Now Is a Good Time to Start a Donor-Advised Fund

Even the best of intentions can go unmet in the year-end rush to make all the right tax-planning moves. For those who left gifting strategies on the table in 2016, this remains a particularly good time to create a donor-advised fund (DAF) – especially if you anticipate a high-income year ahead.

With the U.S. stock market coming off a series of record highs and income tax rates expected to head lower under the Trump administration, this is an opportune time to set up a DAF, or add to it if you have one already. Before you make that capital gain-generating rebalancing move, why not shelter some of the gain first?

What is a Donor-Advised Fund?

A donor-advised fund is essentially a charitable savings account, held by a public charity, that allows people to get current tax deductions when they fund the account and to manage their charitable donations over time. The account can be invested as directed by the donors or their advisers, and then periodically the donor tells the sponsoring charity the specific amounts it wants sent to the donor’s favorite organizations. Through a DAF, one can contribute to most IRS-qualified public charities.

DAFs have exploded in popularity, with total amounts contributed in 2015 reaching over $22 billion, more than double the amount in 2011.

Advantages of Donor-Advised Funds

DAFs have tax and non-tax advantages. They allow donors to manage the timing of their tax deduction on multi-year commitment. Since the DAF is housed in a public charity, you receive an immediate income tax deduction in the year you contribute. (Cash donations are deductible up to 50 percent of adjusted gross income and donations of appreciated assets are deductible up to 30 percent of AGI.)

If you donate more than you can deduct, do not despair; you can carry forward unused deductions for five years. When you donate appreciated assets (such as securities), you will incur no capital gains tax on gifts. The charity incurs no gains tax either on the sale of these assets and the fund can grow tax-free. Also, contributions to a DAF remove assets from your taxable estate.

DAFs are a great alternative for those considering a private foundation. Foundations take longer to set up, are more expensive to establish and administer, have more stringent rules regarding gift deductibility and a small annual tax, have a required minimum annual grant amount and have public filings.

As with a foundation, a DAF allows parents to pass on charitable values to their kids, whether it gets them involved now or later, or create a family charitable legacy for the next generation.

Donor-Advised Funds Have Some Critics

Critics of DAFs say they capture funds that otherwise would go to the end charities. They also point to the fact that they do not have a requirement to distribute (like foundations do), so they essentially serve as holding accounts for those seeking tax deductions but without the charitable benefit. They also point to potentially high management fees.

Our Thoughts

We think people should create a DAF only if they have a true charitable intent to distribute the funds. The ability to make, for example, a multi-year commitment to an organization but capture the deduction in an advantageous year is just combining smart tax planning with your charitable giving.

Also, since it is quite common to use appreciated assets to fund DAFs, there are contributions that may otherwise not get made because it is easier for some people to part with appreciated stock than cash. In addition, because many smaller organizations are not set up to receive gifts of stock, it is common to donate to a DAF and then follow up by directing grants to that organization. In the high-net-worth space, many donors use a DAF as a private foundation alternative. Since the data suggest that the distribution rate from DAFs has been four times that of the 5 percent requirement of private foundations, we believe the funds in DAFs are getting to end charities. Finally, as to costs, we suggest you shop wisely, as you should do with anything.

How Do I Start a Donor-Advised Fund?

You can start a DAF at many large charities, including community foundations, or at many brokerage firms through their foundations. It may take a week or so to open. Some sponsors can start at as little as $5,000 and others may start at $100,000 or more. In order to have more flexibility with the investments, including use of your own adviser to manage the funds, the minimums will be higher. Be sure to first check with the fund sponsor to make sure that your favorite charities are on their donor list. You can usually do this on the sponsor’s website.

Why Now?

With the U.S. bull market approaching its ninth year, many portfolios have highly appreciated assets. In addition, we are likely to see tax reform under President-elect Trump’s leadership and Republican control of Congress, which could bring lower income tax rates, making the value of contributions now potentially worth more than in future years.

Combining the tax benefits with the ever-growing need of so many outstanding charitable organizations, this could be an excellent time to start a donor-advised fund.

The material shown is for informational purposes only and should not be construed as accounting, legal, or tax advice.  Altair Advisers LLC is a registered investment adviser with the Securities and Exchange Commission; registration does not imply a certain level of skill or training.  While efforts are made to ensure information contained herein is accurate, Altair Advisers cannot guarantee the accuracy of all such information presented.