Private Foundations 101

What are the benefits — and drawbacks — of private foundations?  

According to the Council on Foundations, “private foundation” is the umbrella term that includes corporate, independent, family and operating foundations. These independent legal entities make grants from their charitable endowments, which consist of funds coming from one or a small list of sources — an individual, a family, or a company.

The fund is managed by the foundation’s own appointed trustees or directors. Like public charities, a private foundation is classified as a tax-exempt 501(c)(3) organization by the IRS. Unlike public charities, however, a private foundation does not raise funds or seek financial support from the public. Some of the most well-known U.S. private foundations are The Bill and Melinda Gates Foundation, Ford Foundation, and The Rockefeller Foundation. 

Many people consider opening private foundations to engage their families or businesses in philanthropy and support important community initiatives.

The two types of private foundations are:

  1. Private Operating Foundations: Operating foundations are private foundations that use the bulk of their income to provide charitable services or to run charitable programs of their own. They make few, if any, grants to outside organizations.
  2. Private Non-Operating Foundations: The more common type of private foundation is the non-operating foundation. These entities generally serve their charitable purpose by granting to other nonprofit organizations.

What are the Benefits of Private Foundations?

There are benefits to establishing a private foundation. Because a private foundation stays under your control, you determine:

  • Your foundation’s mission and branding;
  • Who sits on the Board;
  • Where funds are invested; and
  • Who receives the funds when they're distributed.

Your private foundation can also be part of your family’s legacy and encourage generational giving. Private family foundations are commonly used to achieve family giving goals and jumpstart multi-generational giving. Private family foundations are private foundations set up, funded, and governed by families who make grants from their charitable endowments. They can be funded with cash, non-cash, or other family-controlled assets. A family governance system identifies who participates in giving priorities, grant recommendations, foundation goals and mission and ways to educate and incorporate younger family members over time.

However, starting a private foundation can be harder than it looks. It requires exhaustive time and resources, not to mention the magic ingredient of expertise to ensure all legal requirements are met. While you may maintain complete control over branding and investments with a private foundation, you are also subject to IRS requirements, must research and secure your own investment vehicles, and are burdened with startup costs, taxes and administration fees.

Many individuals, families and companies have found that even though they have managed to get their private foundation off the ground, maintenance costs are prohibitive. Resources can be quickly and significantly diluted by overhead and red tape. 

While there are advantages to a private foundation, there are other ways to achieve similar results.

Often, those who consider starting private foundations to establish a family legacy and encourage generational giving find Donor Advised Funds are a better way to achieve similar ends.

A Valuable Alternative: Donor Advised Funds

If you’re considering starting a private foundation, you may want to consider pressing the “easy” button instead and opt for a Donor Advised Fund, which allows you to give as though you are running a private foundation but provides greater tax benefits and no administrative burden.

A Donor Advised Fund is simple and tax-efficient. You contribute assets to the fund, take an immediate tax deduction, then support your preferred community initiatives or nonprofit organizations when you're ready.

Donor Advised Funds give you almost all the benefits of a private foundation without the administrative burden, including the ability to determine exactly how your individual program is structured and to recommend all grants to the nonprofit of your choice. Opening a Donor Advised Fund requires less cost when compared to the startup and ongoing expenses of a private foundation.

Charitable sponsors, like the Sacramento Region Community Foundation, manage all of the heavy lifting for the Donor Advised Fund so your family can focus discussions on more important matters, like your philanthropic mission and grantmaking efforts, as illustrated in the chart below and more comprehensively in this PDF.

  Donor Advised Fund at a Community Foundation Private Foundation
Support public charities in the United States

Growth potential

Income tax deduction

Accept donation of non-cash items

Ability to name successors

No startup costs

 No annual taxes

No annual 5% payout required

Grant and admin services

Anonymous granting option

Fees re-invested in our community

Network with other philanthropists 

Personalized service and recommendations

Opening a Donor Advised Fund is easier and faster than establishing a private foundation. Also, it costs less when compared to the startup and ongoing expenses. For example, your can open a Donor Advised Fund through the Sacramento Region Community Foundation for as little as $10,000 – whereas a private foundation can easily run twice that much per year, or more. Also, donors can deduct their Donor Advised Fund gift(s) up to 60% of their adjusted gross income compared to just 30% of a private foundation gift.

Other benefits involve privacy and peace of mind.

When you open a Donor Advised Fund, you do not need to worry about navigating compensation rules, expenses, grant expenditure responsibility, tax filings, or any possibility of inadvertent self-dealing. Due to these benefits, many funds at the Sacramento Region Community Foundation were originally private family foundations before families decided to simplify their lives by transferring assets to a Donor Advised Fund.

Surang Robinson moved the Malcolm W. Robinson Foundation to the Sacramento Region Community Foundation so she could focus on supporting her husband’s legacy, rather than dealing with the complexities of maintaining a private foundation.

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For many, the Sacramento Region Community Foundation’s deep understanding of the capital area’s diverse regional challenges and the nonprofits working to address them is attractive and useful in helping shape charitable giving programs.

While private foundations are powerful giving vehicles, they may not be the most beneficial strategy to accomplish your goals. Interested in learning how Donor Advised Funds could be an alternative to a private foundation for you, your family or your company? Please contact us to learn more.

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The information provided here is general and educational in nature, and should not be construed as legal or tax advice. Always consult an attorney or tax professional regarding your specific situation.

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