Charitable Lead Annuity Trusts

Designing Generational Wealth with Philanthropy at the Core

In an era of growing scrutiny over wealth transfer and tax exposure, Charitable Lead Annuity Trusts (CLATs) offer a timely and strategic blend of altruism and arithmetic. These trusts enable high-net-worth individuals to fulfill charitable goals while achieving significant gift and estate tax savings — all codified and backed by provisions in the Internal Revenue Code.

At its core, a CLAT is a type of split-interest trust where the "lead" interest — an annual annuity — is paid to a qualified charity for a fixed period. When the trust term expires, the remaining assets pass to non-charitable beneficiaries, often heirs, with potentially little to no gift tax exposure. Unlike a Charitable Remainder Trust (CRT), which gives the donor income and the remainder to charity, a CLAT reverses the equation: the charity gets income first, while the family receives the remainder.

CLATs are authorized under §170(f)(2)(B) and §664(d)(1) of the Internal Revenue Code and must satisfy a series of technical requirements to secure favorable tax treatment. Specifically, the annuity paid to the charitable lead beneficiary must be a “guaranteed annuity interest” as defined by Treasury Regulation §1.170A-6(c)(2).

Two primary types of CLATs are used in planning: the Grantor CLAT and the Non-Grantor CLAT, each with distinct tax implications.

Grantor CLAT

A Grantor CLAT allows the donor to take an immediate charitable income tax deduction equal to the present value of the annuity stream committed to the charity, calculated using the IRS’s §7520 rate at the time of the gift. However, because the donor retains grantor trust status, the income generated by the trust during its term is taxable to the grantor, even though that income is paid out to the charity. While this may sound counterintuitive, it can be appealing for clients with large current-year incomes looking for a substantial up-front deduction.

Consider a Grantor CLAT funded with $5 million in 2025, with a 5% annuity paid to a public charity over 10 years, and a §7520 rate of 4.8%. The present value of the annuity would be approximately $3.96 million (IRS Publication 1457 factors apply), giving the donor a charitable deduction of that amount in the current year. The remainder, roughly $1.04 million, is not deductible and is treated as a gift to remainder beneficiaries.

Non-Grantor CLAT

On the other hand, a Non-Grantor CLAT does not provide the donor with an immediate income tax deduction. Instead, it is treated as a separate tax-paying entity, and the trust itself can take an annual charitable deduction under §642(c) for the amounts paid to charity each year. The major advantage here lies in transfer tax planning. Because the remainder interest is determined at the inception of the trust using the same §7520 rate, the donor may “freeze” the value of the gift to heirs. If the trust assets outperform the §7520 rate, the excess passes to beneficiaries gift-tax free.

In a historically low interest rate environment, CLATs were a windfall strategy. For example, in 2020, when the §7520 rate hit a record-low 0.4%, many savvy planners structured zeroed-out CLATs. In these setups, the annuity stream was set such that the present value equaled the full value of the gift, resulting in no taxable gift — yet still offering the potential for significant remainder values if the trust assets achieved even modest investment returns. A $10 million CLAT over 20 years at a 0.4% §7520 rate, with 5.6% investment growth, could yield over $5 million to heirs entirely tax-free, all while donating nearly $10 million to charity during the term.

Current planning must adapt to higher §7520 rates — 4.8% as of May 2025 — but the strategy remains viable, especially for clients holding concentrated, high-growth private assets or founders nearing liquidity events. The arbitrage lies in the spread between trust investment return and the IRS’s required discount rate, making the design and asset selection within the CLAT structure critical.

CLATs can be structured either as a term-of-years trust or one measured by the life of an individual, although the latter adds mortality risk and actuarial complexity. Most practitioners prefer term CLATs for predictability and simplified compliance with IRC and Treasury Regs. Trusts can also be tailored to escalate payments (a “stepped” CLAT) to match anticipated growth patterns, though this approach must comply with the “fixed annuity” requirement under Reg. §20.2055-2(e)(2)(vi).

For business owners, CLATs can be particularly effective pre-sale. Contributing non-voting shares of a closely held entity to a CLAT, with proper valuation and minority discounts, allows the donor to shift future appreciation out of the estate while fulfilling charitable obligations. It's important that such contributions be structured carefully to avoid violating self-dealing or excess business holding rules under §4941 and §4943, if a private foundation is the recipient.

Ultimately, the Charitable Lead Annuity Trust represents a rare intersection of strategy, structure, and social impact. For affluent families with philanthropic goals and long-term planning horizons, CLATs are a tax-efficient vehicle for giving back — while still giving forward.

References

Internal Revenue Code. (2023). 26 U.S. Code § 170 - Charitable, etc., contributions and gifts. Retrieved from https://www.law.cornell.edu/uscode/text/26/170

Internal Revenue Code. (2023). 26 U.S. Code § 664 - Charitable remainder trusts. Retrieved from https://www.law.cornell.edu/uscode/text/26/664

Internal Revenue Code. (2023). 26 U.S. Code § 7520 - Valuation tables. Retrieved from https://www.law.cornell.edu/uscode/text/26/7520

Internal Revenue Service. (2025). Applicable Federal Rates (AFR) for May 2025. Retrieved from https://www.irs.gov/applicable-federal-rates

U.S. Department of the Treasury. (2023). Treasury Regulation §1.170A-6. Retrieved from https://www.ecfr.gov/current/title-26/chapter-I/subchapter-B/part-1/section-1.170A-6

U.S. Department of the Treasury. (2023). Treasury Regulation §20.2055-2. Retrieved from https://www.ecfr.gov/current/title-26/chapter-I/subchapter-B/part-20/section-20.2055-2