Charitable Remainder Trust as IRA Beneficiary

A traditional IRA is the single worst asset to leave to non-spouse heirs. It is included in the gross estate at full value for estate tax purposes. It generates no step-up in basis under IRC section 1014 because it was never subject to income tax in the first place — the entire balance is income in respect of a decedent (IRD) under IRC section 691. And under the SECURE Act 2.0, non-spouse beneficiaries must empty the account within 10 years under IRC section 401(a)(9)(H), compressing what was once a lifetime stretch into a decade of forced ordinary-income recognition.

For a $1.8 million IRA in a $6 million estate, the combined tax hit can consume more than 60% of the account: 40% federal estate tax on the full balance, plus 37% federal income tax (and state income tax) on every dollar the beneficiary withdraws — with only a partial offset via the IRC section 691(c) deduction for estate taxes paid on the IRD. Naming a Charitable Remainder Trust as the IRA beneficiary is the primary planning tool that breaks this double-tax trap.

How the CRT-as-IRA-beneficiary structure works

The account holder names a Charitable Remainder Trust — either a Charitable Remainder Unitrust (CRUT) or a Charitable Remainder Annuity Trust (CRAT) — as the designated beneficiary of the IRA on the custodian's beneficiary designation form. At the account holder's death, the IRA custodian distributes the entire IRA balance to the CRT. Because the CRT is tax-exempt under IRC section 664(c)(1), no income tax is due on this distribution at the trust level.

The CRT then pays an annual amount to the non-charitable beneficiary (typically the account holder's child or children) for a term of years (up to 20) or for the beneficiary's lifetime. Each payout is taxed to the beneficiary under the four-tier ordering rule of IRC section 664(b): ordinary income first (which is the bulk of the IRA proceeds), then capital gains, then other income, then tax-free return of corpus. When the trust term ends, the remaining assets pass to the designated charity.

The estate receives a charitable deduction under IRC section 2055 for the present value of the charitable remainder interest — the actuarial value of what will eventually pass to charity. This deduction directly reduces the taxable estate, offsetting some or all of the estate tax that would otherwise apply to the IRA balance.

CRUT vs. CRAT: which structure for an IRA?

A CRUT pays the beneficiary a fixed percentage (at least 5%, no more than 50%) of the trust's net asset value, revalued annually. If the trust assets grow, the payout grows. If they decline, the payout declines. A CRAT pays a fixed dollar amount determined at inception — it never changes regardless of trust performance.

For an IRA-funded CRT, the CRUT is almost always the better choice. The reason is practical: the IRA balance arrives as cash (or cash equivalents), and the trustee will invest it in a diversified portfolio. A CRUT allows the payout to track the portfolio's value, providing inflation protection over a long trust term. A CRAT locks in a fixed payment that may become inadequate after 15-20 years of inflation — and a CRAT cannot receive additional contributions if the IRA distribution arrives in installments.

The CRUT also offers a variant — the Net Income with Makeup Charitable Remainder Unitrust (NIMCRUT) — that pays the lesser of the stated percentage or actual trust income, with a makeup provision that allows the trust to catch up in later high-income years. This variant is useful when the beneficiary wants to defer income to retirement years, but for most IRA-funded CRTs the standard CRUT is simpler and more appropriate.

Worked example: $1.8 million IRA in a $6 million estate

Robert, age 74, is a retired engineer. His estate includes:

• Traditional IRA: $1,800,000
• Taxable brokerage account: $1,500,000 (basis $900,000)
• Primary residence: $1,200,000
• Rental property: $1,000,000 (basis $400,000)
• Cash and other assets: $500,000
• Total gross estate: $6,000,000

Robert is widowed. His sole beneficiary is his daughter Karen, age 48. Robert has charitable intent — he wants 20-25% of his estate to benefit his alma mater. The question is whether to leave the IRA directly to Karen or route it through a CRT.

Scenario A: IRA left directly to Karen

Assume the post-sunset federal estate tax exemption is $7 million (projected for 2026). Robert's $6 million estate falls below the exemption, so federal estate tax is zero. However, if Robert lives in Massachusetts (exemption $2 million with no portability), the state estate tax applies to the full $6 million — the Massachusetts estate tax on a $6 million estate is approximately $391,600.

