A CLAT, or charitable lead annuity trust, is an irrevocable trust that pays a fixed dollar amount to one or more charities every year for a set period, then delivers whatever is left to family members or other non-charitable beneficiaries. It is used mainly by families whose wealth exceeds the federal estate and gift tax exemption (set at $15 million for 2026) and who want to move assets to the next generation at a discounted transfer-tax cost while supporting causes they care about.
The appeal is straightforward. The IRS values the gift to the family at the amount contributed minus the present value of the charity’s future annuity payments. Because that annuity stream can be worth a great deal on paper, the taxable gift shrinks, sometimes to zero. Any investment growth above what the IRS assumed then passes to the family free of additional gift or estate tax.
How the Mechanics Work
A CLAT is a split-interest trust: two different kinds of beneficiaries share the same pool of assets. The charity holds the “lead” interest and collects a fixed annual payment for the trust’s entire term. When that term ends, the remaining principal and any accumulated growth pass to the remainder beneficiaries, usually children or grandchildren.
The term can run a fixed number of years (10, 15, 20, or longer) or be measured by one or more lifetimes. The annual payout is locked in at creation as a specific dollar figure, calculated as a percentage of the initial fair market value of what you contributed. Fund a CLAT with $5 million and set a 5% annuity rate, and the charity receives exactly $250,000 per year no matter how the investments perform.
That gap between the fixed payout and real investment returns is where the planning power sits. If trust assets grow at 7% while the annuity consumes 5%, the extra 2% compounds inside the trust year after year, and all of that excess reaches the remainder beneficiaries at the end. The investment goal is simple: outperform the annuity rate so more wealth reaches the family.
How a CLAT Saves Gift and Estate Tax
When you fund a CLAT, the IRS treats the transfer as a gift to the remainder beneficiaries, but it does not value that gift at the full amount you put in. The taxable gift equals the fair market value of the contributed assets minus the present value of the charity’s annuity stream. Because the charity is receiving payments for years or decades, that present value can be substantial, and the taxable gift shrinks accordingly.
The present value hinges on the Section 7520 rate, which the IRS publishes monthly and which equals 120% of the applicable federal midterm rate, rounded to the nearest two-tenths of a percent. A lower 7520 rate makes the charity’s annuity look more valuable in present-value terms, which reduces the taxable gift. A higher rate does the opposite. In early 2026 the 7520 rate has hovered around 4.6%.1Internal Revenue Service. Section 7520 Interest Rates You may choose the rate from the month the trust is funded or from either of the two preceding months.2Office of the Law Revision Counsel. 26 U.S. Code 7520 – Valuation Tables
The Zeroed-Out CLAT
In the most aggressive version, the annuity rate and term are calibrated so the present value of the charitable payments exactly equals the fair market value of what was contributed. On paper the taxable gift is zero. No gift tax is owed, and none of the grantor’s lifetime exemption is used. If the trust’s investments then beat the 7520 rate baked into the calculation, all of that excess growth passes to family members free of gift and estate tax. Families whose primary goal is wealth transfer rather than maximizing the charitable payout typically use this structure.
The leverage depends entirely on the spread between actual returns and the 7520 rate. If the trust earns 8% while the 7520 rate was 4.6%, that spread compounds across the trust’s life and represents wealth that reaches the family at no transfer-tax cost. Growth equities and interests in fast-growing private businesses are common funding assets for this reason.
Grantor CLAT or Non-Grantor CLAT
The most consequential decision at setup is whether the CLAT is structured as a grantor trust or a non-grantor trust. That choice controls who pays income tax on the trust’s earnings and whether the person funding the trust gets an upfront income tax deduction. It must be built into the trust document at the start and cannot be changed later.
Grantor CLAT
In a grantor CLAT, the person who creates the trust is treated as the owner of the trust assets for income tax purposes under the grantor trust rules of Internal Revenue Code Sections 671 through 679. One common way to trigger grantor status is retaining a reversionary interest worth more than 5% of the trust’s value at inception.3Office of the Law Revision Counsel. 26 U.S. Code 673 – Reversionary Interests In exchange, the grantor takes an upfront income tax charitable deduction equal to the present value of the entire annuity stream the charity will receive.
