Considering a Donor-Advised Fund or a Private Foundation
Now that you have attained the financial security where you are able to share your assets philanthropically, your biggest decision is determining just how to do that.
As discussed earlier, there are many ways to donate to qualified organizations. But when a more systematic, managed approach is desired, most people look closely at two options: a donor-advised fund or a private foundation.
How do you know which is best for you? Obviously, you must look at your overall portfolio and how much you want to dedicate to charitable causes. There are also lifestyle issues (how involved do you want to be in the giving process), management concerns (again, what level of involvement you seek), and of course tax considerations.
Before making a decision, examine what distinguishes each philanthropic program.
Time, tax, and money matters
In many respects, donor-advised funds and private foundations are similar. Both offer you a systematic, managed way to give to your favorite charities. But there are some important differences.
Private foundations allow you, as donor, and in many instances your family, as members of the foundation's Board of Directors, more direct control in determining investments and charitable gifts. But this control also requires a substantial time commitment. And under IRS rules, you are required to give away minimum amounts each year: at least 5% of net investment assets.
In a donor-advised fund, you do not have the same level of oversight. Rather, there is a review and approval process involved in determining where charitable gifts go and how assets are invested. You (and your family members if you wish) do serve as donor-advisor and make recommendations on investments and grants awarded through a donor-advised fund account. But the decisions fall ultimately to the fund's Board of Directors.
Neither do a donor-advised fund's assets have to be distributed as regularly as in a foundation. The IRS requires that at least 5% of the fund's average net assets be dispersed to qualified charities on a rolling five-year basis. This allows you to be selective in your grant recommendations and gives your investments additional time to grow.
Tax ramifications differ, too. Most foundations face an annual excise tax of 2%; no similar tax is assessed with a donor-advised fund.
Donor-advised funds also provide larger tax benefits. Your deductions for cash gifts to a private foundation are limited to 30% of your AGI, 20% for any donated long-term appreciated securities. However, as a donor to a donor-advised fund, you can deduct cash gifts up to 50% of your AGI, 30% when the donations are appreciated assets.
More details on these and other differences between a donor-advised fund and a private foundation can be found below in the side-by-side comparison of the two programs.
Donor-advised funds and private foundations are similar in many respects. Each offers you a managed, tax-effective way to support your favorite charitable causes.
But there are some important differences. The table below compares the donor-advised funds with foundations to help you determine which method better fulfills your philanthropic wishes.
| Considerations | PrivateFoundation | Donor-Advised Fund |
|---|---|---|
IRS classification |
Defined as a charitable organization as described in U.S. Tax Code Section 501(c)(3). Classified as a private foundation under Section 509(a). |
Defined as a charitable organization as described in U.S. Tax Code Section 501(c)(3). Classified as a public charity under U.S. Tax Code Sections 509(a)(1), (2), or (3). |
Federal tax reporting requirements |
Form 990-PF must be filed annually with the Internal Revenue Service. This return discloses information on the foundation's assets; income; excise tax computations; names and compensation of officers, trustees, or directors; and a list of grant recipients. The Form 990-PF is available to the public, through both the IRS and the foundation. |
Form 990 must be filed annually with the Internal Revenue Service. This return provides the IRS with information about the fund's activities, assets, receipts, and expenditures, as well as compensation of directors, officers, and certain employees. Form 990 is available to the public, through both the IRS and the fund. |
Tax on investment income |
Most foundations must pay an annual excise tax of 2%. |
Donor-advised funds pay no annual excise tax. |
Tax benefits and deduction limitations |
Cash gifts to the foundation are deductible only up to 30% of your adjusted gross income. Foundation gifts of appreciated securities, such as closely held stock and real estate, generally are limited to the property's adjusted basis, i.e., the cost of the property. Contributions of most publicly traded stock, however, are deductible up to the stock's fair market value. The tax deduction on all gifts of appreciated property to a foundation is limited to 20% of your AGI. Donated assets are no longer part of your estate, which could ultimately reduce any potential estate tax concerns. |