Karen inherits the $1.8 million IRA and must distribute the full balance within 10 years. Distributing $180,000 per year, each dollar is ordinary income. If Karen earns $150,000 annually, the additional $180,000 pushes her into the 32-35% federal bracket. Over 10 years, federal income tax on the IRA distributions totals approximately $504,000 (blended effective rate of 28% on the IRA income). Massachusetts state income tax at 5% adds $90,000. Total income tax on the IRA: approximately $594,000.

Robert's charitable bequest ($1.2 million, or 20% of the estate) comes from the brokerage account. The estate receives a charitable deduction under IRC section 2055, reducing the taxable estate to $4.8 million — still above the Massachusetts $2 million threshold. Karen receives the remaining $300,000 in the brokerage account with a stepped-up basis, plus the residence and rental property (also stepped up). Total taxes paid: approximately $985,600 (state estate tax plus income tax on IRA).

Scenario B: IRA routed through a CRT to Karen

Robert names a 20-year CRUT with a 5% payout rate as the IRA beneficiary. Karen is the income beneficiary for 20 years; the alma mater is the charitable remainder beneficiary. At Robert's death, the $1.8 million IRA is distributed to the CRUT — no income tax triggered. The CRUT invests the $1.8 million and pays Karen 5% of the annually revalued trust assets each year for 20 years.

The present value of the charitable remainder interest (the portion going to the alma mater) is calculated using the Section 7520 rate. At 5.8%, for a 20-year term CRUT with a 5% payout rate, the remainder factor is approximately 0.322 — meaning 32.2% of the initial contribution is projected to pass to charity. The charitable remainder value: $1,800,000 × 0.322 = $579,600. This satisfies the 10% minimum remainder test under IRC section 664(d).

The estate receives a charitable deduction of $579,600 under IRC section 2055 for the IRA-funded CRT, plus the $1.2 million charitable bequest from the brokerage account. Total charitable deductions: $1,779,600. The taxable estate drops to $4,220,400. The Massachusetts estate tax on $4.22 million is approximately $267,200 — a savings of $124,400 versus Scenario A.

Karen's CRT payouts in Year 1: 5% × $1,800,000 = $90,000 (assuming no growth in the first year for simplicity). Each payout is taxed as ordinary income under the four-tier rule (the trust's income is almost entirely ordinary because the IRA distribution was all ordinary income). But $90,000 per year is half the $180,000 annual burden in Scenario A. If Karen earns $150,000, the additional $90,000 keeps her in the 24% bracket instead of pushing her to 32-35%.

Assuming the CRUT earns 6% annually, the trust grows modestly despite the 5% payouts. Over 20 years, Karen receives total payouts of approximately $1,890,000 — slightly more than the original IRA balance. The federal income tax on these payouts, spread over 20 years at a blended 24% rate, is approximately $453,600. Massachusetts income tax at 5%: $94,500. Total income tax: approximately $548,100.

At the end of 20 years, the alma mater receives the remaining trust assets — approximately $950,000 (depending on investment returns). Robert's charitable intent is fulfilled from the worst-taxed asset in the estate rather than from the stepped-up brokerage account.

Scenario comparison

• State estate tax: Scenario A $391,600 vs. Scenario B $267,200 — CRT saves $124,400
• Income tax on IRA: Scenario A $594,000 vs. Scenario B $548,100 — CRT saves $45,900
• Total tax savings: approximately $170,300
• Karen's total after-tax IRA receipts: Scenario A $1,206,000 over 10 years vs. Scenario B $1,341,900 over 20 years
• Charity receives: Same $1.2 million from brokerage in both scenarios, plus $950,000 from CRT remainder in Scenario B — total charitable impact increases by $950,000 without reducing Karen's after-tax inheritance

The CRT doesn't just save taxes — it redirects the charitable bequest from the most tax-efficient asset (stepped-up brokerage) to the least tax-efficient asset (IRD-laden IRA), freeing the brokerage account's full stepped-up basis for Karen.

