October 27, 2016

Donor-Advised Critics Miss the Point About the Value of These Tools

Donor-advised fund accounts are the fastest-growing tools Americans use to set aside funds for charity, as The Chronicle’s new Philanthropy 400 rankings make abundantly clear.

Even as overall charitable giving remains flat as a percentage of the economy, the amount of money donors are setting aside for giving in DAFs has skyrocketed. Fidelity Charitable, the biggest sponsor of the advised funds, grew 20 percent last year alone, allowing it to leapfrog to the top of the 400 over the longtime No. 1, United Way Worldwide.

Over all, the growth of these individual charitable accounts, tracked by the National Philanthropic Trust, has been striking: The number of individual donor-advised funds nationally has grown from 72,590 in 2007 (when the IRS clarified rules governing them) to 238,293 in 2014. Assets housed in these accounts have grown steadily as well — from $11 billion in 2007 to $70 billion in 2014.

They would seem, moreover, to be uncontroversial. They enable charitable giving, lead to an increase in the value of assets dedicated to charity, and are designed to disburse funds only at the direction of their "donor-adviser." Nonetheless, their growth has, in fact, attracted a great deal of concern among charities and legal experts.

Critics such as the philanthropist Lewis Cullman and Ray Madoff, a law professor at Boston College, have charged that the growth and practices of donor-advised funds — particularly those managed through the charitable arms of national financial services firms such as Fidelity and Vanguard — have led to what they called in the New York Review of Books "the undermining of American charity."

In a new paper the Manhattan Institute will release next month, I examine what the critics say — and find reason to take issue with many of them. Their assertion, for instance, that DAFs rob charities of near-term gifts by setting aside funds for future giving, while providing an immediate tax deduction, erroneously assumes that reserving funds for an economic downturn might not ultimately serve charities better.

What’s more, the Cullman-Madoff assertion that national financial-services firms are mainly interested in earning fees for the management of DAF assets fails to recognize that unspent funds must inevitably be managed by someone, even if it’s a local bank.

More important, my report finds that fees charged by such firms as Fidelity and Vanguard are similar or even lower (at some asset levels) than those charged by major community foundations, which also house donor-advised funds. Managed funds, moreover, steadily appreciate in value — and can only be used for charitable purposes.

Following Donors’ Intentions

This is not to say, however, that there is no reason for concern about the current management of DAF accounts at major, national financial services firms, where these accounts are growing fastest.

What merits scrutiny in particular is their approach to unspent or "orphaned" funds that remain in an account when a donor has died but not left any instructions for use of the money.

A review of data provided by major national financial firms that sponsor donor-advised funds indicates that the overwhelming majority of charitable account assets have been disbursed to charities during the lifetimes of the original donor.

Significantly, however, in cases of the national DAF sponsors, small sums have remained in orphaned accounts, which have either been long-dormant or for which no successor was named by a donor who has died. Such funds are then directed to charities not actually chosen by the original donor. This practice sets a concerning precedent.

Fidelity, Vanguard, and Schwab Charitable were established with no other intent than to make it possible to open individual donor-advised funds accounts. None of them have a mission beyond facilitating giving. That causes problems when they have to distribute orphan funds, a problem that is not hypothetical. Data provided by Fidelity shows that only 60 percent of account holders had designated a successor or otherwise directed what should happen after their deaths to funds remaining in their charitable accounts.

This has led to only small amounts of account assets that had no direction from the donor. For instance, in 2014, such funds at Fidelity totaled only $500,000, while in 2015 they totaled $913,000 — funds left behind by some 90 donors.

Without specific instructions, Fidelity Charitable and Vanguard Charitable are left to decide how they should be put to use. Those assets remain reserved only for charitable purposes — but grants are not required to take into account any intent the donor might have had. At Fidelity, such funds are disbursed by its Trustees Fund, at Vanguard Charitable, by its General Fund. Both have boards of directors and staff members who decide where to direct the funds’ grant making.

Fidelity Charitable seeks to disburse such funds within a year after they are transferred to the trustees’ account. It has made grants to well-respected charitable organizations: Mercy Corps, the Foundation Center, Exponent Philanthropy, and Save the Children. There is no doubt that all are organizations with high-minded missions and good reputations.

Nonetheless, the disbursement of such orphaned funds must be viewed as problematic. National donor-advised fund sponsors have no stated, consistent, and unifying goals for the distributions from their general funds. These organizations seem to be seeking effective but noncontroversial goals to support. But the lack of any mandate or direction from donors is nonetheless troubling and would become much more so should the money disbursed by such funds increase — as they are likely to do at the national funds.

There are several ways the orphaned-funds problem could be solved. Donors could simply be required to name a successor — or to specify charities to which, whether immediately or over time, all remaining fund accounts would be disbursed.

To be sure, naming a successor might deter some donors from setting up a fund. But it is still important to find a way to stick to the donors’ intentions: Their money should go to the causes that were important to them.

Donor-advised funds are the most promising new vehicles for charitable giving to emerge for many years. Making sure that the wishes of donors themselves are respected, even after their deaths, should be a guiding principle of their growth.

Howard Husock is vice president for research and publications at the Manhattan Institute and a regular Chronicle contributor. This article is based on a report the Manhattan Institute plans to release in November.