If you want to contribute to a good cause or an institution, the easiest way is to write a check. Still, lots of people go to the trouble of starting and running private foundations. Why is that?
My favorite reason to start a foundation is to create a legacy. A family foundation encourages family members to participate in a common cause and can increase familial bonding. A family name that stands for something good sets a standard of achievement and behavior for future generations. A family foundation can set that tone and have very long lasting effects. Also, a foundation can be established in the name of a loved one, to honor them after they’ve passed away.
People, families, or corporations starting a foundation are often seeking permanence in their philanthropy. A foundation can consistently fund a preferred cause or institution, providing cumulative benefits to recipients over many years of donations. By investing the donated funds and assets in its endowment, a foundation can accumulate substantial resources for the benefit of recipient organizations. Over time, this will be far more impactful than donations given directly by individuals.
[Note: If you ever do run a foundation, please consider “unrestricted donations”. Usually, foundations give money to organizations to be used for rather specific purposes or programs. It is always well intended and usually completely reasonable. However, it is often forgotten that non-profits have general administrative costs and miscellaneous expenses that are no less important to the accomplishment of their missions.]
The tax benefits of starting a private foundation are considerable. Organized as a 501(c)(3), private foundations are tax exempt. Contributions of cash and appreciated property are collected. There are no taxes paid on those contributions. The contributors claim those donations as tax deductions (there are rules and restrictions). For the tax exemption, the foundation has to be charitable, religious, educational, scientific, literary, about public safety, national or international amateur sports, or prevent cruelty to children or to animals. The foundation can also assist the poor, advance education or maintain a public building.
At least five percent of a foundation’s total assets must be given to non-profits, working for the foundation's stated causes, every year. This seems like a small number, but here’s why that is. Donors' contributions to the foundation are immediately tax-deductible to the donor, even though the money is not given immediately to charities. Almost all of it will be at some point, just not right away every year. This provision allows foundations to invest and grow assets so that they can be impactful for many years, maybe generations to come. It also means the foundation can use donor funds for the administrative costs of running the foundation. There are significant expenses. Professional staff, accountants, bookkeepers, consultants to maintain IRS compliance, investment professionals, development staff, appraisals, travel… Great foundations do great work and it’s not free. Almost all foundations give more than the five percent annual minimum. Also, there is a 1% to 2% excise tax on a foundations investment assets (its endowment).
At least five percent of a foundation’s total assets must be given to non-profits, working for the foundation's stated causes, every year.
A foundation's donation money must be given to an IRS recognized public charity. Your foundation can’t give money to homeless people, but you can find an organization that helps the homeless. You could give to a non-profit that supports victims of domestic abuse. You cannot just pay for hotel rooms for families or individuals displaced by domestic violence. That guy on the side of the road with the oranges..? No. The Montclair Art Museum or Arts Unbound, in Montclair, NJ..? Heck yeah! There are limited instances where a charitable foundation can give money to individuals. Scholarships are one. Artist's residencies would be another. This is important stuff to know, so the consultants are important. Foundation Source is a good one. Violating the rules could cause a foundation to lose its tax-exempt status. That would result in the foundation's endowment suddenly becoming taxable income. That is not good for anyone; not even the government that steals the tax money from you. (That’s like giving money to drunks and crack addicts.)
Now for the “How?”
First, your private foundation will need a defined purpose and guidelines follow in making its grants. This is necessary to guide your activities and to gain tax-exempt status.
Next, decide whether to structure as a charitable trust or a nonprofit corporation. A charitable trust can be easier to establish and operate. Nonprofit corporations have stricter operating requirements but are more common than charitable trusts since they limit personal liability and have more flexibility in how they may use their funds.
For a trust, you'll need to appoint trustees. As a corporation, you'll need to follow the usual steps for establishing a corporation; articles of incorporation and bylaws, naming officers and directors, and filing with the state. Regardless of how you decide to structure your private foundation, you'll need to apply for an employer identification number (EIN).
Next, file organizing documents with the IRS. You'll need to fill out Form 1023, Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code, and prepare all of its required supporting documentation. This form asks for the basic identifying information about your foundation and how it will be organized and operated. There is a fee. Once the IRS approves your tax-exempt status, you'll need to file any additional required paperwork to obtain tax-exempt status from your state.
Is It Worth the Trouble?
Setting up a private foundation is a lot of work. Then you have to maintain it, which entails a lot of IRS rules. You must avoid prohibited activities:
Allowing more than an insubstantial accrual of benefits, including non-monetary benefits, to individuals or organizations
Allowing income or assets to accrue to insiders (ie, paying an unreasonable salary to an officer, director or key employee)
Participating in any political campaign, including making campaign contributions and making official public statements.
Your foundation must limit restricted activities:
Self-dealing with disqualified persons (substantial contributors, foundation managers and certain other related persons)
Investment activity that might jeopardize the carrying out of exempt purposes
Lobbying or attempting to influence legislation through actions or spending.
The foundation and any entity that improperly benefits from a prohibited or restricted activity may face taxes and penalties for violating these rules. The foundation could even lose its tax-exempt status.
Running a private foundation is much the same as running a business. You must keep records, file annual tax returns (form 990-PF, a detailed, 13-page document) and hire and manage employees (who may be your family members). You will need to hire legal and accounting professionals to handle compliance matters like bookkeeping, tax preparation and corporate filings. Do not attempt to do this yourself! It’s a lot and you’ll make a mess. Then you will have to hire professionals to clean that up and it will cost more money and time. Pay professionals to do this right the first time. I’m suggesting Foundation Source, but at the very least LegalZoom.com for initial filings.
Private foundations are time-consuming and expensive. Still, thousands of individuals, families, and corporations who have established private foundations believe them worthwhile.
If you're not sure whether a private foundation is the most effective way to meet your philanthropic goals, you can always engage in simpler alternatives to giving like writing a check to your favorite nonprofit, donating your time, or contributing to a donor-advised fund.
What is important is that you actively participate in making the world you want and that you create some kind of legacy so that you don’t move on from this life as though you never existed to begin with.
W Skeet Jiggetts