Fortunately for the good of humanity, some of the wealthiest people are philanthropists. You may have heard of the Bill & Melinda Gates Foundation, which aims to enhance health care and reduce poverty, or the Ford Foundation, which has a mission to advance human welfare. Locally, you may be familiar with the Arthur M. Blank Foundation, which promotes childhood development, education, green space, community transformation and the arts. Private foundations like these provide an excellent way for an ultra-wealthy family to leave a charitable legacy for several generations to come.
Family foundations are legal entities, usually organized as a trust or nonprofit corporation, but they are not public charities, nor do they engage in charitable services by themselves. Rather private family foundations are created by an individual, a family or business, then funded by the family’s wealth. The foundation bestows grants to individuals or organizations that support the foundation’s mission. Because of a foundation’s charitable mission, they are given the same tax-exempt status as Section 501(c)(3) public charities. Private foundations have more latitude when deciding which charities or causes to fund. Under certain restrictions, they are allowed to give to individuals and to for-profit entities for charitable purposes.
The main advantage in establishing a legacy such as a family foundation is that the family controls how contributions are invested and how grants are made. Furthermore, foundations can last in perpetuity and bind several generations of a family together around a meaningful cause. Donors receive an immediate income tax deduction for contributions of money or appreciated property in the year they contribute to the foundation. Like other charitable donations, donors can avoid capital gains tax on contributions of appreciated property. This also allows a family to reduce their taxable estate.
Foundations are considered “non-operational” when their main effort is focused on giving grants, or “operational” when they mainly run charitable programs. This classification is determined annually by reviewing the foundation’s use of income and assets over the past four years. This distinction is important, as it affects the deductibility of contributions. Cash donations to a non-operational private foundation are deductible up to 30% of the donor’s adjusted gross income, while gifts of appreciated stock and real estate may be deductible up to 20% of adjusted gross income. Gifts to operating private foundations are deductible up to 50% of AGI for cash and up to 30% of a donor’s AGI for appreciated stocks.
Annually, foundations are required to pay out 5% of the foundation’s net assets that are not used to operate the foundation. While there is no set dollar amount, it is generally suggested that donors contribute enough capital to generate a minimum of $25,000 for grants annually.
Despite all the good private foundations provide, they do come with a downside: They must adhere to very strict rules outlined in the Internal Revenue Code, and any violations could result in taxes and harsh penalties. Foundations must also pay a 2% annual excise tax net investment income, including interest, dividends, capital gains, rents and royalties, reduced by applicable expenses. The IRS also imposes stringent rules regarding a foundation’s investment style, reporting requirements, required annual distribution amounts, transactions with disqualified persons, and how much stock a foundation can own of any one single company.
Overall, private family foundations provide maximum control over charitable dollars for ultra-wealthy and high-net-worth individuals who can make contributions that are large enough to justify the costs of operating a nonprofit corporation. If you would like to determine if a private family foundation is suitable for your family’s philanthropic legacy, the experts at Henssler Financial will be glad to help:
- Experts Request Form
- Email: experts@henssler.com
- Phone: 770-429-9166.
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