Charity is a big business in the US. “More than 76,000 grant-making foundations base their headquarters in the United States…with assets of more than $621 billion and giving totals over $45 billion per annum….” 1 This sounds like a lot of money and it is. In fact, this sum is greater than the annual military budget of France. 2
Let’s look at this area of financial services.
If you have UHNW clients, they may ask you about setting up a foundation. There are two types of foundations: public and private. What makes them different is the source of funding and how the money is spent. Your UHNW clients would most likely establish a private foundation.
You will not be surprised to learn that with $40 billion, the Bill and Melinda Gates Foundation is the largest private foundation in the world. But you hardly need that much money to start one. The larger private foundations including the Gates Foundation, the Ford Foundation, and the Kellogg Foundation all make grants and fund specific projects overseen by their program officers. The Gates Foundation is spending huge sums of money fighting HIV in sub-Saharan Africa. While they work with governments and other stakeholders, they supervise how their money is being spent.
However, private foundations large and small also make grants to public charitable organizations to fund capital projects and programs. Hence, your UHNW clients could set up a private foundation which would only make grants to charities. This is common. In fact, unless they are quite large most private foundations only make grants to existing charitable organizations. They don’t set up their own programs.
Public foundations are typically organizations established to perform specific tasks for the public good. Some of these are large, such as the American Red Cross, and others are smaller, such as your local animal shelter. Unlike private foundations which make grants from their capital assets, public charities raise their funds from the public. For instance, you probably receive solicitations for contributions from organizations such as the American Red Cross because it is a public foundation, but you don’t receive solicitations for contributions from The Bill and Melinda Gates Foundation since it is a private foundation.
If your UHNW clients wish to establish their own private foundation, you need to be aware that the IRS is very keen on preventing donors from profiting from their donations. Let’s examine a few of the key points. According to the IRS: “Private foundations are more strictly regulated, and are subject to a number of anti-abuse rule and excise taxes that don’t apply to public charities.” 3
One of the big red flags to the IRS is anything they perceive as “private inurement.” This means that you put money in a foundation, deduct it, and then set things up in such a way that value inures to you or those close to you— “insiders” as the IRS refers to them. Example: you set up My Cool Surfer Foundation for At-Risk Youth and fund it with ten million dollars. You hire your daughter as Executive Director of the foundation and pay her $500,000 a year.
Since this compensation exceeds guidelines, the IRS would presumably consider this a violation of its “reasonable compensation” rule. Further, since she is your daughter, and meets the definition of “an insider,” the IRS would most likely consider this “private inurement.” It’s sort of common sense but some people don’t always employ common sense especially when it comes to money.
We are not accountants or attorneys at Cannon, so we are not giving accounting or legal advice. Your clients need to consult legal and tax professionals before establishing a private foundation since the paperwork and accounting can be onerous. If you have UHNW clients who are thinking about establishing a private foundation, you would do them a great service by pointing them to IRS website on foundations. Internal Revenue is very clear about what you can and cannot do and you ignore these rules at your peril.
In conclusion, allow us to mention that private foundations must annually file IRS Form 990-PF—Return of Private Foundation. This form discloses the names of the individuals who manage the foundation, and how they are paid plus the names and addresses of every organization which received money from the foundation. Your clients must understand that while their foundation might be private, and their names as the donors can remain private, the information on IRS Form 990 is not private like a Form 1040. It is a public document. Anyone has a legal right to examine it. And they will.
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Contributing Writer: Subject Matter Expert Charles McCain