Should you choose a private non-operating foundation for your philanthropy?

When it comes to choosing the right vehicle for your philanthropy, the good news is that you have many options. The challenge, of course, is deciding on the best vehicle for your unique philanthropic goals—and the one that stands the best chance of protecting your donor intent

One of the more popular philanthropic vehicles chosen by donors is the private non-operating foundation. “Non-operating” simply means that your foundation’s primary goal is to make grants to nonprofits, not run by your own programs. The largest and most well-recognized foundations—Ford, Gates, Packard, Rockefeller—are structured this way. But so are tens of thousands of others, many of them very small. 

Typically, a private foundation derives its endowment from a single source—an original wealth creator, a family, or a corporation. Authority is vested in a board of trustees, working in compliance with state and federal laws in addition to the philanthropy’s own bylaws, trust agreement, or articles of incorporation.

Non-operating foundations: How they work

This type of foundation is required by federal law to:

  • Make an annual distribution of at least 5% of assets
  • Pay an excise tax on investment income
  • Limit the percentage of business enterprises it owns
  • Avoid self-dealing and grants to partisan political organizations
  • File a 990-PF tax return

With a non-operating foundation, you’ll be able to claim a charitable deduction up to 30 percent of adjusted gross income (AGI) for cash donations and up to 20 percent of AGI for appreciated securities and other property. These donations have a five-year carry-forward period. Publicly traded stock may be valued at fair market value, while other types of property may be valued at cost only.

Two options for non-operating foundations

If you decide to use a private non-operating foundation as your philanthropic vehicle, you have two structural options: a charitable trust or a not-for-profit corporation, both of which are treated similarly by the Internal Revenue Service. Each structure has advantages and disadvantages that bear directly on donor intent, so the appropriate one for you depends on your objectives, your tolerance for change, and your desire for flexibility.

Pros and cons of non-operating foundations

Private non-operating foundations offer both benefits and drawbacks:

PRO: Flexibility, autonomy, and control

Private foundations offer you considerable leeway to operate and allocate your charitable dollars as you see fit, largely free from government interference outside of legal regulations and mandatory reporting. You define your foundation’s mission, choose its lifespan, make investment decisions about its endowment, and hire staff to manage grants and financial matters.

PRO: The ability to create a family legacy

If one of your chief goals is to create a philanthropic legacy for your family, a private non-operating foundation may be the right choice. This vehicle can extend your giving through future generations, involving children and grandchildren in governance and grantmaking. Of course, family foundations also pose certain risks for family peace, and for donor intent.

CON: Malleability and impermanence

For donor intent, the freedom of non-operating foundations poses challenges. Depending on how you structure it, future boards of trustees may amend your entity’s mission, bylaws, articles of incorporation, operations, leadership, and so forth in ways that counter your wishes.

CON: Increased complexity and risk of bureaucratic bloat

The IRS demands substantial reporting and paperwork from foundations, and some states, like California, also require annual audits. You will likely need help complying with state and federal regulations and filing appropriate reports. Hiring professional staff can pose challenges for donor intent, is costly, and requires human-resource management and compliance with employment laws. In larger private foundations, a complex staff structure can contribute to bureaucratic bloat.