Many taxpayers are eager to reap the full benefits of charitable giving for the 2022 tax year but are concerned they won’t be able to pinpoint the causes they’d most like to contribute to before December 31. If this sounds like you, then you might want to consider a donor-advised fund. In the following Q&A, you’ll learn about the benefits and limitations of “DAFs” and whether they might be the right charitable giving vehicle for you.
Q: What is a donor-advised fund?
A: Donor-advised funds, often referred to as “DAFs,” are charitable giving vehicles sponsored by community foundations, public charities and investment firms that manage charitable funds.
Q: How do DAFs work?
A: Donors contribute assets to the fund, ranging from stocks and bonds to non-publicly traded assets like real estate, and even cash. They are then eligible for an income tax deduction of the assets’ fair-market value, up to a certain percentage of their adjusted gross income.
In addition, capital gains tax obligations on long-term appreciated assets are eliminated when assets are donated to DAFs. Donors recommend grants from their DAF to IRS-qualified 501(c)(3) public charities—but the contributions and grants can take place at separate times. In the meantime, donors can choose how their contributions will be invested. Any asset appreciation within the fund is tax free.
Q: Can I retrieve assets I’ve contributed?
A: Contributions to DAFs are irrevocable: Once they’re given to the fund, assets cannot be taken back. While donors maintain advisory control over grantmaking, the assets within a DAF belong to the sponsoring organization and can only be used for grants to eligible charities.
Q: How are assets in a DAF invested?
A: DAFs serve as investment accounts, and donors typically recommend investment strategies based on the menu of investment options that most sponsoring organizations offer. Many sponsoring organizations allow donors to recommend a financial advisor to manage investments within the fund.
Q: How closely can I control grantmaking?
A: Sponsoring organizations generally accept donors’ grantmaking recommendations to qualified charities. In addition, donors can attach a special purpose to their grants for the sponsoring organization to relay to the charity. Grant recommendations can also be made in honor of loved ones. However, donors can’t use DAFs to fulfill legally binding pledges to a charity. One of the benefits of a DAF is simplified recordkeeping: Donors don’t need to keep track of gifts to multiple organizations; they just need records of their contributions to the fund.
Q: How can I use a DAF as an estate planning vehicle?
A: Contributions to donor-advised funds can shrink the size of a taxable estate, in some cases to below the estate-tax threshold (currently just over $12 million1 for individuals in 2022. Donors can also make bequests in their will to the DAF sponsor and can name the sponsor as beneficiary of assets, such as retirement accounts and life insurance policies, with instructions on how the assets should be distributed.
Q: What are some of the limitations of DAFs?
A: DAFs can only be used to make grants to IRS-qualified 501(c)(3) organizations. That excludes recipients like political groups, crowdfunding campaigns and private foundations. Furthermore, qualified charitable distributions can’t be made to donor-advised funds.
Q: What happens to my DAF after my death?
A: Sponsoring organizations typically allow donors to nominate a successor, charity or both, who will take over your role after your death. When successors are not named, sponsoring organizations typically distribute remaining balances as grants to qualified charities.
Q: How can I learn more?
A: Your wealth advisor can provide more information about donor-advised funds, help you decide if they make sense for you, and offer support if you decide to move forward.
Footnotes
1 “Estate Tax”
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