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Life Health > Life Insurance

An Often-Overlooked Strategy: The Charitable Life Estate

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Contemplating an estate plan is a little bit like trying to construct a jigsaw puzzle: The clearer the picture is that you have of the desired outcome, the easier it is to construct. Often, a piece of the puzzle that is overlooked is the residence.

Many parents mistakenly believe that their children will “want the home.” In today’s environment, it’s more likely that the family is geographically dispersed and the children would be more pleased with receiving the value of the home and its important and memorable contents, rather than the house itself.

The charitable life estate

If the older generation is charitably inclined, it might consider using an often overlooked strategy: the charitable life estate. This article will discuss some of the advantages of this planning technique.

A charitable life estate is a gift agreement between a donor and a charity, involving either a residence or farm, whereby the donor gifts the property to charity but retains the right to live in the property, usually until death. This arrangement has several advantages for the donor.

First, and most importantly, the technique may satisfy a desired charitable intent. Most gifts are still made by bequest and using the family residence may afford a simple solution to fulfill that need. Homes aren’t income-producing; and, in fact, the donor won’t notice any change in lifestyle based on the gift.

Second, the charitable life estate arrangement provides an immediate income tax benefit. Since there is a completed gift to charity, an immediate income tax deduction is available to the donor. The deduction is not for the full value of the residence but for the value of the remainder that will pass to charity at the donor’s death.

This computation is somewhat complex but is easily accomplished with different software packages available. Of course, the residence must be professionally appraised to determine the current fair market value before the computation is made.

Having the benefit of a charitable income tax deduction available may allow the donor to better time other transactions, such as the sale of appreciated securities. For instance, the deduction may offset the impact of a large capital gain. Furthermore, like other charitable deductions, any unused amount may be carried forward for an additional five years.

Third, the residence is removed from the taxable estate of the donor. And it’s one less “thing” to be dealt with. For those settling the estate, this is often a very fortunate event. Dealing with the disposition of a home is often quite cumbersome. The real estate market could be depressed. The home could be in poor condition and in need of repair. Or there could be other complications that are easily avoided with the charitable life estate arrangement.

One consideration should not be overlooked: The residence and, therefore, its value to the children, is gone. To mitigate this fact, the purchase of a life insurance policy inside an irrevocable life insurance trust based on the current or future value of the home may satisfy the children that their parents did not “give away” their inheritance.

John and Edna

To illustrate, consider a hypothetical couple: John and Edna, who are 78 and 76 years old, respectively. A qualified appraiser values their home at $420,000, which includes the land that is said to be worth $63,000. Only the value of the home itself is used to calculate the gift. A gift of the home to charity with a retained life estate for both of their lives will produce a current income tax charitable deduction of approximately $195,000.

Even if John and Edna are in the 30% tax bracket, the gift could save them $58,500 in income taxes. A life estate is completed by executing and recording a deed. Unlike many charitable planning tools, this is a relatively simple transaction for the donors. Meanwhile, they will retain the right to live in the house as long as either of them is alive. They will continue to pay all of the costs of maintenance, real estate taxes, utilities and insurance, just as they had in the past.

What happens if John and/or Edna become incapable of living on their own and need to vacate the home? There are several possibilities to consider: They can sell the home and give charity its portion (the remainder value) and keep the life interest portion; they could accelerate their gift by giving their life interest to the named charity and receive an additional income tax deduction; they could rent the property to a third party; or they could exchange their life interest for a gift annuity income stream.

Summing up

This article has neither discussed many of the technical aspects of charitable life estates, nor has it reviewed all of the potential applications of this type of gift, but it should be clear that the technique is both powerful and useful for the appropriate family. It is up to the planner to open the discussion with the client family and to demonstrate the potential of this planning strategy.

Randy A. Fox is a principal at InknowVision, a Naperville, Ill.-based firm engaged in wealth strategies planning. You may e-mail him at .


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