Here’s a short quiz: what’s the largest public charity in America? If you guessed the Salvation Army or the Red Cross, you’d be wrong.

That distinction belongs to the Fidelity Charitable Gift Fund, which dethroned the reigning United Way Worldwide in 2016 with a gargantuan $4.6 billion in contributions. Charity is always a ’changing, and American philanthropy has been seized by donor-advised funds, or “DAFs,” like the ones Fidelity Charitable provides.

In recent decades, these once-tiny and obscure funds have grown to a multi-billion-dollar behemoth and ushered in tens of thousands of new donors of more-modestmeans. Since 2012, total contributions to DAFs have risen by nearly $10 billion to a massive $23 billion, according to the National Philanthropic Trust, a leading DAF provider. In 2016 alone, DAF contributions increased by an impressive 7.6%.

And that growth dwarfs private foundations, until recently, America’s traditional philanthropic vehicle.

From 2010 to 2017, donations to donor-advised funds grew from just 4.4% to 10.2% as a share of overall individual giving. Foundations continue to spend more charitable dollars each year. But in 2017, donor-advised funds were only one-tenth the size of foundations by total account assets—about $85.2 billion in DAF assets—versus $865 billion in foundation assets—but they paid out one-third as much money as foundations.

The effect couldn’t be more pronounced: today’s philanthropists are as likely to be recent retirees as captains of industry—a new phenomenon hardly known in the days of big-industry moguls like Henry Ford, John D. Rockefeller, and Andrew Carnegie. Accordingly, some observers have hailed DAFs for “democratizing philanthropy,” historically the purview of rich elites, by offering low-cost alternatives to four- and five-figure donors who can’t afford their own foundations.

DAFs, of course, are hardly unregulated by the IRS, as the agency’s many pages of DAF rules will attest. But critics allege that donor-advised funds are the Wild West of philanthropy—rapidly growing and less regulated than foundations, with relatively few established norms or industry standards compared with older philanthropic vehicles. They’ve proposed a host of changes ranging from self-regulation to instituting strict IRS rules for DAF providers.

Not all regulations are created equal, however, and there’s a case to be made for leaving DAFs alone—don’t fling the baby with the bathwater, as they say.

We’ve gathered three of the most-serious, and arguably feasible, reforms suggested by experts and examined their pros and cons, along with a few other opinions from industry insiders. Our goal: determining what’s best for the future of philanthropy.

A popular philanthropic vehicle

DAFs can be described as a kind of “charitable savings account” managed by a tax-exempt, Internal Revenue Code § 501(c)(3) nonprofit—the DAF provider or sponsor—that houses and manages the funds. Donations to the provider for a DAF are tax-deductible, like donations to any other 501(c)(3) public charity.

Here’s where the “savings” part comes in: DAF providers track individual donor accounts, invest their grants in large, tax-free investment pools. They hold the funds until donors specify where they wish to make grants. It’s an effective way for small-dollar donors to grow a modest endowment into an impressive legacy, since funds can be left to grow in DAFs indefinitely—and donors receive the tax-deduction up-front.

Depending upon the DAF provider, the minimum investment required to open an account can be as low as $5,000, and many only charge management fees (usually 1% of the account balance). Contrast that with the roughly $15,000 it costs to start a new foundation, plus ongoing operating and legal expenses, and it isn’t difficult to see why DAFs quickly became a preferred philanthropic vehicle.

Since 2012, the country’s aggregate DAF payout rate has exceeded 20%; in contrast, one expert estimated that foundations averaged an annual payout rate of just 11.6% between 2008 and 2011.

There are all sorts of donor-advised fund providers. The largest are associated with commercial investment firms, such as Fidelity Charitable and Goldman Sachs Philanthropy Fund. Community foundations, which service charity in specific regions or cities, often rely on donations through donor-advised funds—including a few toxic ones, like the scandal-ridden Silicon Valley Community Foundation.

Other providers cater to donors with a philosophical bent, such as the conservative Bradley Impact Fund and the left-wing Tides Foundation. Still more cater to religious donors, like the Jewish Communal Fund and the National Christian Foundation. Givers often find these outlets attractive for ensuring that the intent of their donations is preserved. Donors to the center-right provider DonorsTrust, for instance, are assured that their grants will never be improperly used to fund left-wing causes they may oppose, either by the provider itself or the inheritor of their account.

