Research shows the number of donor-advised funds (DAFs) is rising, and contributions to these accounts have reached an all-time high of $85.53 billion. These large pools of wealth dedicated to charitable purposes allow high-impact donors to support the causes they care about.
Despite their growing popularity, there are a few things to consider before determining if a DAF is the best way for you to contribute your funds—primarily, compliance. There are specific guidelines you must follow to set up a DAF correctly.
To decide whether a DAF is right for you, let’s explore crucial compliance requirements and how you can meet them.
1. DAF Eligibility
Let’s say you’re passionate about animal welfare, specifically the wellbeing of homeless animals in your community. You’re ready to set aside a significant amount of funding for this charitable purpose, and you choose to set up a DAF account with a sponsor.
As the donor, you retain the rights to instruct the DAF sponsor on how the funds should be distributed over time. However, because of their tax-deductible status, there are strict requirements surrounding the disbursement of DAFs.
Primarily, grants from DAFs must be made to organizations recognized by the IRS as public charities. An organization may be ineligible if it’s classified as another type of 501(c)(3), like a private non-operating foundation. However, DAF donors can make grant recommendations to private operating foundations, international charities, and other organizations under certain circumstances.
These restrictions are in place to ensure funds from DAFs are used for strictly charitable activities, such as funding capital campaigns or charitable programs. Other purposes are strictly prohibited, including:
- Personal benefits
- Political campaigns
- Lobbying activities
According to Freewill’s overview of donor-advised funds, the sponsoring organization dictates whether or not a recommendation will be approved, but it’s rare for a DAF donor’s grant wishes to be denied. Some recommendations may be rejected if they don’t align with the sponsoring organization’s standards or guidelines.
If you’re considering whether or not to contribute to a DAF, keep these usage restrictions in mind. You’ll need to make grant recommendations after contributing, meaning you’ll have to conduct research to find the public charities that you’re eager to support. Some organizations may provide clear guidelines for accepting DAFs, which can give you an idea of how these funds could be used and whether or not you’d like to donate.
2. Regulations on Contributions
When it comes to deciding how much to give to a DAF, there may be minimum donation requirements established by the sponsoring organization. While this minimum varies among organizations, donors typically must contribute $5,000 to $25,000 to open a DAF.
Donors can contribute this amount in cash or non-cash assets, such as:
- Stocks
- Shares of mutual funds
- Private assets
- Crypto
Even if a minimum contribution amount is required, there are no caps on how much a donor can give.
Although donors retain the right to advise how the DAF funds should be used, contributions belong to the sponsoring organization once they’ve been donated. These funds can’t be taken back, and the sponsor is responsible for managing and investing the funds.
According to Foundation Group, DAFs must be reported on the sponsor’s Form 990 for that year. Form 990 is an essential tax document for nonprofit organizations—failure to file could result in the revocation of an organization’s 501(c)(3) status. This means the sponsoring organization must carefully document all necessary information about your contribution. However, the contribution also has tax implications for you as the donor, meaning you’ll need to keep thorough records of your own.
3. Tax Implications
Upon contributing to a DAF, a donor immediately receives a tax deduction. To claim this deduction, your tax returns should accurately reflect any deductions claimed, which is why it’s crucial to maintain comprehensive documentation of your contribution.
In the same way that the sponsoring organization or the grant recipient may include the contribution in its bookkeeping data, you’ll need to maintain your own records of the contribution. After contributing to a DAF, you should also receive an acknowledgment letter from the sponsoring organization that includes:
- The amount donated
- The date of the contribution
- A statement confirming that no goods or services were provided in exchange for the contribution
It’s important to note that donors receive a tax deduction when they contribute to the DAF, not when the sponsor distributes it to a nonprofit.
When it comes to giving a significant donation to the causes you care about, you’ll need a thorough understanding of DAFs before taking part in this powerful funding opportunity. DAFs provide many benefits, but aren’t the only way you can make a difference with your funds. Consider the guidelines surrounding this opportunity before determining whether or not DAFs are right for you.