Donor Advised Funds v. Private Foundation

Benefits of Charitable Giving

In addition to giving back to the community, teaching a family good values, and feeling  good about oneself, charitable giving has considerable tax benefits. 

Charitable contributions can reduce the tax burden at the end of the year. A gift to a  qualified charitable organization may entitle a person or a couple to a charitable contribution  deduction against their income tax as long as they itemize deductions. A contribution to a qualified  charity is deductible in the year in which it is paid.  

If the gifts are deductible, the actual cost of the donation is reduced by the tax savings. For  example, if a person or couple is in the 33% tax bracket, the actual cost of a $100 donation is only  $67 ($100 less the $33 tax savings). As the income tax bracket increases, the real cost of the  charitable gift decreases, making contributions more attractive for those in higher brackets. The  higher the tax bracket, the larger the reward for giving. 

While a person or couple can continue to donate to specific charitable organizations, we  suggest that they consider creating a Donor-Advised Fund or a Private Foundation so they could  create something that will continue long after their death. 

Determining the Appropriate Charitable Giving Vehicle

Attached as Exhibit “A” is a chart that outlines the major differences between donor advised funds and private foundations. Both are good choices; it just depends on what is the best  fit for the individual, or a family, and what works with their lifestyle. 

1. Donor-Advised Fund (“DAF”)

DAFs are the fastest-growing charitable giving vehicle in the United States because they  are one of the easiest and most tax-advantageous ways to give to charity. When a person or couple donate to a DAF, they are making a donation to the organization sponsoring the fund that is  immediately tax deductible. If the account is a DAF, a person or couple would advise the  organization on how to grant the money out to their favorite charities. The donation is also invested  based on preferences, so it has the potential to grow, tax-free, while the donor is deciding which  charities to support. 

     2. Private Foundation

A private foundation is typically established by an individual or family member with a  substantial initial gift. Private foundations are overseen by a board of directors or trustees  responsible for receiving charitable contributions, managing and investing charitable assets, and  making grants to other charitable organizations.  

The primary advantage of a private foundation is the ability of the donor to maintain some  level of control over it, such as its mission, how the assets are invested, and the affairs of the  foundation. Individuals interested in becoming more immersed in the execution of their giving  strategies including operating an organization, potentially hiring a staff and investment managers,  actively managing grant making, and sponsoring charitable events are good candidates for a  private foundation. 

    3. Comparison between DAFs and Private Foundations

At the most basic level, the difference between a DAF and a private foundation is control.  A private foundation is a freestanding legal entity over which the donor retains complete control.  A DAF is a giving account within a sponsoring charitable organization. The donor makes  recommendation as to how those funds are invested and granted out, but the sponsoring  organization must give its approval. If the donor wants complete control over the charitable  vehicle, a private foundation is the way to proceed. 

However, if the donor does not mind taking a slightly less active role, a DAF may be a  better option. DAFs are typically promoted as the better wealth management solution because  they offer higher tax deduction limitations. DAFs are administratively less complex to establish  and operate than a private foundation. A DAF can be established immediately by the donor  without the time and expense involved in establishing a private foundation. A DAF is not subject  to the same legal and recordkeeping requirements imposed on private foundations, greatly  reducing the ongoing administrative costs relative to private foundations. Further, while a private  foundation must distribute to charity at least five percent of its assets each year, there is currently  no legally required minimum annual distribution from a DAF.  

Proceeding with a DAF

If a person or couple proceed with a DAF, there isn’t a lot of work on their part. They would create the DAF with an organization and make a tax-deductible contribution to the fund.  The fund managers, which include some of the biggest investment companies, then carry out a  dual mission of seeking positive returns on the assets, while making distributions to charities that they designate. 

