Charitable planning has long been a staple of advanced income, gift, and estate tax planning techniques for the high-net-worth client. I've always found that working with clients who have some degree of charitable intent are the most rewarding cases. The ability to immediately reduce income taxes, lower the cost of lifetime transfers, and negate the bite of the estate tax, all while leaving a charitable legacy, provides wealth managers with planning opportunities like no other. That being said, the perception is that charitable planning opportunities for the high-net-worth client have stagnated over the past year or so, due to economic events.
It is understandable that clients want to reduce their charitable giving in difficult times. The magic of charitable planning with highly appreciated assets has lost its luster, as equities and other assets are well off their highs of two years ago. The impressive appreciation of the equities markets over the summer and into autumn may present charitable planning opportunities again, but we are not quite there yet.
So does this mean you should put your charitable planning strategies on hold? No. I believe that this may be an ideal time for wealth managers to perform checkups on previously implemented charitable planning for current clients and to explore planning strategies for potential clients.
I have found that this is an especially valuable service for those clients with private foundations.
The Family Foundation
There was a time when the private family foundation was a planning tool for only the most wealthy and prestigious families: the Walton family, the Getty family, and, more recently, the Gates and Buffett charitable foundations come to mind. The private foundation, however, has become a popular charitable planning tool for a host of clients at descending levels of wealth. There is a good chance that a few of your current or prospective clients have established private family foundations. Some of them may see the foundation as a way to give back to a community that provided the setting for their successes; others may have established foundations for the prestige they confer; and, finally, it is quite possible that tax savings is the primary goal of the family foundation (I know this may come as a surprise).
Whatever the motivation for the client's charitable endeavor, you may find that some clients' circumstances--and, consequently, their attitudes--have changed over the past year. While the satisfaction of establishing a foundation may have been one of a client's most rewarding experiences, the continued administration, costs, and formalities associated with the foundation have taken some shine off the apple. The idea of the foundation may have been inspiring, but the reality has become a bit more challenging than some clients anticipated.
Should the Foundation Terminate?
Recently, an advisor contacted me regarding a client who had established a private family foundation in the spring of 2006. The client was an executive for a publicly traded bank and had accumulated a significant amount of wealth through stock grants and option exercises. The client always had a strong charitable intent and wanted to include his family members in his philanthropic activities. The foundation was funded primarily by equity positions, with a majority of those holdings in bank stock. As time passed, though, he realized that his dream of making the foundation operation a family affair was not coming to fruition. His children did not share their father's philanthropic drive and wanted nothing to do with the responsibilities or complexities of operating the foundation. On top of that, the foundation assets, which were intended to fund charitable distributions throughout successive generations, had been devastated by the financial crisis.
The client had had enough. The foundation had turned out to be much more time-consuming than he had imagined, and his children's lack of interest made him feel as if he had made a mistake in starting the foundation in the first place. The advisor contacted me to discuss the steps that he needed to take to terminate the client's foundation. I could have directed the advisor to Internal Revenue Code Section 507, which provides guidance for terminating a foundation, but I was curious and asked whether the client was disappointed with the philanthropic ideal that the foundation represented, or whether his frustrations were rooted in the foundation's administration.
The advisor said that the client valued the support that his foundation provided, and that he intended to continue his involvement in charitable activities. Because the client had especially enjoyed the ability to award grants, but disliked the formalities and administration involved, I suggested that, rather than making immediate distributions to a public charity, the client might want to consider collapsing the foundation into a donor-advised fund. This would relieve him of administrative responsibilities, while allowing him to act as a grant advisor to the donor-advised fund. This would allow him to continue to make recommendations about which public charities should receive grants, as well as about the frequency and amount of those grants.
A Personal Choice
Ultimately, the answer to this question becomes the personal choice of the founder. A private foundation provides a client with the most flexibility when pursuing charitable objectives, but it comes with a price. The establishment and continued operation of a foundation costs thousands of dollars, but time and complexity are factors to consider as well. Regulatory compliance, tax law changes, excise taxes, and filing requirements dampen the private foundation experience. For many, the complexities of the private foundation can be easily outsourced to a foundation administrator, but for others wishing to completely remove themselves from the responsibilities of a foundation, a donor-advised fund may be a cost- and time-efficient alternative.
Having settled on the donor-advised arrangement, both parties came away happy from the aforementioned transaction: the advisor because--unlike he had feared--the client's assets remained under his management; the client because he could continue to make grant decisions, and, as before, have his assets professionally managed.
This is not to say that a donor-advised fund is better than a private foundation. Both have their place within the right client's charitable plan. Nevertheless, there are several factors to consider when making the decision to collapse a foundation into a donor-advised fund--such as the length of time the donor-advised fund has been operating--that require the guidance of legal counsel familiar with tax-exempt organizations. Failure to comply with the Internal Revenue Code can result in unfortunate consequences for advisors and clients alike. Be sure to include qualified legal counsel as part of your wealth management team as you guide your client through the process.
Gavin Morrissey, JD, is the director of advanced planning at Commonwealth Financial Network, member FINRA/SIPC, and a registered investment adviser, in San Diego, Calif. He can be reached at email@example.com.