Strange Math

Here’s the world’s simplest math problem.

My wife Pat and I often meet a pair of friends for a movie. If there’s a risk that the show will sell out, I run over to the theater ahead of time and buy all four tickets in advance. When our friends arrive, we hand them their tickets and they pay us back what they owe us.

So the question is this: how many tickets did the movie theater sell?

Four, of course.

But in the parallel universe of donor-advised funds (DAFs), where double-counting comes as naturally as breathing and dissembling, the answer would be six.

Let me try to explain the inexplicable.

A recent article in The Economist delved into the phenomenon of donor-advised funds, which are taking over the philanthropic world like kudzu. Among the issues that the authors investigated was this: Which nonprofit has received the most in grants from Fidelity, Schwab, and Vanguard Charitable, the three largest commercial gift funds? Was that lucky grantee the Salvation Army? Doctors Without Borders? No – the largest recipient of charitable grants from those three commercial gift fund giants in the period studied was… Fidelity Charitable.

Huh?

If this makes no sense to you, let me tell you about my friend Leah. She had a donor-advised fund at Organization A, a DAF sponsor. She was annoyed with Organization A, concluding that its fees were too high. So she transferred her $250,000 DAF to create a donor-advised fund at Organization B. The transfer of Leah’s $250,000 was essentially an administrative action akin to shifting bank accounts from one financial institution to another. She was not “giving” the money to Organization B. But Organization B, like all donor-advised fund sponsors, is legally a public charity, so consequently the transfer was considered a $250,000 grant from Organization A, the same as if the money had gone to a soup kitchen or a college.

The large grant dollars flooding into Fidelity from rival commercial gift funds are essentially transfers of accounts. These transfers probably result from people like Leah hunting for low fees and high investment returns. The donors’ financial advisors also seem to play an influential role in these DAF-to-DAF transfers. I say that because the third-largest grantee from the three mega-funds, according to The Economist, was the American Endowment Foundation (AEF), a donor-advised fund sponsor I wrote about several years ago.

The American Endowment Foundation promotes itself heavily to financial advisors. In fact, its hook is to tell financial advisors that if their clients open DAFs at AEF, the financial advisors can retain a “management role,” which is to say, they receive ongoing fees for managing the investments. Moreover, American Endowment Foundation pays financial advisors management fees for funds of any size, whereas Fidelity and Schwab require a  minimum fund size of $250,000 for that kind of fee-generating arrangement. (Vanguard says it pays no management fees at all to financial advisors.) I have the suspicion that many financial advisors are convincing their clients to move their established DAFs from the Big Three (Fidelity, Schwab, and Vanguard) to AEF so that they (the advisors) can begin to draw a management fee. (Am I being cynical? Yes. For good reason.)

But whatever the cause of this migration of DAF funding from one sponsor to another, the findings of The Economist demonstrate that double-counting is endemic in the donor-advised world, because DAF-to-DAF transfers count as grants. This introduces yet a new dimension of distortion and speciousness into the donor-advised fund industry’s claims of high distribution rates.

To understand the context, it’s important to know that, over the past few years, as critics have expressed concern about the growth of donor-advised funds, the industry has done everything it can to publicize and exaggerate its reported spending rates. Donor-advised funds methodically began to supplement their feel-good-but-hollow claims (“We’re expanding the philanthropic pie!” “Donor-advised funds are democratizing philanthropy!”) with puffed-up grant distribution numbers, hoping that the public might not notice many core problems with the industry. “Stop carping!” the donor-advised fund industry seemed to be saying. “Look at the high payout numbers!”

Well, fine. Let’s look at those payout numbers.

One would think that the way in which DAF payout rates are measured would be standardized and obvious. After all, calculating the payout rate would seem as simple as this equation:

Grants/Assets = Payout Rate

But there’s no consensus, first of all, on whether the assets number should be drawn from the start of the fiscal year or the end. Several years ago, the National Philanthropic Trust (NPT), itself a donor-advised fund sponsor and the source of a much-cited annual report on the DAF industry, made a simple-but-significant shift in the way it calculates payout. Earlier, NPT relied on the end-of-year numbers for determining the assets. Then NPT started using asset numbers from the start of the year. Because assets grow during the year, the result, presto-change-o, was an increase in reported industry-wide annual distributions from about 15% to 20%.

