At one time charity was thought of as aid to the poor and
unfortunate. Over time this quaint
notion has been overcome by events as charity became a tax dodge by which the
wealthy avoid as much tax on their wealth as possible. This source
estimates that only about a third of charitable contributions are actually
targeted at the poor. Modern finance and
generous tax regulations have now created paths by which charitable deductions
can be gained without ever actually making a contribution to charity (Yes, that
is correct!). Charitable contributions
have also become the vehicle by which the wealthy pursue their private
political agendas. They try to impose
their will upon us and we reward them by subsidizing their efforts with a tax
deduction.
The topic here will be the recent creation and growth of
what are referred to as “donor-advised funds.”
Lewis Cullman and Ray Madoff provided a concise description of this
financial entity in an article that appeared in The New York Review of Books: The Undermining of American Charity.
These authors are most concerned that these funds make receiving a
charitable deduction easier and more economical for donors but provide a
mechanism whereby actual distribution of the funds to a charity can be delayed
indefinitely.
“Most Americans have never heard
of donor-advised funds and would be surprised to learn that, measured in
donated dollars, the second-most-popular ‘charity’ in 2015 (just behind the
United Way) was not the Red Cross, the Salvation Army, or Harvard or other
universities. It was Fidelity Charitable, an organization created and serviced
by Fidelity Investments for the purpose of holding charitable donations.
Fidelity Charitable acts as a middleman, attracting its customers’ charitable
donations and managing them in separate client accounts. Money in such
donor-advised funds is invested and held until the clients give instructions (‘advise’)
about distributions to operating charities.”
Fidelity created he first of these funds for the obvious
reason that it was another mechanism whereby they could market, manage and
collect fees on yet another pile of money.
The donor/investor gains an immediate tax deduction and doesn’t have to
bother with how to best use the money until later—or even much, much
later. Fidelity, and others who have
produced competing funds, like to advertise them as a means of creating a “charitable
legacy” for the donor/investor’s descendents.
The tendency to hoard the contributions rather than distribute them to
charities is thus encouraged. This means
fees can be charged for managing these funds forever since there is no deadline
imposed on the distribution to an actual charity.
“This tendency to hoard rather
than spend DAF [donor-advised fund] funds is borne out by the most recently
available statistics from the IRS, which show that the median annual payout
rate from all DAFs was 7.2 percent, while nearly 22 percent of all DAF sponsors
reported no grants at all.”
Donor/investors love these funds because of the
conveniences they provide. For example,
the donation of property rather than cash is greatly facilitated to the financial
advantage of the donor. It is this
ability to provide a larger tax deduction than through a direct contribution
that has made the donor-advised funds popular.
The authors provide some examples.
“….commercial DAFs make it easy
for donors to make contributions of property—including shares of stock—rather
than cash. These donations can save an additional 20 percent in the capital
gains taxes the donor would otherwise pay. Thus, while a gift of $100 cash by a
high-income taxpayer can save that taxpayer nearly $40, a gift of $100 of
property can save the taxpayer close to $60 in combined income and capital
gains taxes.”
Also facilitated is the contribution of what are referred
to as “complex assets.”
“For financial institutions the
words “complex assets” refer to property that is not publicly traded stock.
Complex assets can include such varied holdings as commercial and residential
real estate, art, private business interests, and even mineral rights, yachts,
and taxidermy collections. A significant part of the work of commercial DAF
sponsors consists of acting as a tax-free clearinghouse for complex assets.”
Donor-advised funds (DAFs) also provide an advantage over
private foundations when it comes to garnering tax deductions. They can value complex assets at current
value for tax purposes, while private foundations must use initial value.
“Congress specifically
prohibited donations of complex assets to private foundations from being
deducted at their market value because it was concerned about problems of
valuation. Since there is no ready market for complex assets, the donor must
get an appraisal to set the value for the donation. Appraising is not an exact
science and the donor has an interest in coming up with as high a value as is
legally supportable. In addition, the DAF has little incentive to challenge
this valuation.”
