Introduction

Charitable gift annuities (CGAs) continue to be a widely used planned giving vehicle because they offer guaranteed, fixed payments to annuitants for life. While CGA recipients value this steady income, charities often encounter the challenge of not being able to locate an annuitant. Unfortunately, there is limited official guidance on how to handle such situations. Beyond the administrative burden, a missing annuitant can create legal and fiduciary obligations that charities must navigate with care.

This article series will explore the missing annuitant challenge. Part one of this series will provide an overview of CGAs, the different types of CGAs and an examination of the most common situations that can give rise to a missing annuitant. Part two will explain the charity’s obligations to a missing annuitant and the steps that charities can implement to help mitigate these types of situations. By understanding and applying best practices, advisors can help clients establish procedures that keep annuity payments steady and ease the burdens on charities.

Charitable Gift Annuity Overview

A charitable gift annuity (CGA) is a contract between the donor and the charity. When a donor enters into a CGA, he or she makes a gift of cash or appreciated property to charity in exchange for the charity’s guarantee to make annuity payments for one or two lives. Sec. 514(c)(5). While the donor is usually an annuitant to the CGA, the annuitant does not necessarily have to be the donor. It is common for a donor to establish a CGA for the benefit of another person.

The charity’s contractual obligation to make annuity payments is secured by all the assets of the charity.  Most charities maintain an annuity reserve fund, which is required by some state insurance commissioners. However, the endowment, real property and other assets of the charity stand behind the promise to pay a CGA. Many states regulate the issuance of CGAs, with some requiring charities to obtain advance approval to issue CGAs to annuitants.

The donor is entitled to a partial charitable income tax deduction for creating the CGA. However, bargain sale rules prevent the donor from taking a deduction for the full amount transferred to charity. Rather, the deduction is equal to the present value of the “future charitable interest.” To determine the deduction, the value of the charitable gift is divided from the promised annuity payments. The present value of all future income payments to the annuitant is subtracted from the total gift value to determine the present value of the charitable interest and the amount the donor deducts on his or her income tax return.

The annuity payments represent taxable income to the annuitant. A portion of the payments received by the annuitant will be considered a tax-free return of the donor’s principal. Reg. 1.1011-2(c). If the donor used appreciated property to fund the CGA, a portion of the annuity payments will be taxed at capital gains tax rates rather than at ordinary income tax rates. During the life expectancy of the donor, determined at the time the annuity was created, the annuitant will continue to receive this tax-free return and the more favorable capital gains tax treatment. If the annuitant lives past the IRS projected life expectancy, all post-expectancy annuity payments will be taxed at ordinary income tax rates.

CGAs must make payments for either one or two lives. At the end of the annuity’s duration, the remaining value, known as the residuum, is transferred to charity. The charity can then apply the funds immediately to its charitable purposes or to a specific use if the donor designated the funds for a specific purpose when the CGA was initially established. The value that is eventually transferred to charity can result in substantial gifts to help provide long-term support to the donor’s favorite charitable causes.

Types of Charitable Gift Annuities

A CGA can be set up to begin payments immediately or to defer payments into the future. An immediate CGA will commence payments to the annuitant within one year of the annuity’s funding date. A deferred CGA will begin to make payments to the annuitant on a fixed date that is more than one year after the CGA was created. Alternatively, a donor may choose a flexible deferred CGA, which does not have a fixed first payout date. Instead, a flexible deferred CGA permits the annuitant to elect when payments will begin. If the annuitant decides to start payments before a specific “target date,” then the annuity payments will be reduced. If the annuitant decides to defer the first annuity payment beyond the target date, then the payout amount and preferred tax treatment of the payments will be adjusted accordingly. An important distinction with flexible deferred CGAs is the charitable deduction does not change regardless of when the annuitant elects to begin payments.

Due to the nature of deferred and flexible deferred CGAs, there can be years or decades between the time the annuity was established and the commencement of annuity payments. As such, it is important that the charity, the donor and the donor’s advisors continue to keep in touch to make sure the charity has the annuitant’s current address on file so that the annuitant can receive his or her payments. However, over the years, situations can arise that can cause an annuitant to lose contact with the charity or simply forget to inform the charity of changing situations.

Missing Annuitant Circumstances

One of the most significant administrative challenges a charity can face in managing a CGA program is the problem of a missing annuitant. In many cases, the first indication that an annuitant is missing is if the annuity checks remain uncashed, direct deposits are rejected or other communications are returned as undelivered. Because a CGA creates a contractual relationship requiring the charity to make payments for the annuitant’s life, the charity carries the responsibility of making reasonable efforts to locate an annuitant. Missing annuitant situations arise under a variety of circumstances, each presenting its own legal and practical challenges. 

