What is a Donor Advised Fund

No matter how recent changes in tax laws may alter your tax planning, we’d like to believe one thing will remain the same: With or without a tax write-off, many Americans will still want to give generously to the charities of their choice. After all, financial incentives aren’t usually your main motivation for giving.  We give to support the causes we cherish. We give because we’re grateful for the good fortune we’ve enjoyed. We give because it elevates us too. Good giving feels great – for donor and recipient alike.

That said, a tax break can feel good too, and it may encourage you give more than you otherwise could. The donor-advised fund (DAF) is a tool for continuing to give meaningfully and tax-efficiently under the new tax law.

What’s Changed About Charitable Giving? 

To be clear, the 2017 Tax Cuts and Jobs Act (TCJA) has not eliminated the charitable deduction. You can still take it when you itemize your deductions. But the law has limited or eliminated several other itemized deductions, and it’s roughly doubled the standard deduction (2019: $12,200 for single and $24,400 for joint filers; an additional amount is allowed for those over age 65). With these changes, there will be far fewer times it will make sense to itemize your deductions instead of just taking the now-higher standard allowance.

A higher standard deduction creates a new incentive to bunching up your deductible expenses, so they can periodically “count” toward reducing your taxes due – at least in the years you’ve got enough itemized deductions to exceed your standard deduction.

For example, if you usually donate $8,000 annually to charity, you could instead donate $40,000 once every 5 years.  Combined with other deductibles, you might then be able to take a nice tax write-off that year, which may generate (or be generated by) other tax-planning possibilities. The tax savings could be fairly generous. For example, if one would otherwise not be able to take the deduction and would be able to maximize the $40,000 deduction, the savings could be nearly $13,000 at a 32% marginal tax bracket.   This savings doesn’t even take into account other benefits of gifting to a DAF, including minimizing capital gains upon gifting appreciated assets and avoidance of income taxes on the earnings generated within the DAF.

What Can a DAF Do for You?

DAFs are not new; they’ve been around since the 1930s. But they’ve been garnering more attention as a potentially appropriate tax-planning tool under the TCJA. Here’s how they work:

1. Make a sizeable donation to a DAF. Donating to a DAF, which acts like a “charitable investment account,” is one way to bunch your deductions for tax-wise giving. But remember, DAF contributions are irrevocable. You cannot change your mind and later reclaim the funds.
2. Deduct the full amount in the year you fund the DAF. DAFs are established by nonprofit sponsoring organizations, so your entire contribution is potentially eligible for the maximum allowable deduction in the year you make it. Of course, you need to be cognizant of various Adjusted Gross Income limitations and other rules. Plus, once you’ve funded a DAF, the sponsor typically invests the assets (as directed by you, generally), and any returns they earn are tax-free. This can give your initial donation more giving-power over time.
3. Participate in granting DAF assets to your charities of choice in your time. Over time, and as the name “donor-advised fund” suggests, you get to advise the DAF’s sponsoring organization on when to grant assets, and where those grants will go. You don’t have to gift that large initial contribution you made to a DAF in that same year; rather, you can dole it out as you wish (or, technically, as you advise).

Thus, donating through a DAF may be preferred if you want to make a relatively sizeable donation for tax-planning or other purposes in one year and yet desire to gradually allocate all the money to your favorite causes.

Another common reason people turn to a DAF is to donate appreciated stocks in kind (without selling them first), when your intended recipients can only accept cash or liquid donations. In addition to the income tax deduction, the ability to avoid capital gains taxes can be significant.  If one was in the 23.8% effective capital gains bracket (e.g., high earners in tax-free states) and the basis was 25%, the capital gains reduction could be approximately $7,000 on a gift of $40,000.  (If you were in a high tax state like Georgia, the savings could be nearly $9,000.)  If you added such savings with the income tax deduction of $13,000 noted above, this total savings of $20,000 is 50% of the value of the gift!  Winner-winner, charity dinner.

