What Is a Donor-Advised Fund?

A donor-advised fund is a private fund administered by a third party and created for the purpose of managing charitable donations on behalf of an organization, family, or individual.

How a Donor-Advised Fund Works

Donor-advised funds have become increasingly popular, primarily because they offer the donor greater ease of administration, while still allowing them to maintain significant control over the placement and distribution of charitable gifts. In addition, companies are able to offer this service to clients with fewer transaction costs than if the funds were handled privately.

Key Takeaway

  • Donor-advised funds are private funds for philanthropy.
  • Donor-advised funds aggregate contributions from multiple donors and aim to democratize philanthropy by accepting contribution bases as low as $5,000.
  • They offer tax advantages of up to 50% of adjusted gross income and can hold funds indefinitely.

Donor-advised funds democratize philanthropy by aggregating multiple donors and processing high numbers of charitable transactions. This process lowers financial barriers to entry and makes it possible for individuals with as little as $5,000 to participate in the giving process.

Furthermore, donor-advised funds offer abundant tax advantages. Unlike private foundations, donor-advised fund holders enjoy a federal income tax deduction of up to 50% of adjusted gross income for cash contributions, and up to 30% of adjusted gross income for the appreciated securities they donate.

When donors transfer assets such as limited partnership interests to donor-advised funds, they can avoid capital gains taxes and receive immediate fair-market-value tax deductions. According to the National Philanthropic Trust, donor-advised funds have become an increasingly efficient method for donating to causes. In 2019, assets held in donor-advised funds rose to $121.4 billion, an increase of 20% from 2018.

Choosing Your Sponsor

There are several different types of donor-advised fund sponsors to choose from.

Community Foundations

There are approximately 700 community foundations that sponsor donor-advised funds, as well as hundreds of faith-based entities. These organizations have been deemed pioneers in the donor-advised fund space because they were the first to offer alternatives to inefficient checkbook giving and the complications of creating a private foundation. Community foundations typically appeal to donors interested in giving to local causes. They typically employ staff that is more knowledgeable about local charity initiatives.

National Donor-Advised Fund Organizations

There are approximately 30 national donor-advised fund organizations in existence. The majority of these organizations are actually charitable arms of for-profit financial services institutions, such as the Vanguard Charitable Endowment Program, the Schwab Charitable Fund, and the Fidelity Charitable Gift Fund. Other national donor-advised fund sponsors are not affiliated with financial entities. These include the American Endowment Foundation and the National Philanthropic Trust.

Public Foundations

Public foundations typically support national and international charities that focus on a particular issue or geographic region. For this reason, public foundations personnel often have specific expertise to help donor-advised fund holders find causes that matter to them. For example, the Peace Development Fund houses donor-advised funds for individuals who care about creating systemic social change throughout the Americas.

Other public charities, like universities and hospitals, establish donor-advised funds within the walls of their respective organizations, with the mission of advancing their own charitable missions.

Criticisms of Donor-Advised Funds

Criticisms of donor-advised funds have mostly centered on the fact that they can become placeholders for money and assets and that they are set-up to help wealthy individuals earn tax advantages. They have been called "financial fracking" and "warehouses of wealth". While private foundations are required to pay out 5% of their overall holdings annually, there are no restrictions for donor-advised funds.

A vast majority of assets at prominent donor-advised funds are intangible and illiquid complex assets, such as real estate, bitcoin, and art. They are valued at cost basis, meaning the price at which they were purchased. Any sale after an appreciation in their prices would incur a capital gains tax.

By holding these assets in donor-advised funds where there are no restrictions on the holding period for sale, the donors can ensure that the asset, when it is sold by the foundation running the donor-advised fund, is not subject to tax. An appraisal before donation also provides the owner with considerable tax deductions because the complex asset is appraised at fair market value.

The ecosystem is also beneficial to large financial services corporations because they can charge fees for donor-advised funds.