General Questions about Private Foundations
Technically, a private foundation is a not-for-profit entity that is controlled by, and receives most of its funding from, a single individual, family, or business. It is organized exclusively for charitable, educational, religious, scientific, or literary purposes under Section 501(c)(3) of the Internal Revenue Code. A foundation must apply to the IRS to obtain official recognition of its tax-exempt status.
In practice, a private foundation is a unique charitable giving vehicle that provides donors with significant control over their assets and giving, and allows them to receive an current-year tax deduction for charitable gifts they make in the future.
Typically, donations to a private foundation are tax deductible up to 30% of adjusted gross income (AGI) for cash, and up to 20% of AGI for appreciated securities (as long as the donation is “qualified stock” that is held for at least one year). There is a five-year carry forward for donations that exceed these limits. Other types of assets, including real estate, may be donated to the foundation but are subject to limitations. Consult with your tax advisor about the deductibility of your contributions.
When you establish a private foundation, you begin a tradition of giving that can extend far beyond your lifetime, forging links to future generations and connecting your name in perpetuity to good works.
Private foundations provide the greatest level of control of any charitable giving vehicle. You decide which charities to support, who sits on the board of your foundation, and how your donated assets are invested. You also have great latitude as to the types of assets you can put in the foundation.
The IRS allows private foundations to conduct most any type of activity as long as it’s for a charitable purpose. This includes making grants directly to individuals and families in need, granting internationally, awarding scholarships and fellowships, running charitable programs, and much more
A private foundation enables you to involve your spouse, children, and other relatives in your philanthropy. It provides a powerful tool for passing on financial lessons, life skills, and family values to younger generations. You can even hire family members, if qualified, for foundation-related work.
Current Tax Deduction for Future Grants
You get a current-year income tax deduction for contributed assets, even if the foundation does not make charitable grants until a later date. Not only do contributions to a private foundation reduce your income tax for the year in which the gift is made, they also enable you to reduce or eliminate potential estate taxes and avoid paying capital gains taxes on contributions of highly appreciated securities. Consult with your tax advisor about your specific tax situation.
Yes. By appointing a spouse, children, and other family members as officers and directors, the foundation can be used to bring the family together and pass on philanthropic values to younger generations. To help increase involvement by family and friends, Foundation Source has created a unique giving tool called “Grant Certificates” to enable the foundation to give limited granting rights to those not officially on the foundation.
Generally, the founder of a foundation wishing to serve as a director or as a trustee must be at least 18 years old.
At the most basic level, a donor-advised fund is a giving account held within a public charity. The donor makes irrevocable contributions to the public charity that administers the account, and they then may recommend (hence “donor-advised”) how those funds are invested and granted out to public charities. However, the fund’s governing body is free to accept or reject those recommendations.
A private foundation is a wholly distinct legal entity. The donor retains complete control over who is on the board and how the foundation’s assets are invested and granted out. A foundation also provides much greater latitude in how those charitable funds are used. The foundation may hire staff, reimburse expenses, set up scholarship and award programs, and make grants directly to individuals in times of need. A foundation may be funded with, and continue to hold, a much wider variety of assets, such as closely held stock, partnerships, real estate, jewelry, artwork, and other tangible assets.
Although a donor-advised fund is traditionally considered easier to establish and operate than a private foundation, that’s no longer the case. Thanks to the advanced technology and complete outsourced services available from Foundation Source, private foundations are now as easy to establish and run as a donor-advised fund.
Foundation Source can deliver a new foundation in less than a week, typically just three business days.
The conventional wisdom used to be that a donor needed $5 – $10 million in initial funding to make it worthwhile.
Now, thanks to the comprehensive, outsourced services provided by Foundation Source, private foundations are much easier and less expensive to administer. In fact, it is now practical to establish a foundation with as little as $250,000 in initial funding.
Foundation Source was established to free you, the donor, from administrative hassles, so you can spend time on more important matters, such as your foundation’s mission and giving strategy. We file taxes, monitor compliance, handle back-office responsibilities, and provide each foundation with a dedicated Private Client Advisor who serves as your single point of contact for all of our in-house experts and resources. Your involvement level is up to you.
