A couple of weeks ago I wrote about how the benefits of donating appreciated securities versus cash has increased significantly under current tax laws. The vehicle by which many donors make these gifts is through a donor-advised fund. The increasing popularity of the donor-advised fund has not surprisingly brought about some friction and criticism.

The most potent criticism of the donor-advised fund is that there is no ongoing requirement for the donor-advised fund to distribute grants. In short, if the donor so chooses the funds can continue to sit in the DAF indefinitely doing no charitable good. Alana Semuels at The Atlantic writes:

Donor-advised funds are categorized by law as public charities, rather than private foundations, so they have no payout requirements and few disclosure requirements. Because they’re categorized as public charities, donors can give a higher share of their income to these funds than they could to a private foundation, which can help them avoid taxes.

It’s this ability to defer giving that is causing friction in the philanthropic community. The donor-advised fund has become increasingly popular in Silicon Valley given the advantages it has for someone who may hold shares in a successful startup on the verge of going public. For example, the Silicon Valley Community Foundation has become the nation’s third largest foundation by assets in the US. The issue, Semuels notes in the article, is that these funds are not finding their ways to worthy charities and causes.

The donor-advised fund has caught on with large and small donors for a number of reasons including the ease of administration. In earlier generations only the truly wealthy could structure their own private foundation. These foundations come with their own challenges including management and investment issues. The other problem is that these vehicles have little IRS oversight and can be used for self-dealing. Congress allows for some transactions between insiders and  private foundations. Andrea Fuller in the WSJ notes:

Some foundations have grown adept at relying on a bevy of complex exemptions to their advantage. More than 1,800 foundations checked boxes on their fiscal 2016 tax filings indicating that they engaged in business activities with insiders but weren’t violating the self-dealing law, The Wall Street Journal found in a review of thousands of filings.

The law permits foundations to employ insiders for certain services provided they aren’t paid excessive compensation, which would be considered self-dealing. About 10,000 private foundations checked boxes on their fiscal 2016 returns indicating they legally compensated insiders.

The challenge of course is that the definition of self-dealing can get stretched. Fuller notes that a small number of foundations do get audited by the IRS and end up paying additional taxes on self-dealing but that is a small price to pay for the opportunity.

Another issue that has arisen is that some foundations are distributing their assets to donor-advised funds. This loophole does seem to fly against the spirit of the law for foundations. Peter Olsen-Phillips at The Chronicle of Philanthropy writes:

Even if some foundations have legitimate reasons to give money through donor-advised funds, critics still see a system that allows others to avoid disclosure without a good reason — and delay dollars from ending up in charities’ hands.

Even before the recent changes in the tax law, the donor-advised fund was a great vehicle for charitable giving. The ability to essentially donate once and give often is a feature and not a bug. However the critics of the donor-advised fund have a point about the ability for the holder of the donor-advised fund to delay or defer giving indefinitely. A simple change to the law to require donor-advised funds to have to give some percentage of their assets out over time would tie-up that loophole and put donor-advised funds on a more equal footing with private foundations.

For you the potential donor, none of this is binding at present. As with many other aspects of our financial lives, the donor-advised fund represents a democratization of previous financial practice. So as you think about your personal plan for giving keep donor-advised funds at or near the top of your list.

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