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Donor Advised Funds: A Less Expensive Charitable Alternative?

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November 6, 2011 • Reprints

Your ultra-high-net-worth clients may use private foundations to satisfy their charitable objectives without giving up control over the donated assets. But what about clients who simply fall into the high-net-worth category? Donor advised funds can serve as a vehicle to retain control of a client’s assets under management and simultaneously better align their planning and charitable aspirations.

Donor advised funds are an economical alternative to private foundations for wealthy families that do not want to spend five figures or more annually to maintain their assets. Although contributions to organizations such as the United Way may satisfy your client’s desire to use their contributions to benefit a wide range of charities, once the contribution is made, it is out of your client’s hands concerning how it will be used.

Donations to a donor advised funds aren’t limited to cash and securities; real estate, art, or other tangible personal property can be donated, or the fund can be named beneficiary of a 401(k) or IRA account. Property that appreciates inside the fund won’t be taxed, but that appreciation isn’t deductible by the donor. Contributions to a donor advised fund will not be included in the donor’s estate—unless the donor dies within three years of the gift.

When a publicly traded security held for more than one year is contributed to a donor advised fund, the amount of the contribution will be the average of the high and low prices of the security on the date of the contribution.

It is important to note that some contributions to donor advised funds are not deductible for income tax purposes. A contribution to a donor advised fund is not deductible if the qualified organization that sponsors the fund is a war veterans' organization, a fraternal society, or a nonprofit cemetery company. Also, donors must receive  acknowledgment from the sponsoring organization that the organization has exclusive legal control over the contributed assets in order for contributions to be deductible.

There are also restrictions on how donor advised contributions may be used. Donor advised funds cannot make, and advisors to donor advised funds can’t recommend, grants that would benefit, directly or indirectly, the donor, the advisor or a related party unless the benefit is only incidental. And grant funds can’t be used to give grants, compensation, loans, or other payments to a donor, advisor, or related party.

The Advantages of Donor Advised Funds over Foundations

Foundations serve many of the same purposes as donor advised funds, but donor advised funds have a number of significant advantages.

Foundations are not a good option for other than high-net-worth families due to the cost and time required to set up and maintain them. The savings from switching from a foundation to a donor

advised fund can be in the tens of thousands or more each year. Also, donor advised funds are not subject to the same strict distribution requirements as private foundations. Private foundations must distribute at least 5 percent of their assets each year, regardless of market conditions.

Gains inside a donor advised fund are not taxed. Foundations, on the other hand, are subject to a 2 percent excise tax on net investment income—decreased to 1 percent if the foundation meets stringent distribution requirements.

Because donor advised funds have relatively low overhead, contributions may be much smaller than those which can efficiently be made to a foundation. Many donor advised funds can be funded with as little as $5,000. And grants from the fund can be as little as $50 each (depending on who administers the fund).

Another disadvantage of private foundations is that the adjusted gross income (AGI) limits on the deductibility of gifts is lower than for direct donations to 501(c)(3) organizations and contributions to donor advised funds. The deductibility of cash gifts to a 501(c)(3) or a donor-advised fund is limited to 50 percent of the donor’s AGI, and gifts of appreciated property are deductible up to 30 percent of the donor’s AGI. In contrast, the limits are 30 percent and 20 percent, respectively, for donations to private foundations.

Donors to donor advised funds also have a significant privacy advantage. Tax returns and details about a foundation and its donors, are public record. In contrast, donor advised funds do not publicly reveal individual donors.

For additional coverage of this issue and similar ones, we invite you to sign up with AdvisorOne’sSummit Business Media partner, AdvisorFX, for a free trial.

You may also be interested in signing up for a free trial with another Summit Business Media partner, Tax Facts Online.

See also The Law Professor's blog at AdvisorFYI.

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About the Author
William H. Byrnes, Esq.

William H. Byrnes, Esq.

Prof. William H. Byrnes, Esq., LL.M., CWM, Fellow

Prof. William H. Byrnes, Esq., LL.M., CWM, Fellow, is the leader of Summit Business Media's Financial Advisory Publications, having been appointed July 1, 2010. He has been an author and editor of 10 books and treatises and 17 chapters for Lexis-Nexis, Wolters Kluwer, Thomson-Reuters, Oxford University Press, Edward Elgar, and Wilmington, as well as numerous commissioned, peer-reviewed, and law review articles. He was a Senior Manager, then Associate Director of international tax for Coopers and Lybrand, which subsequently amalgamated into PricewaterhouseCoopers, practicing in Africa, Europe, Asia, and the Caribbean.

He has been commissioned and consulted by a number of governments on their tax and fiscal policy from policy formation to regime impact. He has served as an operational board member for companies in several industries including fashion, durable medical equipment, office furniture, and technology. Since 1994, he has been a professional trainer for professional association conferences, government workshops, and financial service institutions in-house meetings.

Before Associate Dean Byrnes joined the administration of Thomas Jefferson School of Law, he was a tenured law faculty member at St. Thomas School of Law. He serves on the Academic Committee of the American Academy of Financial Management. He created the first online graduate program offered to wealth managers and life insurance producers without any legal background—see http://llmprogram.tjsl.edu (Graduate Program of International Tax and Financial Services, Thomas Jefferson School of Law).

Email: wbyrnes@nationalunderwriteradvancedmarkets.com

About the Author
Robert Bloink, Esq., LL.M.

Robert Bloink, Esq., LL.M.

Robert Bloink is a professor of tax for the Graduate Program of International Tax and Financial Services, Thomas Jefferson School of Law.

Previously, he served as Senior Attorney in the IRS Office of Chief Counsel, Large and Mid-Sized Business Division, where he litigated many cases in the U.S. Tax Court, served as Liaison Counsel for the Offshore Compliance Technical Assistance Program, coordinated examination programs audit teams on the development of issues for large corporate taxpayers, and taught continuing education seminars to Senior Revenue Agents involved in Large Case Exams. In his governmental capacity, Mr. Bloink became recognized as an expert in the taxation of financial structured products and was responsible for the IRS’ first FSA addressing variable forward contracts. Mr. Bloink’s core competencies led to his involvement in prosecuting some of the biggest corporate tax shelters in the history or our country.

 

Mr. Bloink's insurance practice incorporates sophisticated wealth transfer techniques, as well as counseling institutions in the context of their insurance portfolios and other mortality based exposures. 

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