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Renewal of IRA Gift Provision for 2010 Expected

On March 10, 2010, the Senate voted to approve a House measure (HR 4213) extending through 2010 the law permitting IRA owners age 70½ and older to make qualified charitable distributions (QCDs) of up to $100,000.  The bill still requires action by a House-Senate reconciliation committee and signature by President Obama. In 2006 through 2008, QCDs had the advantage of counting toward a donor’s required minimum distributions.  However, minimum distributions were waived during 2009 under the Worker, Retiree and Employee Recovery Act of 2008.  Renewing the moratorium on RMDs for 2010 has been discussed in Congress but no legislation has materialized. 
 
Assuming RMDs are required in 2010, they can be satisfied by donors’ QCDs and thereby reduce adjusted gross income.  Tax savings are available even to account owners who do not itemize.  Reducing adjusted gross income can also alleviate certain tax penalties that are linked to AGI.  Clients should make QCDs before taking required distributions, although RMDs can be restored to an IRA within 60 days, if need be.

Requirements for 2010 QCDs are the same as in past years:

• Donors must be age 70½ or older and own a traditional or Roth IRA.  Other retirement plans, such as pensions, 401(k) plans and others are not eligible.

• Only the IRA trustee can transfer gift amounts to a qualified organization.  If IRA owners withdraw funds and then contribute them to charity separately, amounts withdrawn will be included in the donor’s gross income.

• No charitable deductions are allowed, but QCDs will not be included in the donors’ incomes.  IRA gifts may not exceed $100,000 and must be made before 2011.  The “ceilings” on contribution deductions (50% of adjusted gross income for cash, 30% of AGI for capital gain assets), do not apply to IRA gifts.

• IRA gifts cannot be made to charitable remainder trusts or other “life income gift” arrangements.  Transfers are not permitted to donor advised funds or “supporting organizations.”

• The exclusion from gross income applies not only to the IRA owner, but also to a beneficiary of an inherited IRA, provided the beneficiary has reached the age of 70½.

• QCDs are not subject to withholding under IRC §3405. The IRA owner requesting the distribution is deemed to have elected out of withholding under IRC §3405(a)(2).

• An IRA owner can use a distribution to satisfy an outstanding pledge to the charity. A QCD is treated as a receipt of the funds by the owner under IRC §4975(d)(9), according to the Department of Labor, and would not be a prohibited transaction.

• Any amount paid to a charity that does not meet the requirements of IRC §408(d)(8) will be treated as a distribution to the IRA owner, includible in gross income, followed by a contribution from the owner to charity, subject to the rules of IRC §170, including the deduction limits of IRC §170(b).

The “extender” bill also continues favorable treatment of contributions of real property for conservation purposes, and enhanced charitable deductions for contributions of food inventory, book inventories to public schools and corporate contributions of computer technology and equipment for educational purposes.

Gift Tax Liability for CRTs Created in 2010?

Congress seems to keep reenacting the law of unintended consequences.  A time capsule buried in the 2001 Economic Growth and Tax Relief Reconciliation Act of 2001 – IRC §2511(c) – finally took effect on January 1, 2010, and could create gift tax issues for charitable remainder trusts funded in 2010.  Section 2522(c) provides that “a transfer in trust shall be treated as a transfer of property by gift, unless the entire trust is treated as wholly owned by the donor or the donor’s spouse [under the grantor trust rules], except as provided by regulations.”  Effective January 1, 2010, affected trusts may be liable for federal gift tax, although the gift tax marital and charitable deductions still apply.  The law sunsets after 2010, along with the rest of the 2001 Act.

Legislative history for §2511(c) indicates that 2010 trust transfers will be treated as gifts, even though the transfer would have been “incomplete” and nontaxable under prior law (i.e. the grantor retained the right to revoke a beneficiary’s interest).  Furthermore, the taxable amount will be the entire value of the transfer in trust.

How do charitable remainder trusts become affected?  Clearly, CRTs are not wholly owned by the donor or the donor’s spouse, so §2511(c) theoretically applies.  Inter vivos CRTs that provide payments to a spouse, remainder to charity, will qualify for both the marital and charitable gift tax deductions, eliminating gift taxes.  But a CRT that provides survivorship payments to a nonspouse (a son or daughter, for example), could generate a taxable gift.  Historically, the donor would retain the right to revoke the survivor’s income interest by will, making the future transfer of a survivor income interest incomplete and nontaxable.  But that strategy would not be available under §2511(c).  And while it may seem absurd that a donor could make a gift to himself, even a one-life CRT, payable to the donor, might be subject to gift tax under a literal reading of §2511(c).

Several professional organizations and bar groups have asked the Treasury to issue regulations exempting CRTs from this unintended effect of §2511(c), but thus far there has been no official response. 

Another Gift Planning Tip for Clients Who Convert to Roth IRAs

Clients have the ability to report taxable income from 2010 Roth IRA conversions over tax years 2011 and 2012, but they run the risk that Congress will increase the top tax rates to 36% and 39.6% after 2010.  A better idea might be to report taxable income from the conversion all in 2010, when rates are lower, and establish charitable deductions that reduce the tax.

