DAFs and Private Foundations: The 5% Question

If you spend any time around charitable giving, you will eventually hear someone mention the 5% rule. Private foundations have to give it away. Donor-advised funds do not. People talk about that difference in all sorts of ways.

Here is the encouraging part. The payout question is really a question about pace: how quickly money set aside for charity actually reaches charity. That question belongs to every giver, whatever tool they use.

What the 5% Rule Is

Private foundations have had a payout rule since 1969. Today, most private non-operating foundations must make qualifying distributions each year of roughly 5% of the average value of their investment assets. Qualifying distributions include grants to charities and reasonable expenses of running the charitable work.

A foundation that falls short generally has until the end of the following year to catch up. After that, it faces a steep excise tax on the shortfall. Private foundations also generally pay an excise tax on their net investment income each year.

Why Donor-Advised Funds Are Different

A donor-advised fund is not a private foundation. It is an account held at a sponsoring public charity, and the sponsor legally owns and controls the money. Federal law does not currently set a minimum annual payout for individual DAF accounts.

That does not mean a fund can sit untouched forever. Most sponsors have their own inactivity policies. If a fund goes without grants for a stretch of years, the sponsor may reach out, and eventually may grant from the fund to charities of its own choosing. The terms vary by sponsor, so read yours.

What the Numbers Tend to Show

Industry reports on donor-advised funds have often found that, taken together, DAFs grant out a larger share of their assets each year than the 5% foundations are required to pay. That is an average across millions of accounts, though. Some funds grant nearly everything within months. Others grant very little.

An average cannot tell you how your own fund is doing. Only you can answer that, by looking at what went in and what went out.

Foundations and DAFs also count differently. A foundation's 5% can include some of its own operating costs. A DAF grant goes straight to an eligible charity. Comparing the two percentages is useful as a rough picture, not a precise scorecard.

Why Pace Is a Heart Question

Once money is in a donor-advised fund, it is already given. It cannot come back to you. The deduction, if you itemized, has already happened. What is left is the work of getting that money to the churches and ministries that need it.

Life gets busy, and it is natural for that work to wait while we look for the perfect cause. The happy news is that a little planning turns a fund into a steady stream of support. A fund is at its best when it keeps the good flowing.

Setting Your Own Payout

You do not need a law to give with purpose. Many families set a personal rhythm instead.

1. 1

   Pick a Pace

   Decide whether your fund is for steady grants over a few years or something longer. Write it down.

2. 2

   Put Grants on the Calendar

   Monthly, quarterly, or yearly, choose dates to recommend grants so they do not depend on memory.

3. 3

   Review Once a Year

   Compare what went in with what went out, celebrate the grants that went out, and set the plan for the year ahead.

Some families aim to grant out everything they put in within a few years. Others hold a portion for a future need, such as a building campaign at their church. Both can be faithful. What matters is that the choice is made on purpose.

A Note on Investment Inside a Fund

Many sponsors offer investment options for money waiting to be granted. The value can rise or fall, and any growth is not taxed to you. Growth is not the goal of a giving fund, though. It is simply what can happen while money waits for its purpose.

Kingdom Portfolios is not a DAF sponsor, and we never hold or touch charitable dollars. A fund lives with the sponsor you choose. We never manage or advise on the investment of any fund.

One honest reminder: giving always costs you more than it saves. A deduction lowers your tax by a fraction of the gift, never the whole gift. Give because you want the money to do good, and let the tax rules help that generosity go further.