Charitable Giving: Private Foundations vs. Donor-Advised Funds

Donating to charitable causes is a great way to leave a lasting philanthropic impact for years to come. For those who aspire to leave a charitable legacy, two popular giving options are private foundations and donor-advised funds (DAFs). While both avenues offer the opportunity to make a difference, each has distinct characteristics and considerations. Below, Andrea Thermos, CPA, Partner, discusses the similarities and differences of private foundations and DAFs.

The Appeal of Foundations and DAFs

At first glance, you might question the need for these structures when you can simply donate directly to your preferred charities. However, private foundations and DAFs provide a strategic advantage. By channeling your funds through these entities, you unlock tax benefits without the pressure of selecting specific beneficiaries or making immediate contributions. Instead, you gain the flexibility to conduct thorough research, allowing you to alter your supported causes from year to year and to remain relatively anonymous in doing so.

These vehicles often extend the opportunity to also involve your family in your charitable endeavors. Foundations allow you to appoint family members to the board or even enlist their assistance in managing the foundation. Similarly, DAFs often permit the designation of a successor advisor, allowing a continuation of your philanthropic vision.

Understanding the Structure

Private foundations operate as charitable organizations, usually structured as trusts or corporations. They gather contributions from a select group, such as you and your family, and direct these funds towards grants for other charitable organizations rather than offering direct services.

In contrast, DAFs function as investment accounts managed by sponsoring nonprofit organizations, typically public charities, or community foundations. These funds accept tax-deductible contributions from investors who advise on the allocation of charitable dollars.

Pros and Cons

The differences between private foundations and DAFs come about when considering factors such as setup time, initial costs, operating expenses, distribution requirements, tax treatment, privacy, and control.

DAFs possess a swifter setup process, often taking a few days or even hours to establish, with minimal initial contributions starting as low as $5,000. Conversely, private foundations demand significant time and resources due to the creation of a legal entity, involving substantial legal and accounting expenses. Moreover, foundations necessitate much larger initial contributions, often reaching hundreds of thousands or even millions of dollars.

 Operation Contrasts

Operating expenses diverge significantly between the two options. DAFs typically incur management and investment fees ranging from 1% to 2% of the account balance. Managing a private foundation, however, may prove substantially more expensive. Foundations require the appointment of a board, regular meetings with documented minutes, separate tax filings, ongoing legal and accounting expenses, potential staffing or third-party administration, and an excise tax on net investment income.

Furthermore, while DAFs aren’t bound by required minimum distributions, allowing investments to grow tax-free indefinitely (subject to the sponsoring organization’s regulations), private foundations must distribute at least 5% of their net market value annually.

Tax Implications and Control Dynamics

Tax deductibility also varies. Cash contributions to DAFs may be tax-deductible up to 50% of the donor’s adjusted gross income (AGI), while noncash contributions are generally deductible up to 30% of AGI. Private foundations have lower deduction limits at 30% and 20%, respectively. Additionally, DAFs often allow deductions for appreciated assets’ market value, while foundations are limited to deductions based on cost basis (except for publicly traded stock).

Privacy considerations also differ; DAFs can accept anonymous donations, while private foundations must disclose the names of donors contributing more than $5,000.

In terms of control, private foundations grant full authority to the board members over investments and distributions. In contrast, DAF contributions are owned by the sponsoring charity, with contributors having an advisory role in managing investments and distributions.

Crafting Your Philanthropic Strategy

Ultimately, choosing between private foundations and DAFs depends on various factors: financial resources, preferred charities, and the desired level of control. A philanthropic strategy that aligns with your objectives is made simple when consulting with seasoned estate and trust planning advisors.

Whether it’s establishing a private foundation steeped in family involvement or utilizing the flexibility of a DAF to explore diverse charitable avenues, your unique philanthropic journey awaits. Consult with a member of our estate and trust planning team today to help navigate your options for charitable giving.