Philanthropic Adventures: Family Foundations 2:3 Vehicle Selection

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Philanthropic Adventures: Family Foundations 2:3 Vehicle Selection

Wednesday, November 15, 2006

Philanthropic Adventures
Philanthropic Adventures: Family Foundations Part 1:3 What Is Family Philanthropy?

Philanthropic Adventures: Family Foundations Part 2:3 Vehicle Selection

Philanthropic Adventures: Family Foundations Part 3:3 Tax Planning

Vehicle selection is a key element for successful family philanthropy. As discussed earlier, clients generally select to organize their family foundation in one of three ways: as a private foundation, as a donor advised fund, or as a supporting organization. All three have advantages and disadvantages. It is important that you consider your family foundation's goals and then review the vehicle types.

One issue that deserves special attention is control. The three primary vehicles, as mentioned above, will provide you with varying degrees of legal control. There are two levels of control to consider: the gift level and the vehicle level. At the gift level, once you have made a contribution to any of the philanthropic family vehicles, those assets are now for charitable purposes only. It is an irrevocable gift that must be used for the public good.

At the vehicle level you will find varying degrees of legal control. The private foundation allows for the most control, but the trade-off for control is added government regulation and less advantageous income tax deductibility. The advised fund and supporting organization do not allow a donor the same level of control as a private foundation, but both vehicles offer higher tax deductibility and less government regulation. You should focus on the start-up issues and then consider how important the control factor is for your family foundation. Clients will often focus entirely on the control issue and then later realize there is more to a family foundation than just control.

The following is a summary of all three family foundation vehicles:
Family Foundation As Private Foundation

The private foundation, as mentioned earlier, is the historic favorite of charitably minded families and still holds a special place in philanthropic circles. A family foundation organized as a private foundation will generally retain the family's name (Smith Family Foundation) and is a separate entity for tax purposes; therefore, it requires an annual tax return. It also requires a formal board of directors (or trustees). The board may consist of all family members (of course, non-family members may be involved) and the board is responsible for all decisions regarding the foundation.

One long-held view in the foundation world is that there is a specific threshold dollar amount associated with starting each family foundation type. This is a distraction that you should put away for now. When you were starting your first business did you focus on how much the form would cost you or did you find the form that would help you meet your objective? You want to identify the form that you and your family are happiest with and then consider the costs associated with its operation. A more cost-efficient structure may provide cost savings, but if the form does not work then the cost savings will all be for not.

The private foundation form provides a formal structure that allows your children to participate as equals and may be used to teach them about issues such as finance and policy setting. They will also have the opportunity to learn about how you allocate assets when your resources are limited. All of these activities can be accomplished in the other forms, but since the private foundation is "wholly-owned" by the family, many clients find it the most attractive.

A private foundation is governed by federal and state regulations. You might say the government allows your family to have its own private charity, and affords an income tax deduction for gifts to your foundation if you follow specific rules. The rules governing private foundations are generally regarded the most onerous of the three types of family foundations. While the rules may be more cumbersome than those governing the other two types of family foundations, they should not impede your foundation's success. The government enacted most of these rules in 1969, after it was discovered that a few private foundations were abusing the charitable status afforded them.

In recent years, there has been a tremendous growth in the creation of private foundations. One issue for families that have started a foundation is how to find charitable organizations doing work the family wants to support, especially small charities that do not have marketing budgets. This becomes an even harder task when a family is new to philanthropy and has little historical contact with charities. Families also discover that they will start to receive unsolicited inquiries for information about their foundation and for grant monies. This can be viewed as either a positive or negative development depending on your family foundation's objectives.

One area that many clients are interested in is anonymity. Clients think of the private foundation as family-owned and therefore "private." In reality, a private foundation must make its tax returns available to the public, and therefore, information about the foundation may become known that a family would prefer not be disclosed. Cachet is also a consideration for some families starting foundations. Some clients like the idea of having their own foundation controlled by the family. For other families, this is not an important issue. Again, it depends on your objectives.
Family Foundation As Donor Advised Fund

A donor advised fund is a family foundation that is established within another charitable organization. In general, most clients establish family foundations organized as an advised fund within a type of charity called a community foundation. A community foundation specializes in helping its donors find charitable funding opportunities and providing opportunities for its donors to learn about specific issue areas. Other types of charitable organizations such as hospitals and educational institutions also sometimes offer advised funds.

