What is a Donor-advised Fund?

Kuku Afanga • Jul 15, 2022

A donor-advised fund (DAF) is a type of donation made by individuals and companies, to nonprofit organizations through public charities. According to the Stanford Social Innovation Review, there are over 500,000 individual DAFs across the United States alone, managing assets worth more than $100 billion. So, donor-advised funds are fast becoming a reliable vehicle for donations to charitable and nonprofit organizations.

These donations could be in form of cash, stock, real estate, etc. A public charity manages and makes donations on behalf of a donor or group of donors. It administers the fund and ensures that specific nonprofits, or nonprofits within specific cause areas, receive donations. The choice of nonprofit or cause area is down to the donors.

Donor-advised funds are often used by donors who are yet to decide on a specific nonprofit to support or cause area to contribute towards. They can set up their DAFs with these public charities, and allow them to grow while enjoying immediate tax-free benefits until they are ready to decide what organizations to support. When they have made their decision, the public charity will disburse grants in favor of the donor’s chosen nonprofit.

Nonprofits, especially those who would have otherwise been unable to receive non-cash donations, and other complex assets, tend to use DAFs as a giving vehicle. This allows them to benefit from non-cash donations like real estate properties. For example, they can auction or sell these properties, showcasing them with the help of a real estate catalogue design tool, to attract buyers and boost their revenue. The donor-advised fund, therefore, maximizes the nonprofit’s ability to have multiple streams of fundraising revenue.

4 Key Benefits of Donor-advised Funds for Nonprofits

1. Offers an additional source of fundraising revenue

Receiving contributions from donor-advised funds gives nonprofits the opportunity to add a new source of fundraising revenue to their organization. It particularly allows them to accept complex, non-cash donations over a long period.

When a donor sets up a donor-advised fund with a public charity and receives tax deductions, these assets and investments cannot be revoked. This means as the assets and investments donated flourish under the management of the public charity, the nonprofit is can continue to receive grants from the funds.

2. Acts as Legacy gifts for nonprofits

The donor-advised fund often allows for succession from parents to children and grandchildren as fund advisors. However, in the case where there is no succession plan at the time of the donor’s death, the public charity will continue to provide grants to the non-profits. Therefore, donations received from DAFs outlast the lives of the donors and may act as legacy gifts for the nonprofit.

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3. Helps nonprofits to develop new, long-term donor relationships

Nonprofits have a chance to attract and develop long-term relationships with new donors when they receive grants from donor-advised funds. Donors who contribute to causes through donor-advised funds tend to be loyal to the organization that receives the grants; they may also decide to volunteer with that organization.

4. Encourages donors to increase gift size

Considering the streamlined process for making contributions through donor-advised funds, donors may decide to increase their gifts from time to time. This could significantly boost the lifetime value of donors for the nonprofits and contribute to the long-term, sustained growth of the organization.

What is the difference between donor-advised funds and private foundations?

Although donor-advised funds and private foundations are both excellent charitable giving vehicles, they are distinct from one another in terms of setup and management.

With donor-advised funds, donors have to work with a public charity, or the sponsoring organization, that will manage their donations, as an investment, and distribute them to select nonprofits. An example of a public charity is the National Philanthropic Trust, which promises less administrative burden for donors looking to make significant contributions to nonprofits.

On the other hand, private foundations are set up by a donor (e.g., a company, individual, or family) to manage and distribute a portion of the donors’ financial assets to nonprofits or charitable causes. The Bill and Melinda Foundation is a great example of a private foundation, which works to distribute Gates’ assets as funds and grants to nonprofits and charities worldwide.

One major difference between the two is that while private foundations may enjoy significant tax deductions, they don’t receive tax-free benefits like donor-advised funds. Additionally, donor-advised funds do not require the same level of overhead, operating, and administrative costs that private foundations often have to bear.

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How do donor-advised funds work?

1. Donors choose to give via Donor-Advised Funds

Setting up a donor-advised fund begins with the donor’s decision to be involved in philanthropic activities. These individuals or companies may not readily know which nonprofit to support but are most likely to set up a donor-advised fund for charity if:

They experience a significant business boom in a given year.
There is a need for an income tax deduction in a given year.
They desire professional advisory and management services to address their philanthropic pursuits.
They are yet to decide on the nonprofit or cause to support.

2. The donor decides on the assets to donate, and the public charity of choice

The next step is for the donors to decide on what assets to contribute, bearing in mind that the assets and investments donated are irrevocable. When the donors have made this decision, they must then proceed to choose a public charity that has set up donor-advised funds.

3. The donor-advised fund account is set up by the public charity

The donor then invests in the options provided by the public charity. As soon as the public charity successfully sets up a donor-advised fund account for the donor, the donor is entitled to receive an immediate tax deduction.

These tax deductions allow for more funding to be available to the nonprofit(s) the donor chooses to support. It is worth mentioning that the tax deductions rendered exclude the donor from enjoying direct or indirect benefits from the grant made to the nonprofit from the donor-advised fund.

4. The personalization of the donor-advised fund accounts

Donors to donor-advised fund accounts can personalize their accounts. This means they are in a position to specify how the grants realized from their donated investments and assets are structured and disbursed.

The donors can also advise the public charities on the investment strategy to apply for their donated assets. In this step, the donors often appoint fund advisors to assist them in how to relay this information to public charities. Public charities can also design and suggest legacy plans for the donors’ assets deposited in the donor-advised fund.

5. The donor decides on the nonprofits to support

In this final step, the donor decides on the nonprofits or causes to support from the proceeds of their donated assets and investments. Therefore, nonprofits that seek to maximize donations from donor-advised funds must let their donors and supporters know that they are eligible to receive grants from donor-advised funds. Nonprofits can also solicit patronage from donors who have previously set up a recurring donor-advised fund, so they can be beneficiaries of future grant disbursements.