That deduction is capped at 30% of adjusted gross income because it counts as a contribution “for the use of” the charity, with any unused portion carrying forward for up to five years.4Office of the Law Revision Counsel. 26 U.S. Code 170 – Charitable, Etc., Contributions and Gifts The catch is heavy: every year of the trust’s term, all of its investment income lands on the grantor’s personal return, even though the charity is the one being paid. Planners call it “phantom income,” and it can strain cash flow in any year when the trust’s taxable income exceeds the annuity amount.
Non-Grantor CLAT
A non-grantor CLAT is its own taxpaying entity. The person who funds it gets no upfront income tax deduction. Instead, the trust itself claims an unlimited charitable deduction under IRC Section 642(c) for the annuity it pays out each year.5Office of the Law Revision Counsel. 26 USC 642 – Special Rules for Credits and Deductions When the trust’s income is roughly equal to or less than the annuity, that deduction eliminates the trust’s own tax liability.
The grantor’s personal return stays clean. For people who don’t need a large upfront deduction, or whose income is too high for the 30% AGI ceiling to be useful, the non-grantor structure is usually the better fit. Most CLATs built primarily for transfer-tax planning are non-grantor trusts.
Where a CLAT Can Go Wrong
A CLAT is irrevocable. Once it is funded, the grantor cannot take the assets back, change the annuity, or swap in new beneficiaries. If personal finances change, the assets inside the trust are out of reach.
The larger risk is underperformance. The charity gets paid first, every year, regardless of how the portfolio does. If returns fall short of the annuity rate, the shortfall comes out of principal. A long stretch of weak returns over a long trust term can erode the remainder to a fraction of what was projected, or leave nothing for the family at all. The grantor has permanently transferred the assets, the charity has received its payments, and the intended heirs end up with less than if the trust had never existed.
Phantom income is the parallel risk on the grantor side. Being taxed each year on income that goes entirely to charity requires outside cash to pay the bill, and underestimating that drain is a common implementation mistake.
There is also no built-in flexibility on the payout. A CLAT’s annuity is fixed at inception, so in a poor market the trust still owes the same dollar amount to charity, which accelerates principal depletion. (A charitable lead unitrust, by contrast, pays a percentage of annually revalued assets.)
Rules the Trust Has to Follow
Under IRC Section 4947(a)(2), CLATs are subject to several excise tax rules that also govern private foundations. Self-dealing (Section 4941) and taxable expenditure rules (Section 4945) apply to every CLAT. Excess business holdings (Section 4943) and jeopardy investment rules (Section 4944) apply unless narrow exceptions are met.6Internal Revenue Service. IRC Section 4947 – General Explanation of Trusts
Practically, that means the grantor and other disqualified persons cannot buy, sell, or lease property to or from the trust, lend to or borrow from it, or otherwise use its assets for personal benefit.7Internal Revenue Service. IRC Section 4941(d)(2)(E) – Taxes on Self-Dealing, Special Rules The trustee cannot make investments that jeopardize the trust’s charitable purpose; a violation triggers an initial 10% excise tax on the amount involved and a further 25% if not corrected.8Office of the Law Revision Counsel. 26 U.S. Code 4944 – Taxes on Investments Which Jeopardize Charitable Purpose When the excess business holdings rule applies, the trust’s combined stake with disqualified persons in any business enterprise generally cannot exceed 20% of voting stock.9Internal Revenue Service. IRC Section 4943 – Taxes on Excess Business Holdings
Every CLAT files Form 5227 (Split-Interest Trust Information Return) annually.10Internal Revenue Service. Return Due Dates – Other Returns and Reports Filed by Exempt Organizations A non-grantor CLAT also files its own income tax return on Form 1041 and issues Schedule K-1s to beneficiaries who receive distributions.
CLAT vs. Charitable Remainder Trust
People often confuse CLATs with charitable remainder trusts, and the names invite the mistake. The structures are mirror images. In a CRT, the non-charitable beneficiary (often the donor) receives income from the trust for a term of years or for life, and the charity gets whatever is left at the end. A CLAT reverses that order: the charity is paid first, and the family gets the remainder.
The tax treatment lines up with that structural flip. A CRT gives the donor a current income tax deduction for the present value of the charity’s future remainder interest and pays the donor income during the trust term. A non-grantor CLAT gives the grantor no income tax deduction at all; its benefit sits on the transfer-tax side, reducing or eliminating gift and estate tax on wealth passed to the next generation. Families focused on estate tax planning gravitate toward CLATs. Donors looking for current income and an immediate deduction lean toward CRTs.