Wise Wealth Management

Dennis Covington | Principal

Insights on the keys to enjoying a "healthy wealth".

Charitable Planning: A look at Donor Advised Funds

August 2008

More and more we see clients who have a strong desire to leave a portion of their wealth to charity. Their motives vary from a desire to support a cause they care about to not wanting to leave a significant inheritance to their children or grandchildren in an effort to eliminate some of the negative behavior demonstrated by many who inherit or feel entitled to wealth.

Many advisors and their clients have a misconception that charitable planning is relegated to a private foundation or the creation of trusts with strange names like CRUT or CRAT. It’s easy to see why, given that every time you listen to NPR you hear an announcement like “This program made possible by the generous support of the Smith Family Foundation”, or on any trip to a museum or hospital you are met in the entry hall with plaques recognizing gifts by many foundations.

But not all wealthy individuals want to create their own private foundations, given the complexities associated with establishing and maintaining such an entity. An alternative to the private foundation that has generated significant interest in recent years is the Donor-Advised Fund (DAF).

DAFs offer an organized, less expensive and flexible way to give to charities. As the name implies, the donor contributes cash or assets to a non-profit organization that sponsors and sets up DAFs. The organization sponsoring the DAF does all the legal, philanthropic and accounting work allowing the donor or the donor’s designated advisors (typically children or grandchildren) to focus their energy on grant-making functions.

DAFs are also recognized for their ability to screen qualified charities for the donor, support the grant-making process and provide for anonymous gifts. DAFs offer significant tax advantages when compared to private foundations: Tax deductibility of contributions as a percentage of Adjusted Gross Income are 50% for cash and 30% for appreciated securities, whereas the percentages drop to 30% for cash and 20% for appreciated securities contributed to a private foundation. Private foundations are also subject to excise taxes that are typically 1% to 2% of investment income annually whereas DAFs are not.

Investment choices in DAFs vary greatly depending on the sponsor. Some allow the donor’s investment advisor to manage the money, while others require the donor to select from the investments offered through the sponsoring organization’s program. Sponsoring organizations include community foundations, nonprofit organizations and commercial sponsors.

Despite the DAFs benefits, there are still instances where private foundations make more sense, particularly if the donor wants total control of grant-making, investments, and hiring staff. DAFs also don’t make sense if the donor desires some income during their lifetime. Instead they should consider vehicles such as pooled-income funds or a charitable remainder trust.

Like all advanced planning issues the best place to start is a conversation that explores the reasons why you want to give and what you want your giving to accomplish. With more options than ever to facilitate a legacy of charitable giving this conversation can result in a charitable plan that doesn’t have to involve loads of red tape and legal bills.

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