“For example, if a donor
invested $100,000 in a hedge fund, and it grew to be worth $2 million, the
donor would get only a $100,000 deduction if it were given to a private
foundation, but would get a $2 million deduction if it were given to a DAF.
This ability to provide a larger deduction for donations of complex assets has
fostered the growth of DAFs.”
Also, if a donor has an asset assessed at $2 million contributed
to a DAF and the object is eventually converted to cash yielding only $1.5
million, the donor is still entitled to a $2 million tax deduction.
Is there any wonder that DAFs have gained popularity?
“According to the National
Philanthropic Trust, annual contributions to DAFs hit an all-time high of
$19.66 billion in 2014. The increase in contributions, combined with a rising
stock market, “drove total donor-advised fund assets above $70 billion for the
first time.”3
The leader, Fidelity Charitable, has had particularly strong growth and it is
widely expected that in 2016 it will surpass the United Way and receive more
donations than any other charity in the country.”
The authors are concerned that depositing funds into an
intermediary like a DAF rather than a direct contribution to a charity delays,
often indefinitely, access by the charities to the resources they need. Lewis Cullman is particularly sensitive to this issue.
“Lewis Cullman is a New York
philanthropist who, at the age of ninety-seven, has given away over 90 percent
of his wealth to charitable causes.”
He has been particularly irate about the role private
foundations that were set up to make charitable contributions actually play in extending
wealth indefinitely to generations of a wealthy person’s heirs. He is also unhappy because DAFs are now vehicles
to which a private foundation can make a “charitable” contribution to fulfill the
obligation to spend 5% of assets annually on charitable activities.
“Finally, DAFs are also
detrimental because they disrupt the flow of money from private foundations to
operating charities. Private foundations are required to distribute 5 percent
of their assets each year and these distributions typically go to operating
charities. However, according to current tax rules, contributions to
donor-advised funds qualify as required distributions for private foundations.
This means that a private foundation can meet its payout requirement by giving
funds to a DAF, which itself has no payout requirement.”
There is another perversity about DAFs that seems to leave
the authors a bit puzzled. The managers
of a donor-advised fund are not required to follow the requests of the donors
when it comes to utilization of the funds.
They can legally do pretty much anything they want with them.
“Despite such references to control, legal agreements between donors and DAF
sponsors in fact provide that the donor cedes all legal control over
donated funds. Although a donor is given
the right to make recommendations (sometimes referred to as ‘advisory
privileges’), this is not much of a ‘right.’ DAF sponsors are
legally allowed to ignore donors’ advice about the disposition of their DAF
funds.”
“For most donors, this will have little practical effect; donors will
advise and the DAF sponsor will follow the donor’s advice. This is
because the business model of commercial DAF sponsors is to profit
from the fees they secure and not from appropriating donor funds. However, not
all donors have been so lucky. In one case, a DAF sponsor went
bankrupt and the donated funds were seized to pay its creditors. In another
case, the DAF sponsor used donated funds to pay its employees
large salaries, hold a celebrity golf tournament, and reimburse the cost of
litigation when a dissatisfied donor sued. In both cases, courts ruled against
the donors and upheld the rights of the fund sponsor to exert full legal
control over DAF funds.”
Why would
Fidelity and other fund managers construct an entity that could potentially act
quite differently from how it was advertised to its customers? Perhaps the Fidelities of the world knew more
about how the wealthy choose to spend their money than those who focus only on charitable
contributions.
Let us now see
how a DAF appears to someone who is concerned about political spending. Jane Mayer has written about the way in which
the wealthy use charitable contributions to impose their views on the general
public in her book Dark Money: The Hidden History of the Billionaires Behind the Rise of the Radical Right.
Those who would wish use their money to influence public
opinion have the nearly perfect vehicle available: private foundations set up
to contribute to charitable activities.
