Donor Advised Funds for Businesses

While a large part of the conversation around donor advised funds focuses on individuals, donor advised funds also can be great tools for businesses that are looking for more flexible, cost-effective alternatives to establishing a private foundation.

Here is how a donor advised fund works when used by a business to build an effective and sustainable giving program:

1. How does a business create a donor advised fund?

Donor advised funds are created the same way, whether they are established by a business or an individual. The business establishes the fund by irrevocably transferring assets to the organization acting as the fund sponsor. When it transfers the assets, the business receives a tax deduction.

Who claims this tax deduction depends on how the business is taxed. If the business is taxed as a C corporation, it pays tax on its profits at the entity level. If the business is taxed as an S corporation or a partnership, business income and losses flow directly to the owners’ personal tax returns and the owners pay tax at the individual level.

Therefore, if the business is taxed as a C corporation, it will use its charitable deduction to offset the income tax it pays. If the business is taxed as an S corporation or a partnership, it will pass the charitable deduction through to its shareholders or partners, who will then be eligible to claim their share of the deduction on their personal tax returns (subject to certain basis limitation rules).

 2. How are these donor advised funds managed?

Donor advised funds created by a business function in the same way as those created by individuals. After the business establishes the donor advised fund, the fund sponsor handles the fund’s administration, including any required compliance and reporting obligations. The business can advise the fund sponsor on which nonprofits it would like to receive distributions from the fund, with the fund sponsor having ultimate authority to make distribution decisions.

3. How does a business benefit from establishing a donor advised fund?

Donor advised funds can provide businesses with a variety of benefits:

• Tax efficiency: Donor advised funds help businesses better align their charitable giving with their income, while allowing them to make annual, sustainable grants to nonprofit organizations. (If the business’s fund is structured as an endowment, it may be subject to limits on how much can be distributed from the fund each year, which allows the fund to grow in perpetuity.)
• Increased deductions: Since many fund sponsors are classified as public charities for tax purposes, businesses will typically receive a larger tax deduction for contribution of appreciated assets to a fund sponsor than they would for contributing those assets to a private foundation. For example, businesses donating real estate or closely held stock held for more than 12 months to a donor advised fund are eligible to receive a tax deduction equal to the stock’s fair market value. Donating that same stock to a private foundation would make the business eligible for a tax deduction limited to the lower of its cost basis or its fair market value.
• Administrative efficiency: Unlike a private foundation, which involves creating a separate legal entity, selecting a board, preparing separate tax returns, and navigating private foundation excise tax rules, establishing a donor advised fund requires little administration on the part of the fundholder. As mentioned above, the fund sponsor assumes most of the administrative, compliance and reporting work.
• Flexibility in recommending distributions: Donor advised funds provide businesses with the opportunity to recommend distributions to a wide variety of nonprofit organizations (generally, any organization that has 501(c)(3) status). This flexibility allows businesses to involve employees in the giving process by encouraging them to nominate nonprofit organizations that are meaningful to them to receive distributions from the fund.
• Demonstrating a commitment to philanthropy: By creating a donor advised fund, a business can demonstrate its commitment to philanthropy while avoiding the additional time and expense required to create and administer a private foundation. The business can give the fund a meaningful name and even draft a fund purpose statement outlining the types of activities the fund will support.