Donor-advised funds and private foundations ~ Similar but different
Advisors who work with charitably inclined individuals and families are familiar with the basics of donor-advised funds and private foundations. Below is a quick overview! Reach out to Hudson Community Foundation (HCF) anytime. We are always happy to discuss your clients’ options for achieving their charitable giving goals.
Let's begin with two basics of how each operate differently:
First, unlike a private foundation, a donor-advised fund is not a separate legal entity. A donor-advised fund is established underneath the legal umbrella of a community foundation or other 501(c)(3) donor-advised fund sponsoring entity.
Second, donor-advised funds and private foundations are governed under similar but separate rules in the Internal Revenue Code.
Why are donor-advised funds popular?
Donor-advised funds are popular because they allow a donor to make a tax-deductible transfer of cash or marketable securities that is immediately eligible for a charitable deduction. The donor can recommend gifts to favorite charities from the fund when the time is right. A donor-advised fund operates a lot like a checking or savings account just for charity, and it’s established according to specific IRS guidelines that create tax advantages and govern administration.
Why is it common to choose a donor-advised fund instead of a private foundation?
A donor-advised fund can be an effective alternative to a private foundation, thanks to fewer expenses to establish and maintain, maximum tax benefits (higher AGI limitations and fair market valuation for contributing hard-to-value assets), no excise taxes, and confidentiality (including the ability to grant anonymously to charities).
Why is a donor-advised fund at a community foundation particularly advantageous?
A donor-advised fund at Hudson Community Foundation is frequently a more effective choice than a donor-advised fund offered through a brokerage firm (such as Fidelity or Schwab). That’s because, at a community foundation, your client is part of a community of giving and access to a staff who can assist with strategic grant making, family philanthropy, and opportunities to gain deep knowledge about local issues and nonprofits making a difference. Also, the standard fee stands local to support a non-profit doing good in the community rather than a national financial institution.
Are donor-advised funds flexible like private foundations?
Private foundations will always differ from donor-advised funds not only because of their status as separate legal entities and the deductibility rules for gifts to these entities, but also because of the opportunities to customize governance. A “donor-advised fund” is simply a term used to specify the structure of a fund and its relationship with a sponsoring organization such as a community foundation. The donor-advised fund vehicle itself is extremely flexible.
Can donor-advised funds, like private foundations, extend across generations?
Yes. Hudson Community Foundation can work with your client’s family on a charitable giving plan that extends for multiple future generations. That is because the team at HCF supports the family in strategic grant making, family philanthropy, and opportunities to gain deep knowledge about local issues and nonprofits making a difference.
Private foundations can get pretty big, but are there size limitations on donor-advised funds?
The size of a donor-advised fund, like the size of a private foundation, is unlimited. The United States’ largest private foundations are well into the billions of dollars. (Information about private foundations, ironically, is not so private. The Internal Revenue Service provides public access to private foundations’ Form 990 tax returns. That is not the case for individual donor-advised funds.)
Similarly, donor-advised funds are not subject to an upper limit. Although information on the asset size of individual donor-advised funds is not publicly available, and data indicates that some donor-advised funds' assets may total in the billions of dollars.
A donor-advised fund of any size can be an effective alternative to a private foundation, thanks to fewer expenses to establish and maintain, maximum tax benefits (higher deductibility limitations and fair market valuation for contributing hard-to-value assets), no excise taxes, and confidentiality (including the ability to grant anonymously to charities).
The decision whether to establish a donor-advised fund or a private foundation–or both–is much less of a function of size than it is other factors that are more closely tied to the objectives your client is trying to achieve.
Can a family have both a private foundation and a donor-advised fund?
Many philanthropists and their advisors are aware of the benefits of using both a donor-advised fund and a private foundation to accomplish their charitable goals. Donor-advised funds can help meet the need for anonymity in certain grants, which is typically difficult using a private foundation on its own. A donor-advised fund can receive a family’s gifts of highly appreciated, nonmarketable assets such as closely-held stock and real estate, and benefit from favorable tax deduction rules not available for gifts to a private foundation. Plus, an integrated donor-advised fund and private foundation approach can help a family balance and diversify its investment and distribution strategies to ensure that giving to important causes remains steady even in market downturns.
Some private foundations are even considering transferring their assets to a donor-advised fund at the community foundation to carry on the foundation’s mission. Terminating a private foundation and consolidating giving through a donor-advised fund is sometimes the best alternative for a family when the day-to-day management and administration of the private foundation has become more time-consuming than expected and is taking time and focus away from nonprofits, the community, and making grants. In addition, some families find that the tax rules related to investments, distributions, and “self-dealing” have become harder to navigate and are perhaps even preventing the family from maximizing tax benefits of charitable giving. Finally, the administrative load of managing a private foundation sometimes becomes overwhelming, especially if the family members who handled these functions initially have retired, passed away, or simply become busy with other projects.
With a fund at Hudson Community Foundation (HCF), advisors can manage the charitable assets on your preferred platform at any amount. Assets stay under your management. You can provide your clients with the consistent investment advice they expect. We are your partner in charitable giving!
The team at HCF is a resource as you serve your philanthropic clients. We understand the charitable side and are happy to serve as a secondary source as you manage the primary relationship with your clients. This blog is provided for informational purposes only. It is not intended as legal, accounting, or financial planning advice.