The SECURE Act 2.0 problem the CRT solves

Before the SECURE Act of 2019, non-spouse beneficiaries could stretch inherited IRA distributions over their own life expectancy — a 48-year-old inheriting an IRA could spread distributions over 36 years. The SECURE Act replaced this with a 10-year mandatory distribution period under IRC section 401(a)(9)(H) for most non-spouse beneficiaries. SECURE Act 2.0 (2022) added annual required minimum distributions within that 10-year window for beneficiaries of account holders who had already begun RMDs.

The 10-year rule compresses decades of tax deferral into a single decade, often pushing beneficiaries into higher brackets during their peak earning years. A CRT is the only vehicle that can re-stretch the payout beyond 10 years because the CRT (not the individual) is the designated beneficiary. The CRT must comply with the 10-year rule — it must receive the full IRA balance within 10 years of death — but the CRT's payouts to the individual beneficiary follow the CRT's own terms (up to 20 years or the beneficiary's lifetime).

The IRS confirmed in proposed regulations (REG-105954-20, published February 2022) that a CRT qualifies as a designated beneficiary for purposes of the 10-year rule. The CRT must receive the full IRA distribution by the end of the tenth calendar year following the account holder's death, but the CRT's own payout schedule is governed by IRC section 664, not by section 401(a)(9).

The IRC section 691(c) deduction: partial relief for double taxation

When an IRA is included in the taxable estate and the beneficiary also pays income tax on distributions, IRC section 691(c) provides a deduction for the federal estate tax attributable to the IRD. This deduction is an itemized deduction (not subject to the 2% AGI floor) that partially offsets the double taxation. However, in our worked example, Robert's estate is below the federal exemption — no federal estate tax is owed, so the 691(c) deduction is zero. The Massachusetts estate tax does not generate a federal income tax deduction.

For estates above the federal exemption, the 691(c) deduction becomes significant. On a $1.8 million IRA in a $15 million estate, the federal estate tax attributable to the IRA is approximately $720,000 (40% of $1.8 million). The beneficiary can deduct $720,000 against the IRA distributions over the 10-year payout period — reducing the effective income tax rate on the IRA from 37% to approximately 27%. The CRT strategy is still superior in most cases because the CRT's estate tax charitable deduction reduces the estate tax itself, while the 691(c) deduction only offsets the income tax after the estate tax is already paid.

The 10% remainder test: the binding constraint

IRC section 664(d) requires that the present value of the charitable remainder interest — calculated at the Section 7520 rate on the date the CRT is funded — equal at least 10% of the initial contribution. This test limits the payout rate, the trust term, and the beneficiary's age at inception.

At a 5.8% Section 7520 rate, a 5% payout CRUT with a 20-year term produces a remainder factor of approximately 0.322 (32.2%) — easily passing the 10% test. But a lifetime CRUT for a 48-year-old beneficiary with the same 5% payout rate produces a remainder factor below 10% because the beneficiary's life expectancy is approximately 36 years. The solution: use a term-of-years CRUT (capped at 20 years) instead of a lifetime CRUT for younger beneficiaries, or reduce the payout rate to 3-4% to increase the remainder factor.

For a 65-year-old beneficiary, a 5% lifetime CRUT at a 5.8% Section 7520 rate typically passes the 10% test because the shorter life expectancy leaves a larger projected remainder for charity. Age matters — run the numbers with your estate attorney before committing to a specific structure.

State estate and inheritance tax interaction

The CRT-as-IRA-beneficiary strategy interacts with state estate taxes in two ways. First, the estate tax charitable deduction reduces the state taxable estate in most states that impose an estate tax. In Massachusetts, where the exemption is $2 million and applies to the entire estate (not just the excess), the CRT deduction can bring a borderline estate below the threshold — avoiding state estate tax entirely.

Six states (Iowa, Kentucky, Maryland, Nebraska, New Jersey, Pennsylvania) impose inheritance taxes paid by the beneficiary rather than the estate. The CRT does not eliminate inheritance tax in these states because the beneficiary is still receiving distributions from the trust. However, the inheritance tax applies to the present value of the beneficiary's interest at the time of inheritance, not to each annual distribution — and the charitable remainder reduces the taxable transfer.

