For foundations that offer charitable remainder annuity trusts (CRATs), a new revenue procedure (Rev. Proc. 2016-42) offers a sample provision that may be included in the governing instrument of the trust (CRAT) and provides that the IRS will treat the sample provision as a qualified contingency within the meaning of § 664(f) of the Internal Revenue Code. Thus, inclusion of the sample provision in the trust instrument does not cause the trust to fail to qualify as a charitable remainder trust under §664 of the Code, and any CRAT containing the sample provision will not be subject to the "probability of exhaustion" test. The "probability of exhaustion" test is used to determine whether a CRAT complies with the regulatory requirement applicable to all contingent charitable transfers that only a negligible chance exists that the charity will receive nothing. Section 664(f)(3) defines a qualified contingency for purposes of § 664(f) as any provision of a trust which provides that, upon the happening of a contingency, the payments will terminate not later than these payments otherwise would terminate under the trust.
The following language is the sample provision designed to be used in an inter vivos CRAT for one measuring life:
"The first day of the annuity period shall be the date the property is transferred to the trust and the last day of the annuity period shall be the date of the Recipient's death or, if earlier, the date of the contingent termination. The date of the contingent termination is the date immediately preceding the payment date of any annuity payment if, after making that payment, the value of the trust corpus, when multiplied by the specified discount factor, would be less than 10 percent of the value of the initial trust corpus. The specified discount factor is equal to [1 / (1 + i)]t, where t is the time from inception of the trust to the date of the annuity payment, expressed in years and fractions of a year, and i is the interest rate determined by the Internal Revenue Service for purposes of section 7520 of the Internal Revenue Code of 1986, as amended (section 7250 rate), that was used to determine the value of the charitable remainder at the inception of the trust. The section 7520 rate used to determine the value of the charitable remainder at the inception of the trust is the section 7520 rate in effect for [insert the month and year], which is [insert the applicable section 7520 rate]."
In a testamentary CRAT, the phrase "the property is transferred to the trust" (the first underlined phrase) in this sample language must be replaced with "of my death".
The Council always recommends that any foundation providing sophisticated charitable gift planning vehicles for donors consult with professionals experienced in this area, and that all donors be properly represented regarding the tax implications.
Suzanne Friday is Senior Counsel and Vice President of Legal Affairs at the Council on Foundations.