A Tale of Two Letters, and Two Sectors

[Note: A version of this post was published in the opinion pages of The Chronicle of Philanthropy on November 2, 2017.]

Here’s an idea: Let’s agree to stop referring to “the nonprofit sector.”

That’s because, in reality, there are two nonprofit sectors.

The first is comprised of the hundreds of thousands of charitable organizations that provide actual services. The second is made up of funders: foundations, donor-advised fund sponsors, and corporate and individual donors.

The priorities of these two nonprofit sectors are different. The first nonprofit sector – I’ll call them “the charities” for short – is focused on meeting mission: feeding, housing, educating, and counseling people; saving the earth and animals; curing diseases and healing the sick; producing community theater and running art classes; rescuing, feeding, and supporting families displaced from natural disaster; and generally doing what they can to keep this frayed and fragmented society of ours from falling to pieces.

The second nonprofit sector – “the funders” – genuinely cares about all of that. But the funders are also concerned with their own institutions’ and donors’ well-being, tax advantages, budgets, and privileges. And the interests of the funders are often in conflict with those of the charities.

There is a significant power imbalance between the two nonprofit sectors. This would seem to be an obvious point, but it’s one that generally is not acknowledged, at least not publicly. Charities need money. Funders have money, and consequently they have all the power in the relationship. I know very few funders who consciously lord it over charities, and most funders would be sincerely upset to think they ever do. But inequality is baked into the relationship. Funders can and do tell charities how to do their work. Charities never tell funders how to do theirs. Or if they do, it’s in a whisper, and at their peril.

This power imbalance and the conflicting interests of the two nonprofit sectors came to light in a pair of letters sent to the Senate Committee on Finance over the last few months (“Nonprofit Leaders Strike Back at Suggestion of Time Limit on DAF Payouts,” Chronicle, September 8, 2017). The topic was donor-advised funds (DAFs), and whether the federal government should change the rules governing how DAFs are run. This is a hot topic, because donor-advised funds – and the Wall Street firms that run many of them – have distorted charitable giving in America and changed the face of philanthropy. But let’s also recognize that donor-advised funds lie on the fault line between the two nonprofit sectors: funders love them, while charities hate them. And the exchange of letters highlighted in the Chronicle article highlights how power and money are aligned with the funders, while virtually no nonprofit associations – not even an organization whose explicit mission is to represent the full nonprofit sector – publicly speaks on behalf of the charities.

The first letter was sent on July 17 by Ray Madoff and Roger Colinvaux, professors of law at Boston College and Catholic University, respectively, to the Senate Committee on Finance. Madoff and Colinvaux make two recommendations regarding donor-advised funds. The first is to introduce a requirement that money in donor-advised funds be distributed to charity within a fixed number of years after being contributed. This proposal speaks to the frustration of charities that there is no spending requirement whatsoever for donor-advised funds: once the gift is made (and once it has earned a charitable tax deduction for the donor), the funds can literally sit in a DAF forever. Madoff and Colinvaux are essentially advocating that money be required to pass from the funders to the charities after a certain number of years.

The second recommendation from Madoff and Colinvaux is that private foundations be prohibited from counting grants to donor-advised funds toward their five-percent charitable distribution requirement. Why does this matter? Because private foundation grants to DAFs make a mockery of current law. The federal government requires private foundations to distribute at least five percent of their assets each year for charitable purposes, a requirement that stems from the 1969 Tax Reform Act. That legislation divided charitable organizations into private foundations and public charities. Congress clearly wanted to keep its eye on private foundations, which typically remain under control of the donors and their families, and thus are more easily manipulated for their personal benefit. Congress was essentially saying: we don’t really trust private foundations, so a) we want money to go out the door every year, and b) we want every grant (and other financial information) to be subject to public scrutiny.

But donor-advised funds provide foundations with a way of technically meeting the five-percent distribution requirement, while essentially hiding their grantmaking from public view. What a foundation does is to set up a donor-advised fund with its own trustees as the controlling advisors. The foundation then makes a grant to the donor-advised fund. Because the donor-advised fund is part of a public charity, that grant qualifies as a charitable distribution, thereby helping the foundation meet its 5-percent distribution requirement. But from that point on, the public has no idea where the money eventually goes, or even if it goes out to charity at all. This scheme clearly undermines the intent of the foundation five-percent distribution rule.

In their letter, Madoff and Colinvaux were essentially coming down on the side of the charities. They advocated that money be required to pass from donor-advised funds (the funders) to operating nonprofits (the charities) within a reasonable period of time, and that private foundations (again, the funders) stop playing games by making grants-that-aren’t-really-grants to donor-advised funds.

