How to Save More for Retirement Than You Think the IRS Allows: Meet the Retirement Charitable Trust

 

One of the guidelines of good retirement planning is to take advantage of tax-favored retirement plans and save as much as possible so that the power of tax-deferred compounding can help those plans grow significantly over the long term. Employer-sponsored plans such as 401(k)s and 403(b)s allow employees to save up to $17,500 in 2014; those age 50 or older can save an additional $5,500. (These IRS limits are indexed for inflation.)

But what if you are a high-earning employee and want to save beyond the IRS limits on traditional retirement plans? Are there other ways to save for retirement and also obtain some kind of tax advantage?

If you are charitably inclined, the answer is a resounding yes. Say hello to the “Retirement Charitable Trust.”

Using the Retirement Charitable Trust, you can make regular “contributions” that when prudently invested can grow over time. Each year in which you make a contribution to the trust, you receive a charitable income tax deduction. You can make such contributions at your discretion; there is no requirement to add to the trust annually. When you are ready to take distributions from the trust, such as upon your retirement, the trust will pay you income for life, after which the remainder is distributed to one or more charities that you name.

To explain how it works, let’s say you set up a Retirement Charitable Trust this year. Assume you’re 50 years old, your trust is set to pay a prudent 5 percent at retirement, and the trust will terminate upon your death. (Note: the trust payout percentage and the length of the trust are variables you choose when the trust is drafted.)

Thanks to bonuses you receive at work, you decide to contribute $50,000 into the trust this year. Doing so would get you a charitable deduction of $13,344 for your contribution this year (assumes 2.4% Applicable Federal Rate). Each year in which you make a contribution you would receive another charitable deduction. Why isn’t the deduction for the full amount of the contribution to the trust? Because you are receiving a benefit in return: income from the trust.

For this strategy to be effective, during your working years, the trust should be invested to generate as little income, and as much growth, as possible. When you are ready to take distributions, the trust investments should be converted to produce more income and less growth. At that point, in this example, you will receive 5 percent of the trust’s value each year, as revalued annually. At your death, the trust pays what’s left to the charities you named.

Keep in mind that setting up and administering a trust like this carries some expense: the initial legal cost to draft the trust and ongoing accounting costs to file annual tax returns for the trust (although these expenses are generally tax-deductible). Due to the complexity of the trust, it’s recommended that a professional investment or financial advisor be engaged to manage the trust investments.

Remember that the amount of your annual distribution from the trust can increase or decrease, depending on the performance of the trust investments.

To summarize, the Retirement Charitable Trust:

  • Allows high earners to save additional dollars for retirement beyond annual IRS limits on traditional retirement plans, with no limit
  • Provides a charitable deduction each year a contribution is made
  • Is flexible, allowing you to choose the trust’s annual “payout” percentage and the length of the trust
  • Will benefit the causes you hold most dear.

While not for everyone, the “Retirement Charitable Trust” (which is simply a variation of an arrangement known as a charitable remainder trust) could be an ideal solution for charitably-minded people who need an alternative retirement planning strategy that will benefit them and the world at large.

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