Client X comes to your office in early December and says to you, “I am going to earn a lot more this year than I ever did in any one year. I want to contribute some of it to charity but I don’t know exactly what I want to do with it yet. Is there any way that I can give it away this year and decide what to do with it next year or over the next several years? Can I make the contribution with a request that it be used for something specific? I’ve never done anything like this before; I usually just make a lot of small gifts to a number of different charities.”
As some of our readers know, there are a number of ways to accomplish Client X’s goals. We are going to begin by discussing private foundations. In subsequent newsletters, we will discuss public charities, donor advised funds, and the differences between grant-making private foundations and private operating foundations, as well as other topics related to charitable giving.
What is a private foundation? A private foundation is an entity, typically a non-profit corporation or a trust, that receives contributions from one main donor, and generally makes grants to one or more public charities over time (this type of foundation is referred to as a “grant-making foundation”). Private foundations, like other entities that qualify for tax-exemption under Code § 501(c)(3), must use its assets for religious, charitable, scientific, literary, or educational purposes.1
Contributions to a private foundation of cash, or cash equivalents, are generally deductible for income tax purposes up to 30% of the donor’s adjusted gross income. Tax deductions for cash contributions in excess of the 30% limitation may be carried forward for up to five (5) years. Contributions to a private foundation of publicly traded stock – equal to its full fair market value – are generally deductible for income tax purposes up to 20% of the donor’s adjusted gross income. There are additional rules and limitations dependent of the type of property being contributed.
Private foundations are subject to a number of restrictive rules.2 The foundation, at the risk of it and its managers becoming subject to substantial excise taxes, will not (1) fail to distribute one percent (1%) or two percent (2%) of its net investment income; (2) engage in any act of self-dealing; (3) retain any excess business holdings; (4) make any investments that will jeopardize its ability to carry out its purposes; and/or (5) make any taxable expenditures, such as using foundation assets for lobbying and/or political activity or making a grant to a non-charitable entity.3 Finally, a private foundation must distribute at least five percent (5%) of its assets for charitable purposes each year.
1. Section 501(c)(3) of the Internal Revenue Code of 1986, as amended (the “Code”), reads in its entirety, as follows: [c]orporations, and any community chest, fund, or foundation, organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes, or to foster national or international amateur sports competition (but only if no part of its activities involve the provision of athletic facilities or equipment), or for the prevention of cruelty to children or animals, no part of the net earnings of which inures to the benefit of any private shareholder or individual, no substantial part of the activities of which is carrying on propaganda, or otherwise attempting, to influence legislation (except as otherwise provided in subsection (h)), and which does not participate in, or intervene in (including the publishing or distributing of statements), any political campaign on behalf of (or in opposition to) any candidate for public office.
2. See sections 4940 through 4945 of the Code.
3. To save this grant, the foundation should exercise expenditure responsibility.