Supplementing Retirement Income with a Planned Gift

Many of your supporters will start planning for their retirement in earnest once they reach their late 40s or early 50s. In a classic scenario, their children may have moved out of the house, or will do so in the next few years. They are established in their careers and entering their peak earning - and saving - years. It's time to start planning for the next stage of life: retirement.

An important aspect of planning for retirement is making sure there will be sufficient cash flow to meet living expenses. There are at least three gift plans that can provide a donor with additional cash flow to meet those expenses starting when a donor retires.

Profile: Desires predictability and Guarantee
The deferred gift annuity (DGA) has three characteristics that will appeal to many donors who are planning for retirement.

1. It offers the predictability of fixed payments.
2. It offers the security of being backed by your organization's general resources.
3. It allows the donor to set the date when payments will start.

A promise of fixed and guaranteed payments is just what many in your target audience want to hear in a world of rock-bottom interest rates on CDs, money market funds, and other widely-used savings vehicles. Even under the lower annuity rates suggested by the American Council on Gift Annuities (ACGA) that went into effect on January 1, 2012, DGA payment amounts can look very favorable in comparison to common alternatives, as illustrated below.

Deferred Gift Annuity Completed July 2013 (Model)

  • Donor, Age 55
  • Payments Deferred to Age 65
  • ACGA Gift Annuity Rate is 6.4%

The average CD rate is currently less than 1.0%. When you compare the ACGA rate, and the fact that the donor will receive a charitable deduction and that a portion of the DGA income will be tax-free, this vehicle will look attractive to your donors.

Profile: Desires flexibility
While many donors find the predictability of DGA payments reassuring, others want flexibility regarding when payments begin and the amount of those payments. For example, they may not know when they will retire and would prefer to decide on a payment start date when they are more certain of when they will stop working.

The flexible gift annuity (FGA), a variation of a deferred gift annuity, may be just what these donors are looking for. The FGA works like a DGA, but does not lock in a payment start date and amount on the date of gift. Rather, it includes a schedule of possible payment start dates from which the annuitant can choose at any time before payments begin. The later the payment start date chosen, the greater the annuity amount your charity will pay. A typical FGA elective payment schedule for a 55 year-old contemplating a $50,000 gift on 6/24/2013 might look like this:

Flexible Gift Annuity (Model)

Payment Commence Date

Annual Annuity Amount

6/30/2018

$2,550,00

6/30/2019

$2,650.00

6/30/2020

$2,800.00

6/30/2021

$2,900.00

6/30/2022

$3,050.00

6/30/2023

$3,200.00

6/30/2024

$3,400.00

6/30/2025

$3,500.00

6/30/2026

$3,700.00

6/30/2027

$3,900.00

6/30/2028

$4,100.00

Under the above schedule, our 55 year-old could start receiving payments any time from age 65 to 75. While she may not be sure exactly when she will want payments to start, she can be confident that it will be sometime during that 10-year span. In addition to receiving payments that start when she wants them to start, she will earn a substantial income tax deduction and some of each payment will be tax-free throughout her life expectancy. Her deduction will be the same regardless of which payment start date she ultimately chooses.

Profile: Desires inflation protection
Some donors with a long life expectancy may not find the promise of fixed payments so appealing. They may worry about the potential effects of inflation on the buying power of those dollars over the decades to come. For these donors, a flip unitrust may be more attractive than either a DGA or FGA. A flip unitrust has the same ability to start distributing substantial income in the year the donor chooses, but also has the potential to increase its distributions over time.

A flip unitrust works this way: It starts out as a net income unitrust that distributes either its stated unitrust percentage or its net income for the year, whichever is LESS. If the trust earns no net income, it makes no distribution. Starting in the year following a chosen triggering event, which can be a particular date, the trust becomes a standard unitrust that distributes a specified percentage of its value each year, regardless of its net income. This feature can be very useful in the context of a donor who is looking to supplement retirement income.

For example, our 55 year-old donor could create a $100,000 5% flip unitrust with a triggering event that is the last day of the year in which the donor will turn 65. During the first 10 years of the trust, the trustee could invest predominantly in growth-oriented securities that pay little or no dividends. Once the trust flips payment methods, the trustee could pursue a balanced investment approach and distribute 5% of the trust's value every year thereafter, no matter what. The payments will then reflect the value of the trust's principal: if the principal grows, the payments will grow, too. The payments would look like this if the trust is able to earn 1% income and 7% appreciation annually:

Flip Unitrust (Model)

Year End

Before Tax Principal 

Beneficiary Income

2013

$100,000

 

2014

$107,000

$1,000

2015

114,490

1,070

2016

122,504

1,145

2017

131,080

1,225

2018

140,255

1,311

2019

150,073

1,403

2020

160,578

1,501

2021

171,819

1,606

2022

183,846

1,718

2023

196,715

1,838

2024

202,617

9,836

2025

208,617

10,131

2026

214,956

10,435

You can see that payments are modest through 2023, jump dramatically after the trust flips payment methods, then grow steadily thereafter as trust value continues to increase. There is, of course, the risk that trust value will go down - and payments along with it. This means the flip unitrust solution will appeal only to those donors for whom the possibility of increasing payments over time outweighs the risk that those payments could shrink over time instead.

It is also worth noting that the complexities of creating and administering a flip unitrust mean that they require a far greater funding amount to be cost-effective. Most charities that offer to manage these trusts themselves set a minimum threshold of $100,000 - $250,000. In contrast, most charities set their minimum acceptable DGA amount at $10,000 - $25,000.

Conclusion
Life income gifts offer solutions to financial and retirement planning that outright gifts cannot address. One situation they can address very nicely is a donor's desire to supplement retirement income with additional cash flow. From a development point of view, the techniques discussed in this post have the added benefit of widening the pool of prospects to which your planned giving program can appeal.