Ep #092: How to Sell Your Business Tax-Free with a Charitable Remainder Trust

Using Charitable Remainder Trusts (CRTs) to Reduce Taxes on Business Sale

Selling your business can trigger a huge tax liability, sometimes up to 40-50% of the net proceeds that should go into your pocket end up going to the IRS. Today, I want to talk about a common strategy that can help put more of the net proceeds from selling your business into your pocket rather than the IRS. This strategy can potentially help avoid the capital gains tax on the sale, give you a large income tax deduction upfront, provide you with an income stream for the rest of your life, and allow you to contribute to a charity that’s important to you and your family.

What is a Charitable Remainder Trust (CRT)?

Using a Charitable Remainder Trust has been around a long time in the tax code and is a completely viable strategy to help mitigate taxes when stepping away from your business. Here’s how it works in a quick five-step breakdown:

Five-Step Breakdown of CRTs

Form the Trust. Before you sell the business, work with an attorney to form a Charitable Remainder Trust.
Contribute Stock to the Trust. Contribute your company stock to the trust. It doesn’t have to be all of the company stock; you can run the numbers to see what makes sense.
Sell the Stock Tax-Free. Eventually, the trust sells the company stock, and when it does, the sale is completely tax-free because it’s within the trust.
Invest Proceeds and Generate Income. The trust then invests the proceeds and uses the earnings to provide an income for your lifetime. The payments will be based on a fixed percentage of the trust’s annual value.
Charitable Donation After Passing. When you pass away, the trust terminates, and the assets are transferred to any charitable organization you choose.

Benefits of Using a CRT

Tax Advantages

Avoiding Capital Gains Tax: By selling your stock within the trust, you avoid the Long Term Capital Gains Tax of 20%.
Charitable Income Tax Deduction: You receive a sizeable charitable income tax deduction upfront when you gift your company stock to the trust.

Income Stream

Lifetime Income: The trust provides an income stream based on a calculated payout rate, typically a minimum of 5% of the trust’s annual value.

Example Scenario

Jeff and Barb own ABC company, valued at $3,000,000. They gift all of the company stock into a Charitable Remainder Trust and later sell the stock for $3,500,000. Because the stock is held within the trust, there is no income tax, and Jeff and Barb now have $3.5M to invest within the trust. They saved 20% in LTCG taxes on the $3.5M sale, saving them $700,000 in taxes. The trust will provide them with $175,000 per year in income.

Considerations with CRTs

Partial Contribution: You don’t have to put all your company stock in the trust. Many choose to put 60-70% into a CRT and keep the rest.
Advance Planning: Meet with your advisor and attorney well in advance, and don’t set up the structure last minute.
Irrevocability: Funding the CRT trust is irrevocable, so once it’s done, it’s done.
Single and Life Insurance: If you are single, payments stop when you die, and the charity gets the remaining assets. Also, consider life insurance for leaving a legacy to your heirs.
Other Income Beneficiaries: Other income beneficiaries can be assigned to the trust.

Final Thoughts

Speak with your attorney and advisor well in advance before doing anything on your own. Planning is crucial to maximizing the benefits and ensuring a smooth transition.

Conclusion

Using a Charitable Remainder Trust can significantly benefit business owners looking to sell their business by reducing taxes and providing a reliable income stream. Proper planning and consultation with experts are essential to make the most of this strategy.