Change of Address

One of the most common situations occurs following a change of address for the annuitant. Oftentimes, an annuitant has downsized their residence, retired to a new city, moved out of state to be close to family or entered a nursing home or long-term care facility. During the moving process, the annuitant may have overlooked the need to notify the charity of the change in address.

Charities are oftentimes left unaware of the annuitant’s change of address until they are notified that the payments are returned as undeliverable. If the annuitant has not provided updated contact information, the charity may have no reliable way to connect with the annuitant. The charity may attempt to find postal forwarding information, search public records databases or reach out to emergency contacts listed in the donor’s files. However, despite the charity’s best efforts, the charity may not be able to find a current address for the annuitant.

Unaware of the Existence of the CGA

Another frequently encountered situation is when the annuitant is not the donor and is unaware of the CGA. It is common for a donor to establish a CGA for the benefit of another annuitant. Whether it is a parent creating a CGA for a child, a spouse creating one for the other spouse or a donor creating a CGA for another relative or friend, the annuitant may be unaware that the CGA exists. Since a CGA is a contract between the donor and the charity, the donor may have handled all the communications with the charity without involving the annuitant.

If neither the donor nor the charity communicates the existence of the CGA to the annuitant, the annuitant may never have the opportunity to provide the charity with the necessary identifying and contact information or understand the importance of keeping it current. When a charity does not obtain the annuitant’s information at the creation of the CGA, they are left searching for the annuitant in order to fulfill their contractual obligations. Until contact is reestablished or the annuitant’s death is confirmed, the charity may be unable to deliver payments even though its payment obligation continues.

Incapacitation

A missing annuitant problem may also arise when an annuitant becomes physically or mentally incapacitated. Illness, cognitive decline, dementia, stroke or other medical conditions can render an individual unable to manage financial affairs, respond to correspondence, or communicate effectively with the charity. The issue would then become who will receive, manage and handle related financial matters on the annuitant’s behalf. While incapacitation does not impact the CGA payment obligation, very often the annuitant has executed a power-of-attorney before becoming incapacitated to manage the annuitant’s affairs.

While the attorney-in-fact is handling the annuitant’s financial matters, they may be unaware of the existence of the CGA and the right for the annuitant to receive payments. Additionally, the charity may require documentation before discussing account details or redirecting CGA payments. As such, the annuitant is left unable to receive payments even though they are entitled to the payments.

Death of an Annuitant

Another scenario that gives rise to the missing annuitant problem occurs when a donor makes a gift to fund a successive two-life CGA. Under this arrangement, the charity will make payments to the first annuitant. After the first annuitant passes away, the surviving annuitant continues to receive payments for their lifetime. Only after the death of the second annuitant, does the charity’s obligation to make payments end.

Yet, in this case, the charity may be aware that the first annuitant has passed away but is unable to locate the successor annuitant. Without any way of communicating with the successor annuitant, the charity is left with the uncertainty of whether the second annuitant is still alive and entitled to continue receiving payments. Charities will typically conduct due diligence efforts and follow applicable state law and internal policies because they cannot treat the CGA as terminated without evidence that the successor annuitant has also passed away.

Other Circumstances Contributing to a Missing Annuitant

In addition to the situations discussed above, other circumstances may result in an annuitant becoming difficult or impossible to locate. International relocation, identity theft concerns, natural disasters or prolonged hospitalization can all disrupt communication between an annuitant and the charity. Technological changes may also contribute to the problem when an annuitant relies exclusively on electronic communications and changes email addresses or telephone numbers without updating records.

Regardless of the reason, a missing annuitant situation presents significant challenges for both the charity and the annuitant. The annuitant risks not receiving payments to which he or she is legally entitled and under-reporting income on tax returns, while the charity remains obligated to administer the annuity responsibly and comply with applicable contractual, regulatory and unclaimed property requirements. Consequently, charities are well served by maintaining robust recordkeeping procedures, periodically updating annuitant contact information and implementing policies for locating missing annuitants before a communication lapse develops into a long-term problem.

Conclusion

CGAs are a popular charitable giving option that provides donors with important tax benefits while providing annuitants with guaranteed, fixed payments for life. Yet, situations can arise that leave a charity uninformed as to an annuitant’s location and make it difficult for the charity to fulfill its obligation of making the required annuity payments. Part two of this article series will explore a charity's obligations to missing annuitants and the strategies organizations can implement to ensure they are prepared if a missing annuitant situation arises.