Donor advised funds are exploding in popularity! Fintech has played a key role in this, allowing any charitable person to set up a DAF quickly and easily, and with relatively little money.
In this post we’re going to run through all the pros and cons of donor advised funds. And perhaps it’ll help you decide if setting up a DAF is right for you. We’ll also cover some FAQ, including the best places to set up a fund.
First, let’s do a quick review of what a donor advised fund is and how they work…
What is a Donor Advised Fund?
It’s basically a non-profit middle man, managing the money between the people who give donations and the charities who receive them.
Anyone can give to a donor advised fund, and any charity can benefit from the distributions (aka grants). The main difference between using a DAF for charity giving is advisor control. You as the fund advisor get to decide when, where, and how the money (or assets) are managed and how and when grants are disbursed.
How Do Donor Advised Funds Work?
It all starts with donors giving money or assets to a fund. People can donate cash, stocks/bonds, cryptocurrency, and in some cases real estate or private business equity to donor advised funds.
In return for the donation, givers may claim tax benefits at the time of donation.
Next, the assets sit inside the fund and grow. There are no time restrictions, and all growth inside a donor advised fund is tax free.
Lastly, the advisor recommends grants to eligible charities. Money is then distributed to the charities and the giving process is complete.
As you can see, the donor advised fund provides a lot of flexibility. It can accept donations slowly over a long period of time, then disperse them in a lump sum. Or it can get a single large influx of money and make small grants over a long time. The choice is yours on how you want to manage the giving lifecycle.
The Pros of Donor Advised Funds
You might be thinking, “isn’t it just easier to give to charity directly? Why go through the hassle of setting up a fund?”
Well, there are several awesome benefits of donor advised funds…
1. An Immediate Tax Deduction
Just like regular charitable giving, you can claim donations as a tax deduction. But, since donor advised funds let you hold and invest assets, you don’t need to assign money to a charity right away. You can claim tax benefits upfront, but do your giving in future years.
Another unique tax benefit is donating assets that have unrealized capital gains. For example, if you purchased stocks many years ago for $50,000, and they have now grown to $100,000 in value, you can donate those stocks as an in-kind transfer. This passes through the tax basis to the donor advised fund (which is taxed at 0%) instead of you realizing capital gains personally.
2. Flexibility in timing and amount of donations
As mentioned earlier, you as the fund advisor get to decide when and how money is given.
For example, let’s say you receive a large inheritance and decide to donate $100,000 of it to charity. You place the money in a donor advised fund, and invest it in index funds. Then, over the next 30 years, you give away $5,000 per year to causes you care about. Having the money invested (and growing in value) means you are able to give far more than your original donation amount. Your DAF just helped you become more generous than you otherwise could have been!
Donor advised funds do not have a minimum distribution requirement like other charitable foundations. So, if you wanted to, you could let your fund sit untouched for many years, growing those donations into a very large philanthropic pile.
3. Ability to grow charitable assets tax-free
Any assets you donate to a donor advised fund grow tax free. The earlier you start donating and investing money, the bigger your donations will grow.
This gives a huge incentive for people to donate now, vs waiting until later in life.
4. Donor retains control over investments
Donor advised fund sponsors have various investment options at their disposal. As the manager of your own fund, you get to pick the type of assets the money is invested in.
For people who want to give over longer periods of time, they might be best suited to long term growth investments with higher risk. If that money is planned to be used in the short term, a less risky investment choice is likely better.
5. Helps with generational estate planning
A donor advised fund helps you establish a legacy of giving. Your children or heirs can be named as advisors for the fund and continue your giving mission long after you pass away.
Not to mention, giving is contagious… Setting an example for the next generation may encourage them to follow suit!
The Cons of Donor Advised Funds
Before you rush out and open your own donor advised fund, you should also beware of the drawbacks. Here are a few to think about…
1. Investment options are kind of limited
Depending on the financial platform you choose to set up your fund with, you may have limited investment options. Even some of the largest sponsors like Fidelity Charitable or Vanguard Charitable only have a small selection of mixed stock/bond funds to choose from.
Depending on your investment preference and timeframe, this could be frustrating. Before setting up a donor advised fund, it’s important to investigate all the options that a sponsor has available. Not all DAF organizations are equal.
2. Account and fund fees
There are a couple of sneaky fees to watch out for when setting up a donor advised fund.
First is an annual account fee. Some sponsors charge a low, flat fee. Like Daffy – they offer DAFs for as little as $3 per month! Others charge a percentage of your account balance. Like Schwab Charitable which charges 0.6% of your account balance. Ouch!
Next is the fund fees. Like any mutual fund, there’s a management cost which is based on a percentage of your fund balance. Index funds with some providers can be as low as .02%. Some are as high as a 1.5% management fee!
Sadly, the more fees you end up paying, the less money goes to charity! So it’s REALLY important to choose a low-fee provider.
3. You cannot revoke donations
Giving is a one-way street! Once you’ve contributed to a donor advised fund, the only way money is released is when it’s granted to an eligible charity. Donors are not allowed to personally take money out of those funds.
A donor advised fund can feel a bit like a brokerage account, because you’re in charge of assets growing over time. But it’s important to remember the primary goal of a DAF – giving.
4. Unwise investments can lessen donation impact
Investing always comes with some level of risk. But some funds carry a higher risk than others.
During bear markets when stocks and bond prices are falling, the size of your donor advised fund can shrink considerably. This is sad, because that’s typically when charities need grants the most!
Assets inside donor advised funds should be invested wisely, matched to the risk and timeline of the donors giving plan.
FAQ about Donor Advised Funds:
Here are some of the most common questions folks have about donor advised funds…
Can I contribute to someone else’s DAF?
Yep! You can even open up your DAF to family and friends so they can contribute to yours. Actually, it’s a great gift idea during the holidays. Instead of everyone buying gifts, perhaps your family can all contribute money to your donor advised fund for charity.
Best places to set up a donor advised fund?
Some of the biggest brokerage frims like Fidelity, Schwab, and Vanguard all have a charitable arm. The downside of these larger firms is their administration and account fees.
Personally, I use Daffy. They have the lowest fees, slickest interface, and also encourage community involvement.
Why are donor advised funds becoming so popular?
Donor advised funds have the tax benefits and flexibility of private foundations, without the administrative overhead costs. And thanks to modern fintech companies, anyone can set up a DAF and fund quickly, easily, and with as little as $1!
Can you take money out of a DAF?
Nope! The only way funds are distributed is when the advisor of the fund recommends grants to charities. You should thoroughly vet all charities you plan to give to, making sure your dollars have the most impact!!
Is there a minimum distribution amount for my DAF?
Unlike private foundations (they require distributions to be paid out each year), donor advised funds have no minimum distribution amount. So you can keep assets inside a DAF, invested for many years without making any grants.
The downside of “hoarding” charity money is that charities need funds – now. As a fund owner, the goal is to strike a balance between investing for the long haul, while also continuing to make grants and distribute money to charity over time.
Is a Donor Advised Fund Right for You?
Whether or not a donor advised fund is right for you depends on your individual circumstances. Do you want more control of when, where, and how you give money? Do you want to establish a legacy of giving and manage a portfolio of donations?
If you’re considering opening an account for charitable giving, definitely weigh the pros and cons of donor advised funds carefully. Also, be sure to research all the providers so you can establish a good long term relationship the one that’s right for you.
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