A donor-advised fund (“DAF”) is an excellent vehicle for managing both the investment growth and distribution of money that you want to set aside for charitable giving. Think of it as a foundation (e.g. Ford Foundation, Bill and Melinda Gates Foundation) except for regular people.
The way a donor-advised fund works is that you start off by making an irrevocable donation of assets (typically cash and/or securities) to your fund. From there, you can invest the money in your DAF and grow your funds tax-free. At any time, you can also contribute additional assets to your DAF.
When you’re ready to give to a charity, you can recommend that funds be disbursed to IRS-approved charities. Your fund administrator will check to confirm that the charity is appropriately registered with the IRS (large, well-known charities will already be pre-approved), and if it is, the funds will be released to your selected charity.
The assets that you contribute to your DAF are deductible for income tax purposes in the year that the assets were donated to your DAF, provided, that you are itemizing your deductions. One previously-discussed tax strategy for those who may be otherwise taking the standard deduction is to bunch several years’ wroth of giving into a single donation into your DAF such that the amounts of your charitable deductions, together with your other deductions, allow you to itemize your deductions.
Key Benefits of a Donor-Advised Fund
- a DAF allows you to invest the funds you contribute and to grow those funds tax-free
- If you itemize, you can take a deduction on the full amount of your contribution in the year of the contribution (subject to a limit of 60% of your AGI for cash and 30% of your AGI for appreciated securities), even if you don’t disburse those funds to charities in the year of contribution
- It’s easy to donate to charities anonymously with a DAF
- You don’t have to keep receipts of your donations to charities
- You can donate appreciated assets, such as stocks and bonds, without paying capital gains
- If you have old securities where your cost-basis records are poor or non-existent, contributing these securities to your DAF is a good way to eliminate the paperwork/tracking headache while doing good
- Just because you have a DAF doesn’t mean mean you are restricted from charitable giving outside your DAF. You can contribute to your DAF while still donating your old clothes to Goodwill.
Drawbacks to a Donor-Advised Fund
- DAFs typically have a minimum initial contribution amount (e.g. $5K at Schwab Charitable) to create your account
- DAFs charge fees for administering your DAF (though the amounts are fairly modest) and if you invest your DAF funds in any investment products offered by your DAF administrator, you will have to pay investment fees (e.g. expense ratio on a mutual fund) from your principal
- May not be as convenient for giving in certain circumstances (e.g. if you attend a charity auction where the form of payment is credit card or check)
Intrigued by a donor-advised fund? A number of major fund companies, such as Fidelity, Schwab and Vanguard, make it very easy for you to set up and open a DAF. Check out my upcoming post on How to Choose a Donor-Advised Fund.
