November marks the tenth anniversary of Professor Ray Madoff’s New York Times op-ed calling for new rules that would accelerate grantmaking from donor-advised funds. Over the years since, as the amount of money in donor-advised funds has grown from $25 billion to $142 billion, the DAF industry has pushed back strongly against Madoff and other reformers, relying on a familiar set of arguments to justify the status quo.
These assertions have long rung hollow. Now, thanks to research that has come to light in the last few months, it’s increasingly evident that the talking points of the DAF industry are utterly without merit.
Here are some of the most common assertions from donor-advised fund advocates, along with the data-based refutation of each these talking points.
“Why is there so much concern about inactive donor-advised funds? Nearly all DAFs make grants regularly!” A recent report from the Michigan Council on Foundations shows how that’s simply not true. In fact, the proportion of funds that are inactive may be larger than even the harshest critics have suggested.
The Michigan study – drawing from more than 2,000 funds held at community foundations across the state – is the first major report that has looked at DAFs on an account-by-account basis. The study shows that in 2020 fully 35 percent of donor-advised funds held by Michigan community foundations did not distribute a single penny to working charities. This is all the more stunning given that 2020 was arguably the year of greatest charitable need in generations.
The report narrative picks and chooses among its many findings to amplify those favorable to DAFs, but this core fact is damning: In the midst of the greatest combination of public health, economic, and racial justice crises in our lifetime, more than a third of DAF holders did not make a single grant.
“DAFs are the charitable world’s ‘rainy day fund.’ When times are bad, donor-advised funds provide a reservoir of charitable capital.” Again, look at the Michigan report. Last year was the definitive rainy day for America. Not only did 35 percent of DAFs distribute nothing at all, but 57 percent of Michigan DAFs distributed less than 5 percent.
Meanwhile the report crows about how the Michigan DAFs gave 18 percent more dollars in 2020 than in 2019, claiming this is proof that donors responded to the special challenges of 2020. More likely, the rise in giving is because the funds had grown considerably between the two years. The start-of-year assets in 2020 were 19 percent larger than the year before, so an 18 percent increase is DAF grantmaking dollars actually represents a decrease in giving as a percentage of available assets. Donors did not rise to the occasion.
“Donor-advised funds have created more charitable giving!” Well, no, they haven’t. If donor-advised funds were causing more people to give to charity, then in the last three decades, as donor-advised funds have boomed, we would have seen an increase in overall charitable giving. That hasn’t happened. According to Giving USA™, charitable giving has remained utterly consistent for the last four decades. Americans contribute to charity at the rate of 2 percent of disposable income, with slight variations from year to year. The rise in giving to donor-advised funds has meant that a larger share of the pie is not going to working charities but is instead going to DAFs. As for overall giving to charity? There’s been no movement relative to our economic capacity.
In fact, an argument can be made – and it has been, most persuasively – that the increased giving to donor-advised funds is resulting in significantly less money flowing to working charities. A May 2021 report by Ray Madoff and James Andreoni spells out the utterly changed charitable landscape in the last thirty years. In the years from 1987 to 1991 – that is, the period immediately before the introduction of commercial donor-advised funds – only six percent of charitable gifts went to intermediaries, defined by the authors as foundations and donor-advised funds. By contrast, by 2014 to 2018 the portion of charitable giving going to intermediary organizations had jumped to 27 percent. This means that the portion of charitable giving going to donor-advised funds and foundations had risen a stunning 460 percent. And do note that the Madoff/Andreoni study accounts for gifts both to and from intermediaries.
Madoff and Andreoni estimate that the net loss for working charities over a five-year period is $300 billion. This is a lot less money to charity. It surely doesn’t add up to more.
“Concerns about payout from DAFs is misplaced! In fact, more money is flowing out from donor-advised funds than is going in!” This is the specious “flow rate” argument, which I worked to pierce in 2019 opinion piece in the Chronicle of Philanthropy, and that Madoff and Andreoni do with greater authority and precision in their October 2020 paper, “Calculating DAF Payout and What We Learn When We Do It Correctly.” Of course, lots of money flows from DAFs because – like water from a large reservoir – there’s so much accumulated capital that it produces a lot of grantmaking dollars. But flow rate is essentially meaningless. Madoff and Andreoni propose that the measure that’s actually worth studying is what they call the “stockpiling rate,” which shows how much charitable money is being warehoused in DAFs. The flow rate concept, by contrast, is all smoke, mirrors, and misdirection.
