Why Donor-Advised Funds Can Increase Charitable Giving

For decades, the percentage of American economic wealth directed to philanthropy has remained stagnant, at approximately 2 percent of gross domestic product. For those of us who believe that increasing that share can provide the means to try imaginative new approaches to our social problems, cultural needs, and scientific challenges, the striking growth of personal donor-advised funds is a promising new development in philanthropy. Indeed, since 2007, the number of donor-advised funds has risen by 39,580, such that a strong case can be made that, absent disbursements from such accounts, overall philanthropy would not have recovered as much as it has from the aftermath of the 2008 financial crisis.

Crucially, however, much of the positive promise of DAFs lies in an aspect of their structure about which their critics have, mysteriously, focused concern: undisbursed balances. The incentives offered by DAFs notably include the opportunity to make contributions—and take a tax deduction—in years when one’s income is high, and to disburse them gradually over time, perhaps even after one is retired and has a far lower income. Concern over the pace of such disbursements—and proposals to require faster distribution—ignores two critical aspects of DAF regulation: first, the undisbursed balances may only be directed toward charitable causes, and, second, such balances will grow over time as de facto, low-cost personal foundation endowments. Indeed, in the past seven years, undisbursed DAF balances have grown from $11.11 billion to $24.82 billion—even as overall current-year philanthropic giving has grown. So it is that the remainder balances in donor-advised funds—increasingly managed by major national financial services firms—implicitly hold the promise of long-term overall growth in U.S. philanthropic giving. Indeed, in a new report for the Manhattan Institute, I extrapolate from recent DAF giving trends to conclude that such giving could raise overall philanthropy as a percentage of GDP to some 2.2 percent by 2035—a modest percentage increase, but a dollar increase of nearly $60 billion per year in today's dollars.

It is worth asking the question, of course, as to where such disbursements are being directed. To answer that question, my Manhattan Institute study examined anonymized, proprietary FY 2013 data obtained from the Fidelity, Vanguard and Schwab charitable foundations—the entities in which individual donor-advised funds are housed—for three major U.S. metropolitan areas: Chicago, Dallas and Denver. It found that nearly 23,000 grants totaling more than $90 million were made by local “national DAF” account holders to charities headquartered in those areas in that single year. Notable top recipient organizations include the Greater Chicago Food Repository, the American Red Cross of Denver, and the Communities Foundation of Texas. Dozens of local churches, synagogues, schools, and food banks rank alongside regional offices of national charities like the United Way among the top 500 recipient organizations in each metropolitan area.

In other words, there is no evident reason to be concerned that charitable organizations reliant on annual, individual checks will be ignored in a more DAF-centric system—even as DAF remainder balances hold the potential for increased giving over time. (Notably, there is a relatively limited overlap between the giving of national DAF account holders in the three metro areas and those organizations supported by major community foundations in those same areas. In other words, national DAFs are expanding, rather than replicating, the universe of recipient organizations.)

In light of their track record, the animus of critics toward DAFs—and proposed tax law changes that would limit their appeal—are hard to fathom. To be sure, it is true the major national financial firms realize investment fees for their management of DAF balances. However, as I note as an example in my paper, Vanguard’s investment expenses are threefold lower those paid by the median private family foundation. Moreover, the separate administrative fees, at roughly 0.6% of assets, accrue to the nonprofit affiliates of the NDAFs—not the for-profit parent. Even these fees are lower than the median non-operating private foundation, because they allow legal and appraisal services to be spread over a far larger donor base. Moreover, the proposed rule that would require DAF donations to be paid out within five years would inevitably increase such administrative overhead, as major DAF-holding organizations would have to track inflows and outflow for tens of thousands of donors and contributions.

Criticism highlighting the relative affluence of those who establish donor-advised funds and their links to major national financial services firms also ignores other key points. One can establish a donor-advised fund with an initial contribution as low as $5000. Moreover, even to the extent that the relatively affluent do establish such funds, criticism of such donors ignores another key point: those of higher income provide a disproportionate share of all charitable giving. Indeed, of the charitable gifts made by those who itemize deductions, a disproportionate share is contributed by high-net-worth households—those earning $200,000 or more. As Williams College economist Jon Bakija has written: “In 2009, only 2.6 percent of households had [adjusted gross income] above $200,000 but they accounted for 25.1 percent of all income, and their charitable deductions accounted for 29.5 percent of the aggregate value of charitable donations made by all households.” Notably, the November, 2012 Bank of America Study of High Net Worth Philanthropy found that 95 percent of “high net worth donors give to charity in 2011,” compared with “about two-thirds (65.4 percent) of U.S. households in the general population. Importantly, higher-income households are far more likely to itemize their tax deductions, and thus be in a position to be affected by the value of the charitable deduction, or rules changes regarding DAFs. The tax incentives available to such households and the types of organizations that they tend to support thus take on special significance.

Criticism of the relatively well-off for establishing donor-advised funds and availing themselves of their tax advantages, can thus be understood as an attack on the charitable tax deduction overall, since it is the affluent whose giving is incentivized by that deduction. Moreover, the national DAF organizations, precisely because of their links to brokerage accounts, offer the convenience of selling and transferring capital assets through the same umbrella organization. In this way, they also reduce costs for nonprofit charitable organizations, which may be ill-equipped to accept non-liquid assets, and might well have to pay consultants and experts to convert them to operating funds.

It’s hard not to conclude, then, that those who would change the rules that have allowed donor-advised funds to thrive would actually prefer that charitable giving not grow overall—or, put another way, that government can make better use of funds that are now growing in value as DAF balances. Those who see philanthropy as a key underpinning of American civil society—as a source of imaginative new approaches to the problems we face—would beg to differ.

Howard Husock is vice president for policy research at the Manhattan Institute, where he is also director of its Social Entrepreneurship Initiative.