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George F. Bearup, J.D. Senior Legal Trust Advisor

July 6, 2023

Donor Advised Funds

Take-Away: Charitable giving through donor advised funds (DAFs) is on the rise. However, as studies are completed and statistics compiled with regard to the role of DAFs in philanthropy, there is a good chance that Congress will act soon (as in 2023) to force distributions from a DAF to charities at a much more rapid pace than is historically the case, i.e. a trade-off for the immediate income tax charitable deduction will be a required faster distribution to charities from the funded DAF.

Background: Donor advised funds (DAFs) are conduits for charitable giving that support immediate federal income tax deductions while creating a pool of funds for subsequent disposition of those contributed funds to charities. Since the 2017 Tax Act,  the number of DAFs has grown exponentially nationwide. The 2017 Tax Act seems to have  promoted the bunching of charitable contributions into a single income tax year, due to the increase in the size of the 2017-enhanced available federal income tax standard deduction, which in turn has accelerated the use of DAFs as a bunching mechanism for philanthropy.

DAF Criticism: In the past few years DAFs have attracted some public policy criticism since a donor’s contributions to a DAF provides an immediate income tax deduction, yet the contributed funds can accumulate for years inside the DAF before they are ultimately distributed to charities. Some in Congress want to take a closer look at DAFs because of their negative impact on the public fisc. Does the immediate income tax deduction that is available to the donor for a contribution to a DAF justify the delayed  benefit the public is expected to derive from a distribution from the DAF? Restated, is the federal government required to subsidize a charity, arguably for years, before the ultimate DAF distribution to that charity? This has triggered some proposed legislative reforms to DAFs, principally limiting the income tax deduction to a limited amount of the donation tied to the duration the funds remain in the DAF before they are distributed. Those proposed reforms did not get much attention in an election year, but Committees in Congress have promised to hold hearings in 2023 with regard to the dreaded word reform.

National Philanthropic Trust: This organization recently published its 2022 DAF Report. The Report provides a ‘snapshot’ of the level of popularity of DAFs today along with some interesting DAF statistics.

  1. DAF donors granted charitable gifts at historic levels. In 2021, the grants from DAFs totaled $45.74 billion nationally, which is a 28.2% increase from 2020.
  2. The average DAF grant payout rate was 27.3%, the highest grant payout rate ever. The 10-year average DAF payout rate is 22.2%.
  3. No surprise, as charitable assets held in DAFs increased apace with the stock market surge, donors made more contributions of stock than ever before to their DAF.

California Attorney General Report: The California Attorney General issued a Report on its audit of DAF sponsors registered in California. Drilling down a bit deeper into DAFs and how they function, this Report made the following findings of California DAF sponsors:

  1. The average growth in California DAF assets was above 20%.
  2. Commercial DAFs saw the most growth in DAF dollars, exceeding $20 billion in contributions and $75 billion in year-end DAF assets.
  3. The growth in commercial DAFs was fueled by donations of equity securities, with equities representing between 50% and 65% of donations received each year by all DAFs.
  4. DAF grants payouts  increased across all sponsor types and locations, with the exception of community foundations where DAF payouts remained somewhat flat.
  5. 20% of DAFs payout out less than 5% of a DAF account balance in a given year.
  6. On average, 32% of DAFs in commercial sponsors, and 42% in DAFs in community foundations, paid out less than 5% annually.
  7. DAF-to-DAF transfers accounted for 10.8% of all DAF grants. There was an increase in payout and fund flow rates due to DAF-to-DAF transfers, most prominently among community foundations, with DAF-to-DAF transfers representing 17.8% of all grants made by community foundations.
  8. Private foundation distributions account for 5.3% of all contributions received by DAFs. For commercial sponsors, private foundation contributions represented 3.1% of all contributions. For mission based sponsors and community foundations, the contribution rate was higher, making up 9.2% and 12.2% respectively of all contributions received.

Conclusion: If the California Audit Report is accurate, it will provide fuel to those in Congress who believe that the payout rate from a DAF to charity (5%) is not commensurate with the present income tax deduction that the donor to the DAF is able to claim (which could shelter as much as 37% of the donor’s taxable income for the year in which the DAF contribution is made. I think it is fair to say that we can expect some legislative limits on present income tax deductions to DAFs if distributions from a DAF are no more than 5% in a year. It is something that needs to be watched once the new Congress is in session in 2023.