payment is equal to 5.6 percent of the CRT's total value, then a 1 percent income and dividend yield would cause l%/5.6% = 18% of Mr. Smith's annuity payment to be subject to ordinary income tax. This is an important consideration. In many cases, investors use CRTs to obtain immediate diversification while deferring the payment of long-term capital gains tax on an appreciated single-stock position. However, the investor may not ultimately benefit if the process of deferral causes a significant portion of the gain to be effectively recharacterized as ordinary income. CRTs should be managed to minimize taxable income and short-term gains. FOUNDATION A foundation is an entity created to pursue philanthropic activities. A single donor funds a private foundation. That donor has the ability to influence how the portfolio is managed and to what charitable activities distributions are made. Portfolio management policies must be focused on the benefit of the charity and must meet "reasonable person" standards. A foundation is not part of an individual's estate. Assets contributed to the foundation are generally treated as charitable donations, subject to certain limitations. In general, an individual may claim a charitable deduction for gifts up to 30 percent of their income, if the gift is to a public charity, and up to 20 percent if the gift is to a private foundation. Appreciated assets given to a foundation will not be subject to capital gains tax. The foundation generally must distribute at least 5 percent of its assets to charitable activities each year although we will ignore that in our calculations. The foundation is free of tax except for certain modest excise taxes that we will also ignore in our analysis. Mr. Smith contributed some low-cost-basis shares of Smith Industries to fund this foundation. He was able to claim the market value of the shares as a deduction against income tax. He owed no capital gains tax. The foundation was then able to immediately sell the shares and reinvest into a more diversified portfolio without incurring any tax. We now want to analyze asset allocation and asset location strategies for the Jones family and for Mr. Smith. We will begin with the Joneses. We will target the expected future wealth of their children in 20 years' time, assuming that at that point both Mr. and Mrs. Jones have died and left their remaining assets to their children. We will assume a 50 percent estate tax although we note that the estate tax is currently under review by Congress. We will allocate among six assets with certain assumptions regarding expected return and volatility (Table 31.1) and correlations (Table 31.2). We will assume a 3 percent inflation rate. In order to demonstrate the value of estate planning and then the value of asset location strategies, we will examine the Jones family's situation in three scenarios. We will begin by assuming no estate planning or retirement entities. All $25 million will be held in the parents' name and will be subject to ongoing income tax. The ending balance in 20 years will be subject to 50 percent estate tax. Annual spending will start at $250,000 and will grow at 3 percent per year, reflecting our assumption for inflation. In addition, there will be $80,000 of annual gifts. We will assign