What Is a Donor-Advised Fund?
A donor-advised fund is a private fund administered by a third party and created for the purpose of managing charitable donations on behalf of an organization, family, or individual.
- Donor-advised funds are private funds for philanthropy.
- Donor-advised funds aggregate contributions from multiple donors and aim to democratize philanthropy by accepting contribution bases as low as $5,000.
- They offer tax advantages of up to 60% of adjusted gross income and can hold funds indefinitely.
- Donor-advised funds also accept non-cash assets such as stocks, mutual funds, bonds, and complex assets such as private S- and C-corp stock.
- Some criticize donor-advised funds as being placeholders for money and assets that are set up to help wealthy individuals earn tax advantages.
How a Donor-Advised Fund Works
Donor-advised funds have become increasingly popular, primarily because they offer the donor greater ease of administration, while still allowing them to maintain significant control over the placement and distribution of charitable gifts. In addition, companies are able to offer this service to clients with fewer transaction costs than if the funds were handled privately. Donor-advised funds democratize philanthropy by aggregating multiple donors and processing high numbers of charitable transactions.
Furthermore, donor-advised funds offer abundant tax advantages. Unlike private foundations, donor-advised fund holders enjoy a federal income tax deduction of up to 60% of adjusted gross income for cash contributions, and up to 30% of adjusted gross income for the appreciated securities they donate.
When donors transfer assets such as limited partnership interests to donor-advised funds, they can avoid capital gains taxes and receive immediate fair-market-value tax deductions. According to the National Philanthropic Trust, donor-advised funds have become an increasingly efficient method for donating to causes. In 2020, assets held in donor-advised funds rose to $141.95 billion, a 16.2% increase from $122.18 billion in 2018.
Choosing Your Sponsor
There are several different types of donor-advised fund sponsors to choose from.
There are approximately 700 community foundations that sponsor donor-advised funds, as well as hundreds of faith-based entities. These organizations have been deemed pioneers in the donor-advised fund space because they were the first to offer alternatives to inefficient checkbook giving and the complications of creating a private foundation. Community foundations typically appeal to donors interested in giving to local causes. They employ staff that is more knowledgeable about local charity initiatives.
National Donor-Advised Fund Organizations
There are approximately 30 national donor-advised fund organizations in existence. The majority of these organizations are actually charitable arms of for-profit financial services institutions, such as the Vanguard Charitable Endowment Program, the Schwab Charitable Fund, and the Fidelity Charitable Gift Fund. Other national donor-advised fund sponsors are not affiliated with financial entities. These include the American Endowment Foundation and the National Philanthropic Trust.
Public foundations typically support national and international charities that focus on a particular issue or geographic region. For this reason, public foundations personnel often have specific expertise to help donor-advised fund holders find causes that matter to them. For example, the Peace Development Fund houses donor-advised funds for individuals who care about creating systemic social change throughout the Americas.
Other public charities, like universities and hospitals, establish donor-advised funds within the walls of their respective organizations, with the mission of advancing their own charitable missions.
Many donor-advised funds accept non-cash assets in addition to cash and cash equivalents such as checks, wire transfers, and cash positions from a brokerage account. Fidelity Charitable, for example, accepts donations of stocks, mutual funds, bonds, complex assets such as private S- and C-corp stocks, as well as non-publicly traded assets such as restricted stock, life insurance, and Bitcoin, and other cryptocurrencies.
Donating non-cash assets may be more beneficial for individuals and businesses, as it can lead to a bigger write-off.
The amount of cryptocurrency donations received by Fidelity Charitable in 2020.
Advantages and Disadvantages of Donor-Advised Funds
Perhaps the biggest advantage of donor-advised funds lies in the immediate tax benefits. Whether you choose to disburse the assets to an approved charity immediately after contributing to the fund or let the assets grow tax-free, you still receive a tax benefit immediately. Additionally, you also receive full control over how the account is managed.
Another huge benefit of choosing a donor-advised fund over a traditional charity is that donor-advised funds can accept non-cash assets. This means that you can write off the fair market value of the stock, which may be larger than your original cash basis and can prevent you from paying capital gains tax.
Like any financial instrument, there are some drawbacks to donor-advised funds. Because you receive the tax benefit immediately, your contribution is irrevocable, which means your assets cannot be returned to you no matter the reason. Furthermore, although you can make suggestions as to which charities you would like to receive your distributed assets, the broker has the final say.
A common criticism of donor-advised funds is that donations can sit in the fund indefinitely—there is no deadline at which the assets must be disbursed to charities. Another drawback is that, unlike private charities, there are fees attached to donor-advised funds as well as a minimum donation.
Control over account
Opportunity for larger tax write-off
Allows donation of non-cash assets
Don't get final say on which charities receive your donation
Assets can remain in fund indefinitely
Fees and minimum donation requirements
Criticisms of Donor-Advised Funds
Criticisms of donor-advised funds have mostly centered on the fact that they can become placeholders for money and assets and that they are set up to help wealthy individuals earn tax advantages. They have been called "financial fracking" and "warehouses of wealth". While private foundations are required to pay out 5% of their overall holdings annually, there are no restrictions for donor-advised funds.
A vast majority of assets at prominent donor-advised funds are intangible and illiquid complex assets, such as real estate, bitcoin, and art. They are valued on cost basis, meaning the price at which they were purchased. Any sale after an appreciation in their prices would incur a capital gains tax.
By holding these assets in donor-advised funds where there are no restrictions on the holding period for sale, the donors can ensure that the asset, when it is sold by the foundation running the donor-advised fund, is not subject to tax. An appraisal before donation also provides the owner with considerable tax deductions because the complex asset is appraised at fair market value.
The ecosystem is also beneficial to large financial services corporations because they can charge fees for donor-advised funds.
Donor-Advised Funds vs. Private Foundations
A private foundation is a charitable organization typically created by an individual, family, or corporation. Both private foundations and donor-advised funds are charitable-giving vehicles, however, private foundations have much stricter tax laws and regulations governing their actions. Compared with donor-advised funds, private foundations have greater administrative control over assets and grantmaking, including the ability to make grants to organizations other than IRS-qualified, 501(c)(3) public charities.
There are two types of private foundations: operating foundations are directly involved in administrating a charity campaign for a specific project or area of need whereas a non-operating foundation simply gives grants to various charities. According to the IRS, "contributions to private operating foundations are deductible by the donors to the extent of 50 percent of the donor’s adjusted gross income, whereas contributions to all other private foundations are generally limited to 30 percent of the donor’s adjusted gross income."
Donor-Advised Funds FAQs
How Long Can a Donor-Advised Fund Last?
Although there are no specific tax laws stipulating how often a donor-advised fund can be inactive, many fund providers have their own timeline on giving. Fidelity, for example, states that donors must make one gift of at least $50 every three years in order to remain active.
What Happens to a Donor-Advised Fund When You Die?
After the death of the fund creator, there are essentially two choices: distribute the remaining funds to an approved charity or charities and close the account, or name a successor of the fund, who can then make all necessary administrative decisions associated with the fund. Many advisors settle this question at the time the account is opened.
What Is the Charitable Limit for a Donor-Advised Fund?
The limit for deducting contributions to a donor-advised fund is 60% of your adjusted gross income. You won't be able to write off any contributions exceeding that amount.