Donor-advised funds are surprisingly old, considering their recent growth in popularity. The first DAF arose in 1931 as an experiment ginned up by Edison Electric general manager William Barstow and his wife in cooperation with the New York Community Trust, a community foundation. The 1969 Tax Reform Act overhauled DAFs as part of its new set of distinctions between private foundations and 501(c)(3) public charities. DAFs only achieved some popularity in the 1990s, though, in large part because other IRS rules had made the creation and maintenance of foundations far too expensive for most Americans.

Donor-advised “dark money”?

The ease of giving isn’t the only appeal afforded by DAFs. By their very nature, donor-advised funds offer a blanket of anonymity to their donors since watchdog groups (like the Capital Research Center for which we work) can only track donations into and out of the provider—but not who directed the final grants to be made from individual accounts. Similarly, IRS rules don’t require (c)(3) nonprofits to publish their own donors’ names, only the donation sums.

The result: observers can see how much a DAF provider takes in annually, as well as to which groups it makes grants, but the DAF accountholder who specified those grants isn’t identified.

Some critics, particularly on the left, have criticized DAFs as “dark money.” They’ve bemoaned right-leaning DAF providers for “avoid[ing] any real scrutiny” and labeled DAFs themselves the “black boxes of philanthropy.” Donor anonymity and nonprofit spending in the 2014 midterms even led The Huffington Post to declare it “the dark money election.”

Whether with 501(c)(3)s—including DAFs—or 501(c)(4) political-advocacy groups, donor privacy is a mainstay of free speech. Perhaps no one said it better than liberal Supreme Court Justice John Paul Stevens, who wrote in 1995 that “anonymity is a shield from the tyranny of the majority.”

(The Capital Research Center has received grants from the Fidelity Charitable Gift Fund, the National Christian Foundation, the Jewish Communal Fund, the Bradley Impact Fund, and DonorsTrust—all DAF providers.)

Experts have raised legitimate criticisms of donor-advised funds, namely the issue of “warehousing” tax-exempt money that’s supposed to be spent on charity. There are a few reasons for this.

Under current IRS rules, private foundations may satisfy their annual 5% payout requirements by donating to DAFs. DAFs, however, aren’t subject to annual payout minimums. Consequently, charitable dollars can be bottled up in donor-advised funds for an indefinite period if donors choose not to advise grants to other public charities.

“I and others are concerned about individual DAF accounts sitting dormant,” Paul Streckfus, editor of the nonprofit-focused EO Tax Journal, told CRC. “Money should get to a charity that’s actually engaged in charitable activity, rather than sitting on cash for years on end.”

And managing that big pot of cash can be highly lucrative for the administrator. “DAF sponsors now have a pot of $100 billion (and growing) from which they can make money administering and investing,” Streckfus has pointed out elsewhere. “At the end of the pipe some charity money comes out but how much is siphoned on the way?”

Proposal 1: delay tax-deduction benefits

Perhaps the most hands-off way the IRS could nudge DAFs into cycling out money faster would be by delaying their donors’ tax deductions until after grants are distributed from their DAF accounts. While all three policies examined here share the same goal of reducing DAF stockpiling, this one uniquely aims to do so without violating donor privacy or placing an undue burden on donors or providers.

The obvious advantage to a tax-deduction delay is in incentivizing donors to move their money in-and-out of a donor-advised fund as quickly as possible, so they can claim their tax write-offs—which is, of course, a big reason to use a DAF in the first place. Arguably, that satisfies Congress’s original intent for tax-deductibility of charitable giving because the funds reach charities much faster than they otherwise might, given most donors’ desire to take the write-offs without delay.

Two additional advantages stand out: delaying deductibility wouldn’t harm donor anonymity; neither would it discourage giving of non-cash gifts such as held stock or real estate—unfortunate side effects of other proposals.

So what’s the catch?

To begin with, delaying deductibility may be a relatively gentle option, but donors are sure to see it as ham-fisted. Then there’s the paperwork that would be needed to keep track of who gets how much—which could be quite a burden for everyday accountholders. Even Boston College Law School professor Ray Madoff, a DAF critic, recognizes that “many small donors use [donor-advised funds] to simplify their recordkeeping,” adding that most of them already “distribute close to 100 percent [of their DAF accounts] each year.”

Instead of cutting one check to their DAF account and writing it off on their taxes, those givers would be required to record possibly dozens of donations from their DAF accounts. That sounds a lot like punishment for doing good.

