The Darker Side of Donor Advised Funds

Donor advised funds are a valuable tool in charitable giving, yet they present some real challenges to philanthropy.

Apr 26, 2014 at 11:00AM

Donor advised funds, or DAFs, can be a useful tool for donors to gain tax benefits and to accrue larger pots of charitable money for making more substantial gifts. They may also prompt donors to be more strategic and do more planning, especially if they want to engage family members in their philanthropy. But because of the flexible rules regulating DAFs, there is also a darker side to them that poses challenges to the philanthropic sector. Knowledge of this background can help DAF donors to use their funds skillfully.

DAFs allow for complete anonymity. Grants made from a DAF come from the sponsoring organization, which is not required to reveal the original donor's name. This might be appealing to people who want to practice humility, be discreet, or avoid communications from nonprofits. But this is not a good thing if people use DAFs to shield their identities and influence from public scrutiny when more transparency would be in the public's interest.

Dark Money

Source: Flickr user Jenifer Correa.

Anonymity also limits the ability of nonprofits to find and inform potential donors, like you. Let's say your favorite nonprofit gets a gift from a DAF through a sponsoring organization. Unless the donor voluntarily reveals his or her identity, the nonprofit has no idea whom to thank, engage, or inform about the impacts of its mission work. Meanwhile, as a donor, because your concern about the issue at hand is obvious, you might benefit from learning more about the problem and what is being done, if only to make more effective grants in the future.

Part of the reason for the growth of DAFs, particularly in the commercial sector, is that those sponsor organizations derive fee income from holding and managing these charitable funds, so they have financial incentives. My earlier Fool articles "Donor Advised Funds: The Basics and Benefits" and "How to Give Effectively With Donor-Advised Funds" talk about the different types of sponsor organizations, their fees, and their services. As a donor, consider these and other factors when choosing a DAF sponsor so that you find a good match for your values, resources, and service needs.

DAFs have become a significant segment of resources in the charitable sector. Their assets, particularly in commercial DAFs, are growing much faster than their allocations to nonprofits. This is partially due to the lack of any requirement by the IRS for DAFs to spend down by making grants. As a donor, you will have already gained the potential tax deduction, and an incentive to give charitably, in the year of funding the DAF. If you do not take time to make grants from the fund, it can be unproductive for charitable purposes -- potentially for years at a time.

Whatever the nature of your charitable concerns, they probably have some level of urgency -- e.g., the plight of the poor in a down economy, mortality from preventable diseases in the developing world, or environmental threats in our resource-intensive age. Having significant amounts of charitable money available but unused can prove tragic.

If you have a DAF or are considering one, you will need to allocate time and intelligence to identifying high-performing nonprofits, giving grants, and evaluating results. If lack of support is causing you to avoid this part of the process, consider talking to a philanthropy professional.

Donor advised funds can be a valuable tool in beneficent charitable giving. As a donor, you can use them most effectively if you choose the sponsor organization wisely, supporting those with exemplary granting requirements. You can also take pride in your donations and allow your favorite nonprofits to engage with you by revealing your name to them. And you can strengthen the causes you care about by making skillful and substantial gifts in a timely manner from your donor advised fund, all while gaining the tax benefits you may be seeking.

(Thanks to Alan Cantor, who is becoming famous for his incisive criticism of DAFs, for lending intelligence to this piece.)

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Jun 12, 2015 at 5:01PM

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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