Deductibility of cash gifts to a donor-advised fund is limited to 50% of your adjusted gross income. Gifts to the fund of appreciated property, such as long-term appreciated securities, are deductible at their full fair market value. The tax deduction on all gifts of appreciated property to a donor-advised fund is limited to 30% of your AGI. Donated assets are no longer part of your estate, which could ultimately reduce any potential estate tax concerns. |
Grant guidelines |
May make grants to support charitable purposes. |
May make grants to support charitable purposes. |
Grant decisions |
Foundations generally offer a more direct involvement in grant-making decisions. |
As fund donor, you can recommend grants be awarded, but you do not have ultimate decision-making power. The fund's Board makes the final gift determination on each charitable gift. |
Grant-making restrictions |
May not make grants to support lobbying or political campaign activities. |
May not make grants to private foundations or foreign-registered organizations or to support lobbying or political campaign activities. |
Personal involvement of donor and donor family |
Family members can be elected to the foundation's governing board and take on a role in making grant decisions. |
You can name family members to join you in an advisory capacity in making grant recommendations to the fund's Board. |
Charitable legacy |
By naming individuals to the foundation's board, the foundation continues over time. |
By naming successors to a donor-advised fund, the fund continues to the next and future generations. |
Mandatory distributions |
At least 5% of the foundation's net investment assets must be distributed to qualified charities and other charitable purposes each year. |
At least 5% of a donor-advised fund's average net assets must be distributed to qualified charities on a rolling five-year basis (not per donor-advised fund account). |
Control of assets and oversight |
Through control of the governing board, the sponsor of a private
foundation can control grant making and investment of the foundation's assets. |
Donor (or the donor's appointee) can
recommend investment allocations and specific grants. However, the
fund's Board must approve the donor's recommendations. |
Maintenance costs |
Foundations often hire a lawyer and/or accountant to ensure administrative compliance with legal, reporting, and accounting rules. As for investment management, foundations frequently pay for professional services to direct the foundation's assets. |
There could be legal or accounting fees to open a donor-advised fund, depending upon your choice of fund. Once established, funds generally charge a nominal fee, based on asset amounts, to cover administrative costs. When a mutual fund or other professional money management group establishes the fund, there also could be fees to cover the company's professional investment services. |
Investment choices |
A foundation's governing board oversees investment management. Foundations are subject to limits on holdings in for-profit businesses and investments must not jeopardize the foundation's ability to conduct its exempt purposes. |
When you use a commercial sponsor to establish a donor-advised fund, you are required to use the company's selected investments. With the T. Rowe Price Program for Charitable Giving, for example, donations to the fund are invested in one or more investment pools. If the donor-advised fund balance is $2 million or more, it can be separately managed by T. Rowe Price Associates, Inc., through an agreement with the Program. |
Privacy |
Form 990-PF is a public record. |
Donations can be made anonymously. |
If you already have a private foundation and decide that you prefer a donor-advised fund, you can make the change.
You can convert your foundation to public charity status or transfer the foundation's assets to a public charity. Since many donor-advised funds are classified as a public charity by the IRS, you can make the conversion by transferring all of your foundation assets to the donor-advised fund.
An additional IRS caveat to heed: If the recipient charity has been in continuous existence for less than five years immediately preceding the foundation's termination distribution, there may be additional steps required to complete the termination.
It's important that you review the procedures with your legal counsel since if the appropriate steps are not taken, the foundation could be assessed a sizeable termination tax. This assessment is the lesser of 1) the aggregate tax benefit resulting from the foundation's tax-exempt status or 2) the total value of the foundation's net assets.
The donor-advised fund to which you plan to transfer your foundation funds will provide you with the necessary transfer paperwork. Also be sure to check whether your state requires you to take additional steps to terminate the foundation.
