As part of a comprehensive philanthropic, estate and financial plan, it might be more advantageous to donate a highly appreciated asset to a charitable organization, because the donor will usually be able to take a charitable deduction for the fair market or appraised value of the asset. Once the asset is in the hands of the charity, there will be no capital gains tax on the subsequent sale. The donor, in effect, gets a double benefit – a substantial deduction and elimination of the capital gains tax. The charity receives its benefit when it might be most beneficial rather than having to wait until the donor dies. However, the loser in such an arrangement may be the donor’s heirs because the asset will no longer be available for inheritance. This is where life insurance can play an important role.
The donor can purchase a life insurance policy and irrevocably either (1) name an heir or heirs as the owners or (2) create a special trust that will become the owner of the life insurance contract. The insured might use the tax savings from the charitable gift to purchase a single premium policy or choose to pay premiums annually. In either case, if the policy is irrevocably owned by either a trust or some third party outside the policy holder’s estate, the eventual death benefit will pass tax-free to the named beneficiaries. When the insured makes the premium payments on a policy that is owned by another, whether or not it is in trust, there may be gift tax consequences. Therefore, as with any estate, tax, or financial planning matter, the insured should seek the advice and counsel of his or her tax planning professional.
This strategy has been popular when coupled with a charitable remainder trust (CRT) that pays the donor and spouse an income for life; at the death of the last income beneficiary, the remainder goes to charity. Using the same concept, the donor can (1) make a gift of a highly appreciated asset to the CRT, (2) generate a charitable income tax deduction for the present value of the gift that will ultimately go to the charity, (3) avoid the capital gains tax on the asset when it is sold inside the trust, and (4) secure a new source of income for life. The wealth-replacement strategy can be overlaid to provide for heirs who would have received the asset but for the charitable plan.