You Don’t Need to be a Millionaire to Have Your Own Charitable Fund
Setting up a fund to donate to worthy causes in your community is no longer just a millionaire’s game. No need to be Buffett, Gates or Zuckerberg, nor a business owner or in the sunset of your life. It’s easier than you think – but for many, seems too far out of reach. I am here to tell you that this idea is beginning to shift, and in many instances may only take $5,000 to begin fulfilling one’s philanthropic ambitions.
Donor-Advised Funds Defined
Donor-advised funds (DAF) are the future of charitable giving, where more and more investors are seeing its benefits – the best of both worlds for the savvy and philanthropic-minded investor.
We work hard to provide for our families. And while we do what we can for charity, many of us assume it unlikely to establish a private foundation on our own. However, with the change in tax laws, DAFs may offer the best way to ensure your charitable donations are deductible. A donor-advised fund can allow an investor without immense wealth to help others and still enjoy tax advantages unavailable to people who donate after paying taxes on investments. Let’s begin with a brief explanation of a DAF.
A donor-advised fund is a philanthropic giving vehicle that is administered by a charitable sponsor, like a community foundation or the charitable arm of a brokerage, such as Schwab Charitable or Vanguard Charitable. Although DAFs have been around for some time, DAF assets have only recently witnessed significant growth – partly a cause of increased exposure leading to the creation of more accounts and donations, and the strong market growth witnessed since the Financial Crisis in 2008. The correlation between charitable giving and market growth is extremely important, as charitable giving scholars Williams, Rooney and Brown have found that the “strongest predictor of [individual giving] is the S&P 500 index…. A 100 point increase in the index is associated with a $1.7 billion increase in charitable deductions.”
Donor-advised funds are completely owner directed, and if you are at a point in your life where you would like to help others by contributing to charitable organizations, you might consider a DAF. DAFs allow donors to establish and fund an account by making irrevocable, tax-deductible contributions to their charitable sponsor. As long as the granted organization is an IRS-qualified public charity (501(c)(3)) in good standing, donors can direct funds nearly anyway they see fit. Donors may also take an immediate tax deduction, while the funds can be invested for tax-free growth. As a number of securities can be donated to a DAF, cash or low-basis highly appreciated assets are most common. Offering flexibility to donors with no annual funding requirement or disbursement requirements allows these charitable vehicles to be funded with a one-time investment, or whichever frequency a donor prefers, benefiting numerous charities for years to come.
DAF as The New Private Foundation
Even among ultra-high net worth individuals, DAFs are growing in popularity. One could argue that the DAF is not only a superior giving vehicle from a donor’s perspective, but also promotes a higher percentage level of grant-making to charitable organizations. According to the National Philanthropic Trust 2018 Donor-Advised Report, total assets in 2017 held in Private Foundations totaled $855.81 billion versus only $110.01 billion in DAFs, yet the grants made to qualifying charities from Private Foundations was $49.50 billion versus $19.08 billion in grants made from DAFs. When comparing with the 2016 results, the report found that 22.1% of charitable assets were granted to charities from DAFs, while Private Foundations only granted 6.25%. Given the number of DAF accounts increased by 60.2% leading to a 27.3% increase in DAF assets from 2016 through 2017, one could quickly see the day when DAF assets trump the assets in Private Foundations. However, should the superior grant-making trends continue, the overall charitable impact provided from DAFs will surpass the grant-making impact of Private Foundations when the total DAF assets reach $386.9 billion, or roughly 45% of the assets held in Private Foundations at the end of 2017.
In addition to promoting a higher degree of grant making from donors, DAFs appear to be a superior charitable structure, potentially offering greater deductibility benefits and operational efficiencies than Private Foundations:
|Deductibility Considerations||DAF||Private Foundations|
|Cash||up to 60% AGI||up to 30% AGI|
|Securities||up to 30% AGI||up to 20% AGI|
|Deductibility for non-publicly traded assets||Generally Fair Market Value||Generally Cost Basis|
|Operational Considerations||DAF||Private Foundations|
|Start-up costs||None||Legal & Accounting Fees|
|Administration & Reporting||None for Individual||Annual State & Federal Returns|
|Taxes on Investment Income||None||Normally 1-2% of annual net investment income|
|Privacy||Yes||Details Publicly Disclosed|
|Annual Distribution Requirements||None||5% annual distribution required (rolling 5-year average)|
|Directly employ staff or family||Not permitted||Permitted|
|Grants to Individuals||Not permitted||Permitted|
In addition to the satisfaction of knowing charitable grants help others and improve the communities in which we live, donors may experience significant tax advantages.
