Pooled Income Funds (PIFs) and Charitable Remainder Trusts (CRTs) were both signed into law in the 1969 Tax Act. PIFs under §642(c)(5) and CRTs under §664. While different in many ways, they are also similar and in many other ways, and it is not unusual for a donor who is considering a CRT to also consider a PIF. This paper will consider the similarities and the differences of the two charitable vehicles and allow the reader to distinguish the various applications for each of these charitable trusts.
CRTs come in many forms: Standard CRT; Net Income CRT; Net Income with Makeup CRT, Flip CRT; and Charitable Remainder Annuity Trust. While there are nuanced differences between each of them, they also have very similar rules for qualification as a CRT. First, CRTs are spit-interest trusts. That is, there is both an income beneficiary and a remainder beneficiary. The remainder beneficiary must be a charity, and, for many reasons, it is best if it is a public charity. Second, CRTs are tax exempt trusts. Low basis assets contributed to a CRT can be sold without recognition of Long-Term Capital Gain. Third, CRTs must have a minimum payout rate of 5%, paid out no less than annually. Fourth, CRTs must make an actuarial calculation that produces a “remainder” interest of 10% of the original deposit. Fifth, CRTs are private trusts, normally established by one family for its own benefit. Often, the settlor of the CRT also serves as trustee. Sixth, UBTI property is never suitable for a CRT, either before or after contribution of property is made. Seventh, CRTs may be on the life or lives or for a term certain, not to exceed twenty years. Some private foundation rules govern CRTs, but the implications are not important to this article.
PIFs only come in one form. PIFs must be established by a public charity and the charity must serve as trustee. Now let’s track through the same considerations as for the CRT. First, PIFs are also spit interest trusts with both income beneficiaries and a remainder beneficiary that is a public charity. Second, PIFs are NOT tax-exempt trusts. In fact, they are complex trusts that pay out all their income. Further, there is an exception in the law, that allows low basis assets to be sold without the recognition of long-term capital gains tax. Third, there is NO minimum pay-out rate. PIFs are instead required to payout 100% of their income, no less than annually. Fourth, there is no 10% remainder test. PIFs make an actuarial calculation on the value of the income interest in two different ways. On PIFs that have been establish for more than three years, the “discount” rate applied is the highest of the last three years rate of return. For PIFs less than three years old, the discount rate is published by the government annually and is based on the average of the Federal Midterm Rate for the prior three years minus one. Fifth, PIFs are not private and requiring a pooling of assets to be considered a PIF. They are operated by public charities and the charity is trustee. Sixth, while PIFs can’t accept property that produces UBTI, post gift UBTI is perfectly fine. That is the PIF can invest in mortgaged real estate or an operating business. Seventh, PIFs may only include living people as income beneficiaries. PIFs are also impacted by the private foundation rules.
What’s all this mean for the donor when the donor is trying to decide between a PIF or a CRT. First, we must erase the image of the PIF being under the purview of a large institutional charity. Yes, if you Google Pooled Income Funds, you will find Harvard, Yale, Stanford among those listed as sponsoring PIFs. These PIFs operate very traditionally, accepting only cash or marketable securities, requiring income beneficiaries to be age sixty-five or older, and reserving money management duties for their standard models. However, there are also donor friendly, advisor friendly PIF focused charities that are meant to serve the donors’ interests. What’s this mean? First, any acceptable asset can be contributed: real estate, private business interests, collectibles and other assets normally not suitable at major institutions are fine. Second, if a husband and wife both contribute, this can be considered a pooling. Thus, a PIF can exist for a single family. And, at a few charities, if the gift is large enough, the family can retain their existing money manager and utilize an investment strategy that is suitable to their needs. Third, since there is no 5% payout requirement or 10% remainder requirement, there is no minimum age for a PIF income beneficiary. Because of this, forward thinking charities and careful planning can allow a family to create a two, three or even four generation PIF. This simply cannot be done with a CRT. Generally, married donors age 45 or younger cannot even qualify a CRT for their lifetimes. This is what makes PIFs extremely attractive for younger donors and multi-generational gifts.
The PIF will generally create a larger charitable income tax deduction that a CRT, even with multiple lives involved. This makes a PIF a planning consideration when considering a Roth conversion and looking for a charitable offset. It also allows donating less than 100% of an asset in the trust to avoid realizing long term capital gains tax but instead using only a portion and sheltering a portion of the gain with the large deduction.
Bottom line is that anyone considering utilizing a CRT should consider a PIF and weigh the advantages and disadvantages of both strategies. When multi-generation planning is desired, there is only one structure that will work, and that is thee PIF.