The American Endowment Foundation offers this 2015 “Donor Advised Fund Summary for Donors,” with additional reasons a DAF may appeal – with or without its newest potential tax benefits.

Beyond DAFs – Other Planned Giving Vehicles 

A DAF isn’t for everyone. Along the spectrum of charitable giving choices, they’re relatively easy and affordable to establish, while still offering some of the benefits of a planned giving vehicle. As such, they fall somewhere between simply writing a check, versus taking on the time, costs and complexities of a charitable remainder trust, charitable lead trust, or private foundation.

That said, planned giving vehicles offer several important features that go beyond what a DAF can do for a family who is interested in establishing a lasting legacy. They also go beyond the scope of this paper, but we are happy to discuss them with you directly at any time.

How Do You Differentiate DAFs? 

If you decide a DAF would be useful to your cause, the next step is to select an organization to sponsor your contribution. Sponsors typically fall into three types:

1. Public charities established by certain financial providers.
2. Independent organizations, like the Community Foundation of Middle Tennessee, American Endowment Foundation, Renaissance Charitable Foundation, and The National Christian Foundation.  At Oasis Wealth, we are able to partner with AEF and RCF through our custodian, TD Ameritrade, and we can structure a portfolio that ties to our client’s giving objectives.
3. “Single issue” entities, like religious, educational, or emergency aid organizations.

Within and among these categories, DAFs are not entirely interchangeable. Whether you’re being guided by a professional advisor or you’re managing the selection process on your own, it’s worth doing some due diligence before you fund a DAF. Here are some key considerations:

Minimums – Different DAFs have different minimums for opening an account. For example, one sponsor may require $5,000 to get started, while another may have a higher threshold.

Fees – As with any investment account, expect administration fees. Just make sure they’re fair and transparent, so they don’t eat up all the benefits of having a DAF to begin with.

Acceptable Assets – Most DAFs will let you donate cash as well as stocks. Some may also accept other types of assets, such as real estate, private equity or insurance.

Grant-Giving Policies – Some grant-giving policies are more flexible than others. For example, single-entity organizations may require that a percentage of your grants go to their cause, or only to local or certain kinds of causes. Some may be more specific than others on the minimum size and/or maximum frequency of your grant requests. Some have simplified the grant-making process through online automation; others have not.

Investment Policies – As touched on above, your DAF assets are typically invested in the market, so they can grow tax-free over time. But some investments are far more advisable than others for building long-term giving power! How much say will you have on investment selections? Similar to our approach for managing our clients’ individual portfolios, we need to understand our client’s goals for the particular DAF. The time horizon and matching the asset allocation to the goals are critical is making the DAF more effective.  I have seen too many cases where cash is invested for a fund that is really meant to be long-term.  

Transfer and Liquidation Policies – What happens to your DAF account when you die? Some sponsors allow you to name successors if you’d like to continue the account in perpetuity. Some allow you to name charitable organizations as beneficiaries. Some have a formula for distributing assets to past grant recipients. Some will roll the assets into their own endowment. (Most will at least do this as a last resort if there are no successors or past grant recipients.) Also, what if you decide you’d like to transfer your DAF to a different sponsoring organization during your lifetime? Find out if the organization you have in mind permits it.

While your goals will dictate the liquidation policies that are right for you, I feel it is a great vehicle to pass on family values to future generations.

Deciding on Your Definitive DAF 

Selecting an ideal DAF sponsor for your tax planning and charitable intent usually involves a process of elimination. To narrow the field, decide which DAF features matter the most to you, and which ones may be deal breakers.  Then, coordinate with your overall financial and tax planning to maximize the effectiveness of implementing a DAF.

If you’re working with a wealth advisor such as Oasis Wealth Planning Advisors, we hope you’ll lean on us to help you make a final selection, and meld it into your greater personal and financial goals. As Wharton Professor and “Give and Take” author Adam Grant has observed, “The most meaningful way to succeed is to help others succeed.” That’s one reason we’re here: to help you successfully incorporate the things that last into your lasting, charitably minded lifestyle.