The IRS requires that private foundations pay out annually at least 5% of the previous year’s average net assets for charitable purposes. Disbursements that count toward this minimum distribution requirement (MDR) may include administrative expenses associated with running the foundation, including board meetings and site visits, and even Foundation Source’s fees. Foundation Source calculates the MDR on a daily basis and posts it on each foundation’s secure, password-protected website. There is no maximum limit on how much a foundation can give out.
Yes. Donors don’t have to set up a separate nonprofit or convert to an operating foundation in order to conduct charitable activities. Though most foundations only make grants to nonprofits, a growing number have chosen to get more hands-on in running their foundation’s own programs. So long as a foundation’s program would be regarded by the IRS as charitable—such as a soup kitchen for the needy—a foundation may directly conduct its own programs and treat its related expenses (supplies, salary, rent, etc.) as part of the minimum distribution requirement. Generally, a foundation should consult its legal advisor to ensure that a program would be regarded by the IRS as charitable for tax purposes.
Private foundations typically carry out their philanthropy by making grants to IRS-recognized public charities. These include religious, educational, scientific, and cultural institutions; poverty relief agencies; or any other organization that qualifies as a 501(c)(3) charity.
Foundation Source provides its clients with an online database of more than a million IRS-approved charities that they can use to research potential grantees. Foundation Source performs due diligence on each grantee, as required by the USA PATRIOT Act and the Office of Foreign Assets Control (OFAC), which preclude organizations and individuals suspected of, or known to be, engaging in criminal, terrorist, or other illicit behavior from receiving financial contributions from private foundations. (The USA PATRIOT Act and OFAC sanctions apply to donor-advised funds and individuals as well.)
Although making donations to public charities is the cornerstone of foundation giving, private foundations are entitled to make donations to other types of entities and even to individuals. For example, federal, state, and local governments are treated as the equivalent of a public charity if the donated funds are used strictly for charitable purposes. Private foundations may also provide scholarships and make grants directly to individuals for hardship, emergency assistance, and medical distress as long as they meet certain IRS criteria. Additionally, grants may be made to non-charities (e.g., a for-profit bakery that employs homeless individuals) if those funds are applied solely to charitable purposes, and the foundation adheres to IRS procedures for performing due diligence prior to the grant by entering into a grant agreement with special terms, and by exercising oversight over the expenditure of such funds. Foundation Source can assist clients in understanding these procedures and facilitate these grants.
IRS rules generally prohibit private foundations from making grants to political campaigns or to organizations that exist to influence legislation and voting.
Foundation Source’s online grants management system, Foundation Source Requests®, makes it easy to accept, organize, review, track, and reply to requests for funding. This optional service includes an online eligibility quiz to weed out inappropriate applicants, as well as online application, proposal, and correspondence management, activity tracking, preparation of grant checks and transmittal letters, customized reports, and more.
You can make grants quickly and easily through your secure, customized online platform provided by Foundation Source. Once you decide which charities will receive grants, we send a check with a grant letter to each charity, or directly to you for personal presentation. Your grant letters are scanned, posted, stored, and made accessible to anyone with viewing rights on your foundation’s online platform.
Foundation assets may be used for charitable purposes and certain administrative expenses. Annually, private foundations are required to distribute at least 5% of the previous year’s average net assets. Qualifying distributions from the foundation include grants to public charities, administrative expenses, and other costs related to carrying out the foundation’s charitable purpose (e.g., computers, office furniture, a building to house the foundation). Investment management fees, custodial fees, and board meeting expenses to oversee investments do not count toward the foundation’s minimum distribution requirement.
Subject to certain limitations, foundations may invest in nearly any type of asset (publicly traded securities, partnerships, closely held stock, hedge funds, etc.), and foundation members may follow any investment strategy they want as long as they follow prudent investor rules (i.e., don’t take extreme risks with those funds, diversify the assets, and invest the assets prudently).
In order to prevent the taxation of capital gains, dividends, and interest at for-profit tax rates, foundations should take care not to purchase investment assets using borrowed funds, such as with a margin account. Also, foundations considering an investment in a partnership similarly should first ask the partnership if it expects its exempt partners to recognize “unrelated business taxable income,” which likewise is taxed at for-profit income tax rates.
