Sometimes parents have good reasons to make different bequests to their children—desiring to treat them equally though not the same. And sometimes a charitable gift can help parents achieve those family objectives.
Let’s suppose that a couple, Howard and Susan, have two children—a daughter Lynn and her younger brother Rick. Lynn was a model student, went to law school, passed the bar exam on her first try, and is affiliated with a prestigious law firm. Her husband is a software engineer at a tech company, and they have two children in middle school.
Her brother Rick is still trying to find his way. Although he scored well on aptitude tests, he didn’t apply himself in college and dropped out—to the great disappointment of his parents. He has worked at several jobs but has not remained very long at any of them. He quickly spent a modest inheritance he received from a grandparent, and he always seems to be living on the edge.
Howard and Susan are updating their wills and wondering how much they should leave to each child. They are confident that money left to their daughter would be carefully invested and used to provide a good lifestyle for her family and to educate their grandchildren. However, they fear that a bequest to their son would be quickly spent and would not permanently change his circumstances. Yet they hesitate to leave unequal amounts to their two children—and thereby possibly signal that they loved one child more than the other.
One solution is that they could commit equal amounts for the two children but give Lynn a lump sum while establishing a trust for Rick. If they wanted to give $1 million to each child, for example, Lynn would receive a principal sum of $1 million while Rick would receive the income from a trust funded with $1 million. This provides Rick with income for basic living expenses without the freedom to squander his inheritance.
There are, of course, other questions that Howard and Susan must answer. One is whether to make the children’s gifts at the death of the survivor of Howard and Susan or to give some of it to the children at the first parent’s death. Another question is what particular assets to use for the children’s gifts—and for gifts to charity.
If they would also like to provide an end-of-life gift to us, it could be advantageous to name us as a beneficiary of one or more retirement funds they may own—and to transfer their other assets to loved ones. The reason is that if retirement funds (other than those in a Roth plan) are given to individual beneficiaries, those beneficiaries will pay income tax on the distributions. But if they are given to a charitable organization such as ours, the distributions are not subject to income tax. If loved ones receive appreciated property, such as securities and real estate, they will not be taxed on any of the gain accruing up to the donor’s death. Thus it is better to make end-of-life charitable gifts with retirement funds that would be taxable upon distribution and to give other appreciated assets to the children.
In the case of their wayward son, Howard and Susan could establish a charitable remainder trust and make it the beneficiary of $1 million in retirement funds that will generate income for Rick. The retirement funds transferred to the charitable remainder trust would not be taxed at the time they are transferred, so the entire amount could be invested. At the end of Rick’s life—or at the end of a term of years if they want Rick to receive income for a certain period—the trust would terminate and the remaining trust assets would be transferred to our organization for the purpose Howard and Susan designated.
Howard and Susan would feel good that they are committing equal amounts for the support of their two children while taking each child’s circumstances into consideration. They are also pleased that they have created avenues for charitable gifts that will save taxes.