One deduction planning strategy is to accelerate charitable bequests into lifetime gifts that provide partial deductions and lifetime income to the donor.  Charitable gift annuities are one approach, but they are mostly arranged by donors who are in their 70s and 80s.  However, gift annuities also may be appealing to sons and daughters of retirees who want to help both a charity and their parents, as well.  Suppose Samantha, age 55, sends a monthly $500 check to her mother, who is 85.  Samantha wants to keep helping her mother, but would also like to reduce the income taxes on her 2010 Roth IRA conversion.  Note:  Samantha has included a six-figure bequest to her favorite organization in the will she made last year.  

Planning idea:  Samantha could pre-pay some of the charitable bequest by giving $75,000 to the organization in exchange for a charitable gift annuity that pays her mother $500 a month for life.  (A somewhat larger amount would be required to fund a gift annuity that makes survivor payments to Samantha).  Samantha receives a charitable deduction of nearly $43,000, which offsets taxable income from her Roth IRA conversion.  Gift taxes can be avoided by including a clause in the gift annuity agreement that gives Samantha the right to revoke her mother’s annuity payments.  The gift to her mother will be incomplete except for payments actually received during the year, which are less than the $13,000 gift tax annual exclusion.

IRS Winter 2010 Statistics of Income Dissects CRTs, CLTs and PIFs

Thumbing through the IRS quarterly Statistics of Income may seem like a sure cure for insomnia, but the government’s numbers can offer insight into a variety of tax and financial activities, including charitable gift planning.  The just-released Winter 2010 edition includes data on charitable remainder trusts, charitable lead trusts and pooled income funds, drawn from trust tax returns filed in 2008 for the tax year 2007.  The following is a compilation of facts and trends gleaned from “Changing Times: An Analysis of the 2007 Revision of the Split-Interest Trust Information Return” – certain to enliven any social gathering.

What’s hot and what’s not.  2007 was the last golden year for the stock market before the 2008 meltdown.  Highly appreciated stocks are advantageous for funding tax-exempt CRTs, but the bull market apparently did not spur creation of many trusts in 2007.  Further detail:

• For Filing Year 2008, a total of 123,498 Forms 5227 were filed, a slight dip from the 123,659 total filed in 2007.

• Charitable remainder trusts declined overall from 115,754 returns to 115,489, but unitrust returns actually increased in number (from 95,567 to 96,248).  Annuity trust tax returns declined by nearly 5%, from 20,187 in 2007 to 19,241. 

• Charitable lead trust returns increased from 6,377 to 6,521.

• Pooled income fund returns dropped from 1,528 to 1,488, reflecting a trend by charities to close down their PIFs.

• Most unitrusts (77.7%) provided a “standard” fixed percentage payout, while 17.5% were net-income with make-up trusts (“NIMCRUTs”) and 4.8% net-income trusts (NICRUTs).  No listing was provided for “combination of methods” unitrusts (FlipCRUTs).

• On average, unitrust beneficiaries in 2007 received payments that were favorably taxed under the four-tier system of CRT trust taxation.  Ordinary income distributions (Tier 1) accounted for 40% of all unitrust distributions (no breakdown for qualified dividends).  Short-term gains, also taxed at ordinary rates, amounted to another 5.8%.  But Tier 2 long-term gains provided 49.5% of all CRUT payments, generally taxed at 15%.  Tiers 3 and 4 – tax-free “other” income and return of corpus – generated just 4.7% of payouts to unitrust beneficiaries. 

• New contributions to unitrusts were listed as 8.5% cash, 69% marketable securities (virtually all in stocks), 8.5% real estate, and 14% “other assets” (such as retirement assets, annuities, partnerships, insurance assets, and art).

How large are these trusts?  Interesting, too, were the end-of-year book values of CRTs and CLTs.  About two-thirds (67.6%) of all charitable remainder unitrusts contained less than $500,000.  Assets of $500,000 to $3 million were listed on 28.3% of returns and only 4,055 unitrusts (4.1%) showed total assets of more than $3 million.  Annuity trusts (19,241 returns) tended to be smaller.  A surprising percentage of charitable lead trusts – 63.5% – reported assets of less than $1 million.  Another 32.2% held assets totaling $1 million to $10 million, and the remaining 4.3% reported assets in excess of $10 million.
 
Conclusions?  Market conditions obviously changed dramatically in 2008 and early 2009, and trust tax returns filed for 2008 could show more capital losses than gains.  Average asset values for all split-interest trusts will have declined, as well.  The only bright spot may be that tax-free distributions of corpus to CRT beneficiaries probably increased in 2008 (with the exception of the beneficiaries of net income unitrusts).  Low §7520 rates in 2008 would have discouraged funding of charitable remainder annuity trusts while stimulating establishment of charitable lead annuity trusts.  The trend of charities to close down pooled income funds undoubtedly has continued.  For the full IRS report, go to http://www.irs.gov/pub/irs-soi/10winbulchangingtimes.pdf.

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