“The payout rate from DAFs is much higher than from private foundations! Why is everyone so focused on donor-advised funds?” It’s important to make it clear that this is an apples-to-oranges comparison, as foundations are subject to required payout rates, greater transparency, and less-favorable charitable deduction rules than donor-advised funds. DAFs on the other hand are taking advantage of preferential tax rules intended only to apply to outright gifts to public charities. Moreover, if payout rates at foundations are low, and they are, that does not justify low payout rates at DAFs.
But the real rebuttal to this talking point is three-fold. First, the aggregated spending rates for donor-advised fund sponsors and the industry ignore the fact that many individual DAFs, as noted above, are distributing very little or nothing at all. Averages can be misleading. Some fund donors distribute nearly all their account balances in a given year, and some distribute nothing at all. The most generous donors hugely amplify the average distribution.
Second, going back to the Michigan study, researchers found that the median payout rate in 2018 – that is, the distribution rate from the donor-advised fund that was exactly in the middle of the pack – was only 3.1 percent, an embarrassingly low number, and far less than that of private foundations. That year was not an aberration, as the Michigan study shows that for all four years of the study the median payout was never higher than 3.8%
Third, these payout calculations are subject to significant overstatement because they include distributions to other DAFs. There are many reasons donors move their accounts from one DAF sponsor to another—particularly since DAF sponsors vary considerably in terms of fees and investment opportunities. The full extent of these DAF-to-DAF distributions is impossible to capture under current reporting rules, but some insight can be gleaned by a 2017 article in The Economist that looked at all distributions by the three largest commercial DAF sponsors (Fidelity , Schwab and Vanguard) and found that the largest recipient of donor-advised fund distributions was Fidelity Charitable.
“DAFs democratize philanthropy!” This is a clever talking point, but it is meaningless at best.
Everyone who donates anything to charity is being philanthropic. Donors don’t need a fund or a foundation as an intermediary for giving money away. What the DAF industry is really saying is, “Donor-advised funds give people without the means to set up a private foundation the ability to create a philanthropic grantmaking entity in their names.” Does that “democratize philanthropy,” especially at a time or hugely widening wealth disparity? No.
Moreover, the DAF industry is not at all focused on small donors. While it’s true that middle-class Americans can set up a DAF for as little as $10,000 or even $5,000, the National Philanthropic Trust reports that the average DAF is $162,000. The typical middle-class family obviously is not capable of dropping $162,000 into a DAF account.
And, in fact, the average donor-advised fund is nearly $300,000. As Dan Petegorsky explains in Inside Philanthropy, the $162,000 figure (which in itself is hardly modest) arose because of hundreds of thousands of small workplace accounts administered through the American Online Giving Foundation. These workplace DAFs function more as tiny pass-through funds than as traditional donor-advised funds. When you subtract those workplace accounts, which really are anomalies in DAF World, the average donor-advised fund size nearly doubles.
Regardless of the accounting, in practice DAFs are overwhelmingly the province of the very wealthy. James Andreoni put it succinctly in his 2017 paper, “The Benefits and Costs of Donor Advised Funds”: “Donor Advised Funds are clearly a financial instrument that, when measured by dollars that pass through them, are used primarily by people at the very tops of the wealth and income distributions.”
“Suggestions to regulate DAFs are a solution in search of a problem.” In fact, there is indeed a problem.
Rather than putting forth platitudes about rainy days and democratizing philanthropy, DAF advocates should work with reformers and legislators to keep what’s best about donor-advised funds and fix what’s broken. What’s good is that DAFs offer donors a way to convert capital gains and other windfalls into charitable capital, and to do so without the expense and bureaucracy of creating a foundation or the challenge of rushing to distribute all the funds to charity before year’s end.
What’s bad is that DAFs as currently structured offer no incentive for donors to distribute the funds to actual working charities. The money is, indeed, piling up, and funds sitting in DAF accounts provide nothing for the community. DAFs also feature a total lack of transparency. This is why the Michigan report, which gives a glimpse of the what’s happening behind the DAF curtain, is so revealing.
Meanwhile, the utter flexibility of DAFs from the donor perspective, combined with financial incentives to financial advisors (who often draw fees from funds contributed to DAFs), means that more and more money is going into this underregulated and problematic vehicle.
Current proposed legislation by Senators Charles Grassley and Angus King, which would mandate that donor-advised funds either be spent down in fifteen years or that the donors’ charitable deduction be deferred until the time the funds are granted to charity, would go a long way toward curing the problems. DAF sponsors are pushing back because it would cause inconvenience to their wealthy donors and to themselves. But if the legislation were to pass, there would be enormous benefit to society and to the charities DAF sponsors say they want to support. And that’s not just a talking point. That’s a fact.
Copyright Alan Cantor 2021. All rights reserved.