How a CRUT lets a family sell a long held asset inside a tax exempt trust, take an income stream for life, and leave the remainder to charity
Many San Diego families hold property bought decades ago that has grown far beyond its cost: a rental building, a block of company stock, a parcel of land. Selling it outright triggers capital gain tax on the entire appreciation. Holding it means continuing to manage it, and leaves the family concentrated in a single asset. For owners with charitable intent, a charitable remainder unitrust, or CRUT, is an alternative to both.
What a CRUT is
A CRUT is an irrevocable trust governed by section 664 of the Internal Revenue Code. The donor transfers property to the trust. The trust pays a fixed percentage of the value of its assets, revalued every year, to one or more individuals, usually the donor and a spouse. The percentage must be at least 5 percent and no more than 50 percent under section 664(d)(2)(A). The payments last for the lives of the individuals, who must be living when the trust is created, or for a term of no more than 20 years. When the payments end, what remains passes to charity.
Each contribution must also pass a 10 percent test under section 664(d)(2)(D). The present value of the charity’s remainder, computed using the interest rate the IRS publishes each month under section 7520, must be at least 10 percent of the value of the property contributed. The test limits how high the payout can be set and how young the income beneficiaries can be.
Why families use them
The trust itself is exempt from income tax. When the trustee sells the appreciated property, the gain is not taxed to the trust at the time of sale, and the full proceeds can be reinvested in a diversified portfolio. The income beneficiaries are taxed as they receive payments, under an ordering rule in section 664(b): payments carry out ordinary income first, then capital gain, then tax exempt income, and only then a return of principal. The effect is to spread the gain over the years of payments rather than recognize it all in the year of sale.
The donor also receives an income tax charitable deduction in the year of the gift for the present value of the charity’s remainder, subject to percentage of income limits and a five year carryforward of any excess. Because the payout is a percentage of a value that is recomputed each year, the payments rise if the portfolio grows and fall if it declines. That feature distinguishes a unitrust from a charitable remainder annuity trust, which pays a fixed dollar amount and cannot accept additional contributions.
Variations suited to real estate and closely held stock
A standard CRUT must pay its percentage every year whether or not the assets produce cash. That is a problem when the trust holds a building or private company shares awaiting sale. Section 664(d)(3) permits a net income version, which pays the lesser of the percentage or the trust’s actual income, and may add a make up provision so that shortfalls are paid in later years when income exceeds the percentage.
The Treasury regulations also permit a flip unitrust, under Treasury Regulation section 1.664-3(a)(1)(i)(c). The trust begins as a net income trust and converts to a standard unitrust after a triggering event named in the instrument. The regulations permit a specific date, or an event outside the control of the trustee and the beneficiaries, such as a marriage, a birth or a death, and they specifically permit the sale of unmarketable assets such as real estate or closely held stock. The conversion takes effect at the beginning of the taxable year after the triggering event. For a donor contributing a rental building, the flip structure is usually the right design. The firm’s CRUT forms follow the IRS sample forms in Revenue Procedures 2005-52 through 2005-59 closely, with the net income and flip provisions added as the regulations allow.
Mistakes to avoid
The most common error is timing. If the donor has already signed a contract to sell, or the trustee is legally obligated to sell to a particular buyer when the property is contributed, the gain may be taxed to the donor as if the donor had made the sale. Negotiations can begin before the gift, but the trust should be funded before a binding agreement exists.
The second is debt on the property. A mortgage on contributed property can create taxable income, can cause the trust to fail to qualify, and generally must be resolved before the transfer. Related to it is unrelated business taxable income. A CRUT that earns it owes an excise tax equal to 100 percent of that income under section 664(c)(2). Rental real estate held free of debt is usually not a concern, while an operating business or debt financed property can be.
Some assets do not belong in a CRUT at all. A charitable remainder trust cannot hold S corporation stock without terminating the corporation’s S election, because it is not a permitted shareholder under section 1361(b)(1)(B). The private foundation self dealing rules of section 4941 also apply through section 4947(a)(2), so the donor and family members generally may not buy trust assets, lease them or borrow from the trust. Finally, a gift of property other than cash or publicly traded securities worth more than $5,000 requires a qualified appraisal to support the deduction under section 170(f)(11).
California property tax
A transfer of real property to an irrevocable trust is ordinarily a change in ownership. Revenue and Taxation Code section 62(d) excludes a transfer to a trust where the transferor, or the transferor’s spouse, is the present beneficiary, and the Board of Equalization applies that rule to a charitable remainder trust in which the donor or spouse holds the income interest. If a child or another person is the income beneficiary, the transfer into the trust is generally a change in ownership unless another exclusion applies. A sale by the trustee is reassessed in the buyer’s hands like any other sale.
What changed for 2026
Federal legislation enacted in July 2025 made several changes that took effect for tax years beginning after December 31, 2025. Individual charitable deductions are now allowed only to the extent they exceed 0.5 percent of the donor’s contribution base, under new section 170(b)(1)(I). For donors in the top income tax bracket, section 68 now reduces itemized deductions, including charitable deductions, by 2/37 of the lesser of the deductions or the income taxed in that bracket, which limits the benefit of each deducted dollar. The basic exclusion amount for federal estate and gift tax under section 2010(c)(3) is $15,000,000 per person for 2026, adjusted for inflation after 2026. These changes affect the value of the deduction rather than the design of the trust, and the donor’s CPA should run the projections before the trust is signed.
Case study: a four unit building and a couple ready to stop managing it
A couple in their late sixties owned a four unit building near the coast that they had bought in the early 1980s. It was worth about $3.2 million, their adjusted basis was under $400,000, and the building carried a small remaining mortgage. They were tired of managing tenants, wanted more predictable income, and had supported a local community foundation for years.
The loan was paid off before the gift, and the couple transferred the building to a flip unitrust paying 5 percent for their joint lives, with the community foundation as remainder beneficiary. The sale of the building was the triggering event. The trustee listed the property only after the deed was recorded, and the sale closed four months later. Because the couple were the income beneficiaries, the transfer into the trust was not a change in ownership, although the buyer’s purchase was.
From the following January the trust paid the full unitrust amount from a diversified portfolio. The couple’s CPA computed the deduction using the section 7520 rate for the month of the gift and projected the tax on the payments under the ordering rules. The couple’s financial advisor managed the portfolio. Our role was the trust instrument, the funding, the timing of the sale, and the property tax filings.
How we can help
Tomer T. Gutman designs and drafts charitable remainder and charitable lead trusts for families in San Diego County and elsewhere in California, and coordinates them with the rest of the estate plan. We work with the family’s CPA on the deduction and the income tax projections, with the financial advisor on the investment policy, and with the charity on its acceptance of the gift. A later article in this series will cover charitable lead trusts, which reverse the structure by paying charity first and passing the remainder to family.
This article is general information about California and federal law as of its date. It is not legal or tax advice and does not create an attorney-client relationship. Case studies are composites drawn from the kinds of matters the firm handles; names, places, amounts and other details have been changed, and the result in any matter depends on its own facts. Tax results should be confirmed with your CPA. Responsible attorney: Tomer T. Gutman, Worden Williams LLP, 462 Stevens Avenue, Suite 100, Solana Beach, California 92075, (858) 755-6604.