New York's estate tax cliff is particularly relevant: if the gross estate exceeds 105% of the exemption (approximately $7.29 million for the $6.94 million exemption), the entire estate is taxed — not just the excess. A CRT's charitable deduction that brings the estate below this cliff can save hundreds of thousands of dollars in New York estate tax.

When the CRT-as-IRA-beneficiary strategy does NOT make sense

• No charitable intent: The CRT requires a genuine charitable remainder. If the account holder has no interest in leaving assets to charity, the CRT is the wrong tool. Consider a conduit trust or accumulation trust instead.
• Small IRA balances: CRT setup and administration costs (trust drafting, annual tax filings on Form 5227, trustee fees) typically run $3,000-$8,000 upfront and $1,500-$3,000 annually. For IRAs under $500,000, the costs may outweigh the tax savings.
• Spouse is sole beneficiary: A surviving spouse can roll over the inherited IRA into their own IRA under IRC section 408(d)(3), continuing tax deferral indefinitely. The spouse is exempt from the 10-year rule. The CRT adds complexity without benefit when the spouse is the sole heir.
• Roth IRAs: As noted above, Roth distributions are already income-tax-free. Routing a Roth through a CRT converts tax-free income into taxable CRT payouts — a net negative.
• Estate is well below the federal exemption with no state estate tax: If there is no estate tax exposure and the beneficiary is in a low income tax bracket, the administrative cost and irrevocability of the CRT may not justify the income-tax smoothing benefit.

Implementation checklist

If the CRT-as-IRA-beneficiary strategy fits your situation, the implementation sequence matters:

• Draft the CRT document with an estate attorney experienced in IRC section 664 trusts. Specify the payout rate, term (years or lifetime), income beneficiary, and charitable remainder beneficiary. Ensure the 10% remainder test is satisfied at current Section 7520 rates.
• Obtain an EIN for the CRT from the IRS (Form SS-4). The CRT is a separate tax entity that files Form 5227 annually.
• Update the IRA beneficiary designation at the custodian. Name the CRT by its full legal name and EIN. Do not name the CRT as a contingent beneficiary if the spouse is primary — the CRT structure should be intentional, not a fallback.
• Coordinate with the overall estate plan. The charitable bequest that was previously funded from stepped-up assets (brokerage, real estate) should be redirected to come from the IRA via the CRT. The stepped-up assets should pass directly to heirs to maximize the basis step-up under IRC section 1014.
• Review annually. Changes in the Section 7520 rate, the beneficiary's age, or the IRA balance may affect whether the CRT still passes the 10% test or whether the payout rate should be adjusted. The trust document cannot be amended after creation, but a new CRT can be established if circumstances change materially.

Key takeaways

• A traditional IRA is subject to both estate tax (included in the gross estate at full value) and income tax (every dollar is IRD under IRC section 691) — making it the worst asset to leave to non-spouse heirs under current law.
• The SECURE Act 2.0 ten-year rule under IRC section 401(a)(9)(H) compresses inherited IRA distributions into 10 years, often pushing beneficiaries into the 32-37% federal bracket during peak earning years.
• Naming a CRT as IRA beneficiary allows the CRT to receive the IRA distribution tax-free (under IRC section 664(c)(1)), then pay out to the beneficiary over up to 20 years or the beneficiary's lifetime — re-stretching the income recognition beyond the 10-year window.
• The estate receives a charitable deduction under IRC section 2055 for the present value of the remainder interest, directly reducing estate tax exposure — including potential elimination of state estate tax in low-exemption states like Massachusetts ($2 million) and Oregon ($1 million).
• The strategy redirects charitable bequests from tax-efficient stepped-up assets to the tax-inefficient IRA, freeing the full basis step-up under IRC section 1014 for non-retirement assets passing to heirs.
• The 10% remainder test under IRC section 664(d) is the binding constraint: younger beneficiaries may need a term-of-years CRUT (max 20 years) instead of a lifetime CRUT, or a lower payout rate, to satisfy the test at current Section 7520 rates.
• The CRT is not appropriate for Roth IRAs (distributions are already tax-free), spousal rollovers (spouse is exempt from the 10-year rule), small IRA balances (costs outweigh savings below approximately $500,000), or account holders with no charitable intent.