Contributions to a DAF can be especially valuable if a donor has a one-time or sporadic situation where there is need for:
- Income tax reduction; you need a deduction to offset high taxable income.
- Major tax event; such as selling a private business or a major year-end bonus.
- Capital gains tax avoidance; investors with frequent smaller liquidation events are often saddled with large tax consequences from the capital gains tax on low-cost basis positions.
One of the most tax-effective utilizations of a DAF is the direct donation of a low-basis highly appreciated security. Donors receive multiple tax benefits through the tax deduction of the donated security at market value. They avoid paying capital gains tax on the asset, making it more valuable to donate the security directly to the DAF, rather than selling the security and donating the proceeds. For example, let’s assume several years ago an individual purchased 1,000 shares of a stock at $10 per share. Now the stock is worth $100 per share. The below chart highlights the benefits to the donor in terms of deductibility and charitable contribution when an individual contributes directly to a DAF, versus selling the stock and then donating the profits.
|Sell and Donate||Donate to DAF|
|Current fair market value||$100,000||$100,000|
|Federal income capital gains tax of 20% on $90,000 in gain||$18,000||0|
|Value of charitable deduction (37% tax bracket)||$30,340||$37,000|
|Total tax dollar savings
less capital gains tax paid
*Assumed donor is in highest tax bracket, with capital gains and ordinary income tax rates of 20% and 37%, respectively.
Multigenerational giving is not just for the wealthy
Due to the efficiencies and lower minimums, utilizing DAFs is a great way to promote multigenerational giving, appealing to Baby Boomers and Millennials alike. Multigenerational giving offers opportunities to strengthen family bonds and create social impact. It helps teach younger generations the value of giving back and helps improve the communities in which we live. While multigenerational giving comes with immeasurable benefits, it is also marred with many challenges.
- Control & Ownership – Complexities around who has the final decision making authority (typically the wealth creator)
- Complex Family Dynamics – Dynamics can make it difficult for families to agree on a charitable organization
- Values, Beliefs and Political Differences – Generationally, keeping engagement may pose difficult (e.g. the beliefs of a Baby Boomer wealth creator may differ from a Millennial grandchild)
- Conflicting Areas of Interest – Supporting too many causes may dilute or reduce the impact
- Geography – Family members live across the state, country, or even globe, and generally individuals prefer to support their own local communities
To answer many of these multigenerational challenges, Warren Buffett set up a private foundation for each of his children. Most individuals aren’t equipped to follow this exact Warren Buffett model. However, families can apply this same concept through the utilization of DAFs. Given the low minimums and ease of creation, establishing multiple DAFs can allow families to work together to direct funds to causes they care about, perhaps strengthening bonds while creating social impact. It is a great vehicle for parents and grandparents to teach younger generations the value of giving and the ability to help improve the communities they live in and care about
Depending on your personal situation, the changes in tax deductions may mean the time is right for a DAF. Each investor should consult with their own tax professional. Since investors get an immediate tax deduction for their DAF gift, people on the borderline of the new standard deduction may find themselves being able to itemize this year and take the standard deduction going forward. You receive the satisfaction of being able to help others with grant money, and reap the rewards of a smart investment – the best of both worlds.
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The preceding commentary is (1) the opinion of Chris Osmond and not necessarily the opinion of PCIA, (2) is for informational purposes only, and (3) should not be construed or acted upon as individualized investment advice. Past performance is no guarantee of future results. Seek advice of a tax professional.
Advisory services offered through Prime Capital Investment Advisors, LLC. (“PCIA”), a federally registered investment adviser. PCIA: 6201 College Blvd., 7th Floor, Overland Park, KS 66211. PCIA doing business as Prime Capital Wealth Management (“PCWM”) and Qualified Plan Advisors (“QPA”).
Chris Osmond is the chief investment officer for Prime Capital Investment Advisors (PCIA). Chris is responsible for the oversight of the firm’s investment strategies and guiding investment policy for the entire organization. He received his Bachelor of Science from the University of Arizona, and is a Certified Financial Planner, as well as a Chartered Financial Analyst.