That’s not all. Delaying deductibility would take the “savings” part out of “charitable savings account.” Let’s not forget that much of the appeal of DAFs is that donors can grow their endowment in a tax-free piggybank before giving it to their preferred charities. If a person can’t take the charitable write-off immediately, they aren’t likely to wait years while their investment doubles or triples in a donor-advised fund. That could shrink grants to charities.

Worse, it would make donor-advised funds the “dark money ATM” that places like Mother Jones claim they really are. Stripped of their investment rewards, DAFs would become valuable for only one purpose: hiding donor identity. In effect, DAFs would become the money-washing monsters critics claim they are.

Proposal 2: don’t let DAFs satisfy private-foundation payout requirements

A second proposal attempts to tackle “warehousing” from another angle: private foundations.

Under IRS rules, most private, “non-operating” foundations are obliged to distribute at least 5% of their average net assets annually in grants to 501(c)(3) public charities. The idea of a foundation payout rule is to set a minimum amount a foundation has to spend on charitable causes, rather than simply hoarding its cash indefinitely.

But IRS rules don’t stop a foundation from granting enough money to a donor-advised fund to satisfy that payout minimum. Theoretically, a foundation could skirt the payout minimum by parking funds in a DAF, since DAFs are hosted by (c)(3) public charities, and never send the money on to actual charities.

That would meet the letter of the payout rule, but obviously not the spirit behind it—exactly the opposite outcome intended by the payout minimum. As nonprofit consultant Alan Cantor told The Atlantic’s Alena Semuels, some philanthropists set up DAFs so that, in Semuels’ words, “their children could disperse the funds and learn about philanthropy—they had no intent to spend the money in their own lifetimes.”

If private foundations are using DAFs to prevent nonprofit grantees from “tipping,” that would be against the spirit of the rule, too. “Tipping” occurs when an overly large grant under IRS rules, from either a private foundation or individual contributor, causes the grantee to lose public-charity status. The rules are complicated, but basically, a nonprofit “tips” when it violates the IRS’s “public-support” test because too much of its support comes from one funder. DAFs might allow foundations to make it look like the nonprofit has more than one funder, avoiding the concern.

There are legitimate reasons a foundation may set up a DAF, though. The foundations subject to the 5% payout rule are usually funded by a single donor or family—different from, say, a community foundation, which receives funding from potentially dozens of givers. Those donors may appreciate the anonymity of a DAF in order to avoid being harangued by nonprofit grant requests. Individuals who give to conservative or liberal causes may also wish to divert public scrutiny. Who wants to suffer the harassment endured by donors like the Mercers or the Kochs?

Barring foundations from using DAFs to meet their minimums would effectively put a price on their anonymity—now there’d be a government-imposed cost to using DAFs. That’s a surcharge on free speech.

Consider, too, that it would really be a regulation of foundations, not donor-advised funds. One expects donors with private foundations would be strongly opposed to the rule, but DAF providers who rely upon foundation clients would also lose out. Foundations would be facing an IRS, moreover, newly empowered to distinguish among types of (c)(3) recipients—which, considering the way it has exercised its powers already, certainly wouldn’t bode well for the future.

Proposal 3: create DAF payout requirements

The first two proposals dealt obliquely with donor-advised fund hoarding by targeting donors and foundations, respectively. But what about forcing DAFs themselves to spend cash after a fixed number of years?

There’s been at least one congressional effort to enact a spend-out law in the past: Rep. Dave Camp’s (R-Mich.) Tax Reform Act of 2014. Among other nonprofit regulatory changes, the bill would have forced DAF providers to disburse funds over five years or face a 20% excise tax.

As might be expected, DAF providers such as DonorsTrust and the Vanguard Charitable Endowment Program opposed Camp’s spendout rule, arguing that their annual payout rates were already high enough, thus no new rules were justified. “DonorsTrust already has a high payout rate, reaching 68% in 2018,” DonorsTrust president Lawson Bader told CRC. “That reflects our client base, which is actively philanthropic.”

Bader asserts that scrutiny shouldn’t fall on DAF payout rates, but rather on foundations’ enormous assets, which far outstrip those of DAFs. In that light, he says, DAF spendout rules are “a solution in search of a problem.”

Moreover, writes C. Eugene Steuerle of the Tax Policy Center (jointly run by the Urban Institute and Brookings Institution), spendout rules “would effectively eliminate most donor-advised funds” and, consequently, the 600-plus community foundations nationwide that greatly depend upon them.

