Donor Advised Funds – A Hornet’s Nest for the Charitable Sector.

What to do about donor advised funds is likely to be a perennial and growing feature of debate about charitable nonprofits. Are donor advised funds a vacuum for dollars that otherwise would be spent right away for charity? Or are DAFs an efficient giving vehicle, promoting more and better philanthropy? Or both? For a recent example of commentary on the issue, see Allen Cantor’s article in the Chronicle of Philanthropy. 

The key initial question is whether contributions to DAFs are substitutes for charitable contributions that would otherwise be made, but just not to a DAF. To the extent DAF contributions are not substitutes for other charitable giving, the policy concerns with DAFs are diminished. The DAF money then would represent new charitable dollars, and many of the claims about DAFs democratizing philanthropy would have merit. So long as DAFs on average pay out at a high rate, and there is active monitoring of dormant accounts and noncash contributions by sponsoring organizations, the DAF revolution could be embraced as a great way to raise new money for charity.

But if most DAF contributions are substitutes (as Allen Cantor argues), meaning that the DAF is a substitute for another charity, then DAFs potentially are more menacing. There are two preliminary questions here. If the DAF is a substitute for private foundation giving, as many DAF proponents claim, then the issue is whether DAFs or private foundations are better custodians of charitable dollars. The private foundation model is highly regulated and subject to a payout. The DAF has fairly light touch regulation and no payout requirement, but are less costly to run and many DAFs pay out at a higher rate than private foundations, which tend to stick to the statutory minimum. Private foundations on the other hand over time become established sources for charitable funds and have an independent mission. By contrast, many DAFs may add little to no value, but serve more as a way-station. These are just some of the issues in comparing DAFs to private foundations.

More worrying is the extent to which DAFs are a substitute for giving to other public charities. Because many DAFs (i.e., those with ties to large commercial investment firms like Fidelity or Vanguard) really are just conduits, the DAF then simply represents delayed charitable activity without a matching delay in tax benefits. Other public charities, and their beneficiaries, suffer the delay. Donors and DAF sponsoring organizations (and investment managers) benefit. This is a serious issue, which motivates Allan Cantor’s piece and other DAF critics.

How to resolve these issues? More study on the extent to which DAFs are substitutes or represent new giving would be useful. We also need to consider whether DAFs present sufficient issues of tax policy to warrant distinct tax treatment – i.e., different from private foundations or other public charities. The reforms in the Pension Protection Act of 2006 took a first step to segregating the DAF as a charitable activity, subject to a special set of hybrid rules. Should we go further, and have special payout rules, as proposed by the Camp tax reform draft (proposing a five-year spend down of contributions, sec. 5203, page 160)? Should the charitable deduction for DAFs be delayed until the money is spent?

Note that it is easy to suggest high DAF payouts as a solution, but query the outcome: would sponsoring organizations just default to private foundation status so as to secure the lower payout, notwithstanding the increased cost of business? And should all DAF sponsoring organizations be treated the same? DAFs at community foundations or other public charities do not necessarily raise the same issues as DAFs that are more akin to conduits.

In short, DAFs raise a hornet’s nest of issues for the charitable sector. It is a debate we should have, and we can expect that the issues will not subside anytime soon.

Roger Colinvaux