Meanwhile, the NPT calculation – whether using the start-of-year or end-of-year assets number – doesn’t account for money that’s contributed and distributed within the same calendar year. Let’s say that a donor contributes $100,000 into her DAF in February and distributes it all by December. The DAF industry counts the $100,000 in the grants total, but it doesn’t count a single penny of that money among the assets, because the $100,000 was not present in the donor-advised fund either at the start or the end of the year. This greatly inflates the supposed distribution percentage.

Fidelity Charitable (which refused to comment for this article) has its own unique and utterly inappropriate way of calculating its DAF payout rate, borrowed from the world of nonprofit endowment management. To figure out its assets number, Fidelity uses the average size of its assets over the past five years. Because of the dramatic growth in its assets in recent years, this sleight of hand by Fidelity drastically inflates the percentage supposedly distributed. This led Fidelity one recent year to announce a lordly distribution rate of 28%. (For those of you struggling with the math, believe me that this is about as valid as my asserting that our house, which has a market value of about $250,000, is actually worth $500,000 – simply because we chose to list it for sale at that level. In other words, the 28% payout rate is not remotely accurate.)

On the other hand, The Chronicle of Philanthropy, using a formula developed by the IRS, put overall distributions from donor-advised funds in the most recent year studied at 14%. The approach used by The Chronicle and the IRS takes into account money that was deposited and distributed within the year. That calculation makes a huge difference – and it makes a great deal of sense.

But now, thanks to The Economist article, we know that a fairly significant portion of DAF grant dollars are not actually charitable grants at all, but transfers from one donor-advised fund to another. So the real payout rate to charity is significantly less than 14%. No matter: in the house of mirrors that is donor-advised fund accounting, a grant is a grant, even if the grant is to another donor-advised fund, and the industry will claim a payout rate of 20% or even 28%, and for the most part get away with it.

Which is to say that if the folks at Fidelity Charitable owned our neighborhood movie theater, they would have reported that they’d sold six tickets, not four, in the same way they count money shifting around from one donor-advised fund to another as grants to charity. This kind of slick and casual accounting is endemic to the world of commercial donor-advised funds. The people being hoodwinked are the taxpayers who subsidize DAF shenanigans through the charitable deduction, and the charities that are seeing dollars diverted into an unaccountable netherworld that claims to have charitable motivations, but doesn’t. The commercial donor-advised fund industry loves to preen in self-congratulation, while describing itself as an engine for philanthropy. But the bottom line – when calculated accurately – is this: DAFs are very good for donors, and a cash cow for Wall Street. But they’re not so good at actually getting money to charity.

Copyright Alan Cantor 2017. All rights reserved.

 

Share this: Facebooktwittergoogle_plusredditlinkedintumblrmailFacebooktwittergoogle_plusredditlinkedintumblrmail

No Sale

Contributing to charity is a unique transaction in our society: people give money and receive nothing tangible in return.

I think of this when individuals who have spent their careers in the for-profit world draw comparisons between the business and nonprofit realms. They tend to urge nonprofits to run themselves like a business. In applying lessons from their world to the nonprofit sector, these well-intentioned businesspeople often miss a few critical points.

This is particularly true about fundraising. The veteran businessperson will draw comparisons between fundraising and business sales. “You have to work the list,” he’ll say, with a knowing nod. He’ll go on to explain that you also have to be persistent, build relationships, and develop trust, all of which will lead to a gift/sale. I agree to a certain extent. Building relationships and trust is central to encouraging charitable gifts. Human connection is critical to salespeople and development officers alike. Persistence is good, so long as it doesn’t slip into being obnoxious.

But what some people overlook is that customers in the for-profit world need to buy something from somebody. If a hotel manager needs to replace 100 mattresses, she will be buying those mattresses from one supplier or another. An internet retailer needs to have its packages delivered by someone – whether it turns out to be UPS or FedEx or the US Postal Service. A paving company needs to buy raw materials and heavy equipment; an office park needs to hire landscapers and roofers; a charter fishing boat needs to buy bait and hooks and gasoline and motor oil.