There would be a few advantages to a DAF spendout rule. For one thing, it would likely increase the annual average payout rates of the DAF industry as a whole—to some, a key measure of its philanthropic success. (Recall that donor-advised funds already far outpace foundations in annual payout rates—22.1% for DAFs in 2018, vastly higher than the IRS-imposed 5% minimum at which foundations often linger.)

The rule would also serve as a kind of blanket sunset provision for all donor-advised funds, since in the long run, all accounts would invariably close as donors spend down accounts or die. That may or may not be beneficial, depending on your perspective; proponents of sunsetting in philanthropy overall tout it as effective in preserving donor intent and preventing potential abuse. Whether these good arguments are more applicable in the specific context of DAFs, however, is an open question.

There would be drawbacks to a DAF-specific mandatory spendout. Policing DAF expenditures could lead the IRS to eventually force providers to open the books on their customers’ accounts in order to prove they’re spending them down—impinging on donor privacy.

Enforcement would be all stick and no carrot. It would be “illogical” to impose an overall spendout rule on the provider, argues Madoff. Instead, the spendout obligation should fall on individual DAF donors. In short, here too, compliance with the rule would really fall upon donors.

Besides slapping noncompliant providers with excise taxes, the IRS could also ban cryptocurrency donations, which are growing rapidly (Fidelity Charitable has received a hefty $106 million in such donations since 2015). Other possibilities include banning DAF donations of privately held stock, in-kind gifts, and real estate, leaving only cash donations—an extreme action.

Alternatively, the IRS could require DAF providers to sell non-cash assets within a reasonable period, making the proceeds subject to spendout stipulations. That could initially streamline giving for some providers, but it would also harm donors who wish to maximize the value of their real estate or stocks prior to selling them—as opposed to donating them and letting a DAF provider manage the assets until they’re sold.

Forcing the sale of non-cash assets could cripple donations to DAF providers that specialize in such gifts, such as the National Christian Foundation (NCF). “I can’t imagine why we’d want to limit charitable giving to cash and publicly traded securities when the vast majority of givers’ wealth is held in non-cash assets and they’re willing to give it away,” NCF president emeritus David Wills told us. “We want to encourage extravagant generosity, not cordon off a significant part of our donors’ wealth.”

There’s the threat of noncompliance, too: given the inevitable IRS penalties for failing to dispose of assets on time, what DAF provider would assume the risk of accepting them? Whichever way you slice it, such prohibitions would damage giving tremendously.

Alternatives to the alternatives

Of course, these are just three proposals among many introduced by experts—virtually all of whom, such as Cantor, acknowledge that “DAFs play an important role in encouraging effective charitable giving.”

It’s not even clear that adding new regulations is politically achievable, given the vast resources of “commercial” providers like Fidelity, Vanguard, and Schwab. “To be honest, I really think the lobbying effort of the commercial providers would be massive. It’s the ‘golden goose’ they have,” Streckfus said.

Do donor-advised funds need further regulation at all? No, according to a bevy of major community-foundation executives, who wrote last August in Nonprofit Quarterly that “a few bad examples [shouldn’t] distract from the fact that DAFs are also a vehicle that raises billions” of dollars for genuine charitable causes.

The proposed changes that we hear most about have focused almost exclusively on one dubious notion—namely, that DAFs stand between donors and the charities they support. This notion, in turn, has spawned proposals that are designed to curb giving to DAFs in favor of direct gifts to charities. Such moves, however, we fear, would ultimately have the opposite effect.

Instead, industry insiders might consider self-regulation as an alternative to heaps of IRS rules. Faced with concerns about stockpiling donations, providers could take steps to avoid holding funds in perpetuity by enforcing sunset dates on all accounts. DonorsTrust employs such a model, limiting the number of generations who may inherit a donor-advised fund in order to avoid compromising the original donor’s intent.

We should also recall that it was the IRS’s decision not to inflict upon DAFs the kind of costly regulations that the agency applied to foundations which made DAFs more attractive to donors in the first place. The relatively light regulation has been and remains central—not incidental—to the success of donor-advised funds.

There’s a strong case to be made that DAFs are a net good for philanthropy, despite their flaws. That’s not to say there are no good changes to be made to DAFs—only that avoiding unintended consequences must be central to any DAF reform.

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