The IRS forbids using one’s position within the foundation for personal gain (“self-dealing”). Foundation insiders (“disqualified persons”) cannot transact with the foundation other than to make donations to it or, under limited circumstances, receive fair market value compensation for personal services.
Examples of self-dealing include:
- Purchasing items from or selling items to the foundation.
- Personal use of foundation assets or income.
- Borrowing money from the foundation.
- Retaining foundation assets (e.g., paintings) on private premises.
- Leasing space to or from the foundation.
- Using foundation assets to honor a personal pledge made by a disqualified person.
Generally, disqualified persons include: (i) a foundation’s officers, directors, trustees, and substantial contributors; (ii) individuals who own a significant stake in a company that is a substantial contributor; (iii) the family members of these individuals; and (iv) certain businesses partially or wholly owned by these individuals. Family members include a disqualified person’s spouse, ancestors (e.g., parents, grandparents), lineal descendants (e.g., children, grandchildren) and their spouses.
Generally, a foundation, together with its disqualified persons, collectively may own up to 20% of a family business without penalty. The IRS has established rules against excess business holdings to keep a private foundation from owning a more significant stake. We advise you to consult with your legal or tax advisor on any family business issues.
Because the IRS prohibits foundation insiders (“disqualified persons”) from engaging in transactions with the foundation, you can donate your family assets, but you can’t sell them to your foundation.
Yes, provided that these individuals are qualified for the position, the compensation is reasonable, and the foundation follows rules governing compensation to insiders. By appointing children or other family members as officers or directors, you will have the option of making the foundation business a family affair.
Although personal expenses cannot be paid or reimbursed by the foundation, reimbursement of foundation-related expenses (such as conference attendance, office supplies, travel to a board meeting, or hiring an expert) by insiders may be permitted, provided that the expenses are reasonable and necessary to carry out the foundation’s exempt purposes. Foundations that make expense reimbursements should adopt suitable policies and guideline.
Working with Foundation Source
When you work with Foundation Source you get all the capabilities and expertise of a professionally staffed foundation for a fraction of the cost.
We consider a number of factors when preparing a fee proposal:
- The depth and breadth of the foundation’s service needs.
- The size of the foundation’s endowment, which typically correlates to the volume and complexity of the foundation’s grantmaking activities.
- The types of assets held by the foundation, which may require additional compliance oversight and state and federal filings.
Once we understand these factors, we are able to detail service options and fees. If you would like a proposal outlining our services and fees, please call us at 800-839-0054.
Foundations that are set up as corporations have greater flexibility than those set up as trusts. A corporation’s governing instruments can be more readily altered to reflect changing circumstances and needs, and a corporation provides directors with greater protection from liability.
There are three main benefits to setting up a foundation as a Delaware corporation:
- Delaware has well-defined statutory provisions in place with respect to indemnification of officers and directors.
- The state allows for sole-director corporations. This means the founder may run the foundation as the only individual on the board of the foundation, if he or she chooses.
- Delaware allows annual meetings, which are required of all foundations, to be held via telephone or internet instead of in person. This convenience is important for many foundations—especially those with members who live far apart.
If your attorney would prefer to set up your foundation as a trust, or using a different state of incorporation, we can still provide our services once your foundation is established.
Yes. Foundation Source provides back-office, online, and advisory services to many of the nation’s top private foundations. Whether your foundation has been in existence for one, 10, or 100 years, we can lift administrative burdens, deepen family engagement, and provide new capabilities to magnify your philanthropic impact.
No, we do not provide financial advice nor do we manage or custody assets. Financial control rests entirely with you, your wealth advisor, and your financial institution(s). Our role is to take care of everything else you need to keep your foundation running smoothly and compliantly: grant processing and recordkeeping, tax preparation and filing, compliance oversight, and philanthropic advisory services.
Foundation Source does not provide financial, legal, or tax advice. We will work with the advisors you already know and trust. We take care of everything else required to keep your foundation running efficiently and effectively.
Foundation Source provides a secure, password-protected online platform for each foundation to access account balances, foundation documents, grant history, pending grants, year-to-date donations, and more. You’ll continue to receive your investment account statements from your financial institutions as well. Foundation Source holds all foundation data in the strictest confidence. Our systems, processes, and procedures are designed with privacy and security as primary considerations.