“By 1930, there were
approximately two hundred private foundations….By 1950, the number had grown to
two thousand, and by 1985 there were thirty thousand. In 2013, there were over a hundred thousand
private foundations in the United States with assets of over $800 billion. These particularly American organizations,
run with little transparency or accountability to either voters or consumers
yet publicly subsidized by tax breaks, have grown into 800-billion-pound
Goliaths in the public policy realm.”
“Private foundations have very
few legal restrictions. They are
required to donate at least 5 percent of their assets every year to public
charities—referred to as ‘nonprofit’ organizations.”
It was this designation of “nonprofit organizations” as the
legal equivalent to charitable organizations that would allow what Mayer refers
to as the “weaponization of philanthropy.” When Congress created this
interpretation of nonprofits as “social welfare” entities early in the
twentieth century it was not expected that the wealthy would use them as a
means of propagating personal political agendas while hiding the source of
funds.
It is quite easy for a non-profit organization of any kind
to be designated as a vehicle for tax exempt contributions.
“….to qualify as tax exempt,
such groups had to certify that they would be ‘operated exclusively for the
promotion of social welfare.’ The IRS
later loosened the guidelines, though, allowing them to engage marginally in
politics, so long as it wasn’t their ‘primary’ purpose. Lawyers soon stretched the loophole to absurd
lengths. They argued, for instance, that
if a group spent 49 percent of its funds on politics, it complied with the law
because it still wasn’t ‘primarily’ engaged in politics. They also argued that one such group could
claim no political spending if it gave to another such group, even if the
latter spent the funds on politics.
Experts likened the setup to Russian nesting dolls. For example, at the end of 2010, the Center
to Protect Patient Rights reported on its tax return that it spent no money on
politics. Yet it granted $103 million to
other conservative groups, most of which were actively engaged in the midterm
elections.”
Many hundreds of millions of dollars were distributed by
wealthy individuals through their private foundations to organizations that
were set up to counter global warming science, defeat the Affordable Care Act,
kill environmental regulations, and promote the continued use of fossil fuels
and other pollutants. And they were also
used to elect appropriately conservative Republican politicians. With these vehicles the wealthy could confuse
those who might wish to learn who was providing all this money by shuffling
funds back and forth between multiple organizations. However, the system was complicated to manage
and not perfectly opaque. Then along
came donor-advised funds.
Mayer introduces us to a DAF named DonorsTrust that
explicitly advertises its ability to protect donors from any public connection
between themselves and any of the organizations to which they contributed.
“Founded in 1999 by Whitney
Ball, an ardent libertarian from West Virginia who had overseen development of
the Koch-funded Cato Institute, DonorsTrust boasted one key advantage for
wealthy conservatives. It made their
contributions appear to be going to Ball’s bland-sounding ‘donor-advised fund,’
rather than to the far more controversial conservative groups she distributed
it to afterword. The mechanism thus
erased the donors’ names from the money trail.”
“Between 1999 and 2015,
DonorsTrust redistributed some $750 million from the pooled contributions to
myriad conservative causes under its own name.”
For an outfit like DonorsTrust, and for its investors, the
ability to pool funds and expend them in a coherent, targeted fashion is critical. If a donor-advised fund had to explicitly
wait for donor advice on spending, this political use would not have been
possible.
One has to wonder what exactly Fidelity had in mind when
they created this type of vehicle that provides so much flexibility to its managers.
Recall that only about 30% of “charitable” contributions
are charitable in the Biblical sense—providing aid to the poor. Note also that those who make charitable
contributions but are not in a position to itemize deductions on their tax
returns receive no financial benefit from their contributions. The tax deduction for “charitable”
contributions benefits mostly the wealthy who often are engaged in some form of
self-aggrandizement or are trying to promote or impose a personal agenda. It is rather dumb to provide a tax system
that subsidizes these latter activities.
The interested reader might find these articles informative:
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