While a family foundation created as an advised fund within a charity can retain a name selected by you or your family (Smith Family Foundation or Fund), because an advised fund is a fund of the charity, you and your family do not legally control it. Instead, you and your family retain the right to make ongoing recommendations regarding the charities your family foundation supports. The charity in which you establish an advised fund within is responsible for determining whether you and your family's grant recommendation is proper and fits into the charity's greater purpose. At first, clients find this situation problematic, but they soon discover that a charity offering advised funds is not attempting to dampen the family's enthusiasm to make grants to qualified charitable causes and organizations, but is complying with government regulations (just like private foundations have rules, advised funds also have rules).

The upside to an advised fund is that the charity you start your foundation within will have a staff waiting to help you and your family. This generally means less of you and your family's time is devoted to management and administration, and more time is available to focus on giving. The charity may charge a modest management fee for these services (deducted from your foundation or fund). As you can probably imagine, the advised fund option is a good one if you believe the charity you are working with has the services and is the type of organization that will enhance you and your family's foundation experience. You need to be comfortable with the philosophy, track record, and services of the organization.

One growing trend among charitably minded clients interested in starting family foundations is to establish both a private foundation and an advised fund. This is a very effective strategy if the charity that you work with has a program that provides information about potential giving opportunities. Some clients with advised funds work with the charity to learn about a particular area of interest, such as education, and then start making grants from both their private foundation and advised fund in that interest area. Another strategy is to create separate advised funds for your children so they can explore their own interests with the staff of the charity. This allows your children to develop their own "philanthropic voices" and they can also bring what they learn to the private foundation discussions. A third reason for starting an advised fund is often the anonymity that it provides. A grant can be made from an advised fund without the recipient ever knowing it came from your foundation. Many articles on this subject discuss "selecting" a vehicle for your family foundation. In some cases multiple vehicles is the way to approach starting a family foundation.
Family Foundation As Supporting Organization

A family foundation that is established in the form of a supporting organization is more complicated to explain than either the private foundation or advised fund. It is a separate entity much like a private foundation and therefore has its own board of directors and has to file a tax return annually. The costs associated with starting and running a family foundation organized as a supporting organization are similar to those for private foundations. But because a supporting organization has an ongoing relationship with a public charity or charities, a supporting organization is afforded the same favorable income tax deductions as a gift to an advised fund. A supporting organization is also not governed by the private foundation regulations.

The key difference between a private foundation and a supporting organization is that with the latter, operating control must vest with one or more public charitable organizations. One common way of structuring a supporting organization is to simply name a majority of board members from a local charity. In other words, the organization could have three family members and four representatives from a local charity and qualify as a supporting organization.

Your family foundation as a supporting organization provides you with your own entity but in the model discussed above, you and your family will not control the entity. The trade-off for control is that you have the resources of the charity that you support waiting to help you and your family start your foundation. Many clients find this type of family foundation attractive because they have the ability to customize their philanthropic experience, but can rely on the charity(s) the foundation supports to help manage the foundation's activities.

A supporting organization operates more like a private foundation (without the control) and provides a formal structure for children to learn within. Because it is a separate organization, a supporting organization has the same cachet of a private foundation. Again, you will need to consider what you and your family are trying to accomplish.

Click here to read part three of this three part series on Adventure Philanthropy: Family Foundations and Philanthropic Travel.

Tags: Foundation Source, Adventure Philanthropy, Philanthropic Travel

Related Links:
Becoming a Philanthropist
My First Philanthropic Travel Experience
The Wisdom of Stone Soup
Zambia: Exquisite Safaris School Project
Affluent Parents Dedicated to Instilling Philanthropic Values in their Children