What’s true for all these businesses, and every other, is that they need to buy equipment, supplies, and services in order to keep their doors open. It’s simply a question of whether to buy those items and services from Vendor A, B, or C.

But people and businesses don’t have to give to nonprofits. Charitable giving is purely optional.

Let’s repeat that: charitable giving is optional. In fact, the only charitable giving that’s required by law is the annual distribution from private foundations, and those grants make up only 15% of all giving nationally. Yes, there are tax advantages for individuals to give to charity, at least for the 30% of the population who itemize their deductions. And businesses and individuals can receive a social and sometimes practical benefit of being recognized for their generosity. But what the donors get in return never adds up to the cost of the gift.

Donors give for a variety of reasons: genuine altruism, responding to a disaster, honoring a friend, “paying back” a scholarship, and yes, sometimes trying to further their own reputation. Motivations are complicated. But even those gifts that result in some small part from the desire for self-promotion or from a sense of obligation are also driven by the desire to give. Charity is not a requirement. There is an element of joy involved, because it is, at heart, a voluntary action.

It’s not the nonprofit’s job to understand each donor’s motivation. For that matter, even the donors themselves don’t fully know why they give. Asking donors why they contribute to a particular organization is like asking them why they like their favorite dessert or park or song. They know that they like the organization. Supporting the cause answers an emotional need. Giving provides them with joy.

What the nonprofit very much can do is honor the donor by expressing gratitude. Nonprofits should acknowledge the gift immediately, and then, for new or large donors, a board or staff member (or both) should call or write a personal note of thanks. Charities need to honor the donor’s request for publicity or anonymity. They should let donors know a few months down the line how their gift is being used, or how the larger campaign is faring. If nonprofits have the chance to get to know the donors in person – and they should try! – they should be candid about their organizational challenges and ambitions. And then, when the time is right, nonprofits should give their donors the opportunity to make a gift once again.

And in all their interactions, nonprofits should never forget that this is a voluntary action on the part of the donors. People who contributed last year don’t have to give this year or next year. In fact, nonprofits have no right to expect that they will. It’s not a sale. It’s a gift. Keeping that mindset, and treating people with the resulting degree of appreciation and respect, is exactly what will, in fact, make someone a loyal donor, year after year.

Copyright Alan Cantor 2017. All rights reserved.

Share this: Facebooktwittergoogle_plusredditlinkedintumblrmailFacebooktwittergoogle_plusredditlinkedintumblrmail

Collateral Damage

People keep asking me: How is the current political upheaval going to affect nonprofits?

My first answer: I don’t really know. We’re in unprecedented political times. Who really can predict what will happen?

My second answer: That said, indications are that the next few years are going to be bad for charity. Continue reading

Share this: Facebooktwittergoogle_plusredditlinkedintumblrmailFacebooktwittergoogle_plusredditlinkedintumblrmail

Sidewalks, Snow, and Democracy

You can learn a lot about people and communities by how they clear their sidewalks. And I think there may be a lesson in there for those of us trying to understand the political strife that’s tearing apart the nation.

I should pause to explain for readers who live in more temperate climes that for those of us who deal with northern winters, the subject of clearing snow from streets and sidewalks is a major preoccupation. It gives us something to chat about during the six or seven hours of daylight we enjoy in the depths of winter.

When it comes to streets, roads, and highways, snow clearing is, strictly speaking, a spectator sport. We’re dependent on crews from state and local government to take care of us. That doesn’t mean we don’t have opinions – we certainly do! The road crews inevitably use too much salt, too little salt, or not enough sand; they get their trucks out too late, pay too much overtime, stubbornly avoid paying overtime, save certain neighborhoods for last, or are careless (even malicious) in blocking in parked cars. Yes, our plow crews and road agents get criticized for everything short of the snow storm itself. But at least we know enough to leave the street clearing to the professionals.

It’s different for clearing sidewalks. There, it’s up to us. And different people approach the responsibility in very different ways, sometimes because of attitude, and sometimes because of capacity. Continue reading

Share this: Facebooktwittergoogle_plusredditlinkedintumblrmailFacebooktwittergoogle_plusredditlinkedintumblrmail

this is a test

Thoughts on the Nonprofit World