Donor Advised Funds | Private Foundations

Donor Advised Funds

1. Summary
A donor advised fund (or “DAF”) is an account established with a qualified charity (known as the DAF’s “sponsoring organization”) that permits the donor (and/or other parties designated by the donor) the right to make non-binding recommendations to the charity with respect to the fund’s administration. Recommendations that may be made include grants to other charities and, in some cases, how the fund is to be invested. Although contributions to a donor advised fund are pooled for purposes of investment and management by the charity sponsoring the donor advised fund, an account is maintained on the charity’s books reflecting each donor’s contribution and adjusted to take into account: (a) grants made, (b) a share of the income, gains and losses, and (c) management and other charges imposed upon each donor’s account. Periodic reports or statements are normally provided to donors reflecting the account balance and these adjustments.

2. Pros
Donor advised funds are very simple to establish, can be created quickly and do not require any maintenance, tax return or additional obligations on the part of the donor. In most cases, starting a fund only requires selecting a charity to administer the fund, opening an account by completing an application and arranging for a contribution to the account. Because DAFs are maintained by public charities, a contribution to a DAF will receive the maximum potential charitable income tax deduction (which is not always the case with a contribution to a private foundation).

3. Cons
A contribution to a DAF is irrevocable. Furthermore, legally, the donor may only make recommendations as to gifts from the fund; the donor’s wishes with respect to the fund are not legally binding upon the DAF. Thus, a donor has no assurance that his or her wishes will be followed. In addition, most DAFs have restrictions with respect to the types of grants that they will approve. For example, most DAFs prohibit grants to non-US based organizations and private foundations.

Private Foundations

1. Summary
A private foundation is a non-governmental, nonprofit organization (either a corporation or a trust) with a fund managed for charitable purposes by its officers or trustees. Private foundations usually derive their funding from a single source, such as an individual, a family or a corporation. Most private foundations make grants to public charities, although a private operating foundation actually operates a program or programs or provides direct services that are charitable, educational or religious in nature or that otherwise serve the public good. Private foundations are generally exempt from income taxes on income earned. Non-operating private foundations, though, must pay an annual excise tax equal to 2% (or, in some cases, 1%) of their net investment income.

2. Pros
Gifts to establish or grow a private foundation are deductible for income tax, gift tax and estate tax purposes. Lifetime contributions of appreciated publicly traded securities, for example, are deductible at their full fair market value (but subject to percentage income limitations). Private foundations often serve as a forum to instill the value of charitable giving in multiple generations of a family. The donor (and his or her family in the case of a family foundation) can continue to control the investments of the foundation and the recipients and amounts of grants.

3. Cons
Because of past abuses of private foundations, they are subject to numerous restrictions and regulations to assure that the foundation is used to further charitable purposes rather than to benefit the creator or his or her family. These restrictions create many traps for the unwary. Because of federal organizational and operating restrictions and regulations, together with state registration and reporting requirements, private foundations are relatively expensive to create and maintain, and great care must be taken in their operation to avoid inadvertent violation of federal and state rules and restrictions. Consequently, private foundations should be considered only by individuals who are willing to commit substantial resources to charitable endeavors.