Madoff and Colinvaux identified problems with donor-advised funds that charities are well familiar with, and they offered reasonable solutions. But this did not play well with funders. A few weeks later, a coalition of four organizations sent a twelve-page response to the Senate Committee on Finance. In a tone that I would describe as vehement and belittling, the letter declared that the Madoff-Colinvaux proposals were “misguided and misleading” and “harmful.”

So who are the forces that wrote this angry response?

Three of the groups clearly represent the funders. The first is the Council on Foundations, whose community foundation members rely upon donor-advised funds as its most popular product. The second group in the coalition, the Community Foundation Public Awareness Initiative, is not an organization at all, but a Washington lobbying effort funded by, and working on behalf of, community foundations. (According to OpenSecrets.org, the lobbying firm Van Scoyoc Associates has received over $2.3 million for this effort since 2012.) These two groups represent the interests of community foundations, defined narrowly as keeping the donor-advised fund status quo.

The third organization also represents funders, though it is more ideologically driven: The Philanthropy Roundtable. Despite its benign name, the Philanthropy Roundtable is highly political and has ground its ideological axe for decades, using philanthropy to promote conservative causes. The Philanthropy Roundtable has historically advocated for unfettered and non-transparent donor-advised funds, which fits their philosophy that donors know best, and that a government that regulates charitable activities in any way serves to undermine private initiative and the public good.

The fourth and most troubling member of this coalition is Independent Sector, which claims to represent both funders and charities. Donor-advised funds are an issue over which Independent Sector’s members are utterly divided: the funders (particularly DAF-sponsoring organizations) love them, and charities (quietly, but utterly) resent them. I would have assumed that, given the breadth of its membership, Independent Sector would have sat out this fight. But instead, Independent Sector publicly aligned itself with the funders.

I doubt that Independent Sector made much of an effort to understand the charities’ point of view on this issue. If it had, Independent Sector would have learned that charities are aghast at the growth of the donor-advised fund industry and the way DAFs now dominate the listing of the country’s largest fundraising organizations. It would have found that charities consider the profit motive driving the explosive growth of commercial DAFs to be morally troubling. It would have discovered that charities feel undermined by the way DAF sponsors and the financial services industry have a vested interest not only in attracting gifts to donor-advised funds, but in keeping the funds invested, rather than distributed for charitable purposes. And Independent Sector would have learned that donor-advised funds have added complexity to nonprofits’ relationships with donors – particularly around accepting gifts for multi-year pledges, gala tickets, and other charitable commitments.

I’m not surprised that the Council on Foundations, community foundations, and the Philanthropy Roundtable attacked suggestions for reforming donor-advised funds. These are organizations whose mission is to protect the interests of funders. But for Independent Sector to jump in with both feet on this issue was both sad and illuminating. Independent Sector should know better, and if it truly represented charities as well as funders, it would know better.

The coda to this exchange was last week’s stunning-but-not-surprising news that Fidelity Charitable – already the top fundraising “charity” in the country – experienced a sixty-eight percent jump in contributions in its most recent fiscal year, to $6.85 billion. Surely this news is yet another indication that something is askew in philanthropy, that far too much money is going into, and remaining in, donor-advised fund accounts, and that the recommendations of Ray Madoff and Roger Colinvaux might in fact be an effective way to recalibrate DAFs.

Congressional staffers and members of the media studying donor-advised funds would do well to recognize that there are two distinct nonprofit sectors, not one. They should understand that the public’s interest does not lie in supporting the preferences of the richest and most powerful funders and donors, but rather in strengthening the charitable organizations delivering vital services to the community. And perhaps eventually one or another organization that purports to represent the interests of nonprofits – which is to say, charities – will take a deep breath, stand up, and actually do just that.

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7 thoughts on “A Tale of Two Letters, and Two Sectors”

  1. I get that nonprofits might be reticent to complain publicly, but can you say more about your statements that “charities hate them?” It makes sense, but I’m not aware of any surveys, etc. The National Council of Nonprofits seems mum on the subject.

    1. Thanks, Brenda. A couple of nonprofit leaders, below, weighed in to confirm my comment that charities hate DAFs. I know, of course, that that’s not a scientific sampling — but from all my experience, the comments of Eric and Ruth reflect the widely-held attitude.

      And, yes, there should be a serious, non-slanted study of charities’ attitude toward donor-advised funds — and, in fact, it would be great if the National Council of Nonprofits (or the Committee for Responsive Philanthropy or, yes, Independent Sector) undertook such a study. In the meantime, those with the self-interest in the DAF status quo (and the paid lobbyists) are carrying the day.

  2. Yes, Al is right. DAF’s short circuit relationships between the charity and the donor. Often the charity doesn’t know who the donor is and is unable to communicate directly with said donor.

  3. That loud cracking sound you just heard is Al, once again, hitting the proverbial ball out of the park. Hip, hip, hip for the home team!

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