not to do.


In one memorable session, a stockbroker was pitching the CRT as a “capital gains by-pass trust” and told his audience that when clients contribute appreciated assets to a CRT they can completely avoid tax.  Then he suggested that the best replacement asset would be a bundle of tax-free municipal bonds.  His thinking was that by using a tax-free bond it would generate only tax-free income for the income beneficiary. 


The broker believed income from the CRT was tax-free “because, after all, it bypasses capital gains.”  In reality, the CRT only defers capital gains since annual payments are still taxed to the income beneficiary under the 4-tier fiduciary accounting system.  Using the broker’s proposed scenario of swapping $1 million of appreciated assets for tax-free income, the eventual payout on a 5% CRAT funded with appreciated stock or land with $100,000 of basis would result in eighteen years of payments taxed at 20%. Why? The unrealized capital gains have to be distributed and taxed before any tax-free income can be distributed.  The problem with investing in a tax-free bond portfolio is that the potential for growth is severely compromised in order to obtain the illusory goal of tax-free income.  In other words, it’s just plain dumb.  Plus, the IRS disqualifies any CRT where the trustee is obligated to use a tax-free bond or where any restrictive investment policies exist[Reg.1.664-1(a)(3)]


How do these misconceptions get a foothold?  Many professional advisors, despite all their talk about vast CRT experience, have never actually worked around a §664 CRT.  While most advisors have experience with the thousands of pension plans and millions of clients setting aside money in retirement plans, few have seen, much less understand, a split-interest CRT. 


As it turns out, the most reliable measure of client satisfaction with charitable planning is related to their advisors’ experience and level of sophistication.* 







The latest IRS data* on charitable remainder trusts lists only 85,000 active trusts filing required paperwork, most under $500,000 in value.  That’s not many trusts created since 1969, the first year that charitable remainder trusts were recognized.  With so few CRT’s in existence, it is difficult to obtain experience.  Nonetheless, after attending a short course, too many advisors profess expertise.  In reality, their new love of CRT’s has more to do with selling life insurance, annuities, or reinvesting assets in the market.  Whenever product is pushing process, the client is the one harmed. And, any advisor who does not put the client’s needs ahead of commissions, billable hours, or fees, should make sure his or her malpractice coverage is paid up.