Proceeding with a Private Foundation

If a person or couple decide to move forward with a private foundation, there is  significantly more work needing to be completed. However, it’s the tradeoff for having full  control. The following are considerations for the successful management of a private foundation  during the first year, and then annually thereafter:

1. Task Checklist
2. Determine the appropriate charitable giving vehicle: is a donor-advised fund  or private foundation desired? 
3. Determine the intent for Foundation; prepare mission statement 
4. File articles of incorporation with Secretary of State 
5. Complete and execute organizational documents  
6. Apply for a Federal employer ID number 
7. Select board members; secure their agreement to serve 
8. Determine if any staff is needed; if so, hire staff 
9. Preparation for board meetings: 
10. Obtain minute book 
11. Determine bank and investment firm for foundation 

Determine Accountant for foundation

1. Have First Board Meeting 
2. Establish grantmaking policies and guidelines 
3. Determine expense and grants budget 

Plan initial investments 

1. Plan initial grants 
2. Set up Operations 
3. Fund the foundation 
4. Establish record keeping system 
5. File appropriate documents with the IRS and NJ to formally set up the  Foundation and secure tax exemptions 
6. Have Accountant prepare tax returns including Form 990 PF with IRS B. Articulating Intent for the Private Foundation

To facilitate faithful adherence by the board to the intent for the foundation, one has an  obligation to carefully articulate the intent for the foundation and to provide clear guidance for  present and future board members. The first step is to identify the mission. I suggest providing a  clear and complete expression of the desired values, charitable philosophies, and objectives. A  person or couple should consider describing specific types of charities or causes that they want  their foundation to support. Consider whether certain geographic areas are to be favored. It is also  a good idea to identify areas that are not to be supported by the foundation. I suggest creating clear long-term goals and objectives for the foundation.  

1. Selecting the Board of Trustees

Once the by-laws have been prepared, the by-laws will dictate how many members will  serve on the Board for the foundation. Aside from selecting individuals who are inclined to follow  the vision for the foundation, other factors to consider are a candidate’s background and interest  in philanthropy, the individual’s area of expertise, such as investments, accounting, law, or  charitable experience, a willingness to devote sufficient time to work the foundation, knowledge  of the areas of charitable interests of the foundation, and a general desire to promote charity and  the interests of the foundation.

Once the Board members have been selected, consider having a basic trustee handbook  prepared for distribution to all trustees. This would include copies of all the important documents  of the foundation, including the organizational documents, the foundation’s mission statement, its  published guidelines, its separate internal guidelines, if any, its relevant historical information,  including grant history, list of the trustees, their contact information, and their terms of office, list  of committees, and committee members, list of staff, foundation policy statements on conflicts of  interest, special grant policies, compensation and expense reimbursement policies, personal  policies, and other relevant information. 

     2. Grantmaking Policies and Guidelines

If the desire is to have foundation play an active role in charitable giving, the establishment  and publication of grant guidelines can be very effective. The preparation of formal guidelines,  which are made available to the public and to any grantseeker that contacts the foundation, can  prove to be very valuable. Guidelines typically are used to describe the values that the foundation  wishes to promote and the types of organizations and causes that the foundation will support. 

A foundation’s grant guidelines will typically include the foundation’s mission statement,  a description of the types of causes and organizations that it will support, as well as those it won’t  support, and a specification of the procedures that the foundation requires a grantseeker to follow  in applying for funds, such as an application. 

    3. Organizations supporting Private Foundations

A hybrid approach that we have used with clients is the selection of a private foundation  and the engagement of an organization, such as Foundation Source (in our local area), who  undertakes a majority of the underlying entity work and guidance. You are still able to control  and direct the organization, but a lot of the paperwork burden and administrative guidance is  undertaken by the entity. 

Conclusion

This Memorandum was designed to discuss both the Donor Advised Fund as well as a  Private foundation, compare and contrast the two vehicles for charitable giving and explain some  of their important features.  

If you are interested in either vehicle, please give Kenneth C. Russell, our Pennsylvania Charitable Planning Attorney a call and we can guide you through  your decision making and, eventually executing on your charitable intent.