Shrill Debate Over Foundation Bill Puts Some Funds at Risk

To the Editor:

I am deeply distressed by the shrill nature of the debate surrounding H.R. 7’s provision to eliminate administrative expenses from qualifying distributions of private grant-making foundations (“Two Groups Oppose Foundation Measure.” June 26). This highly emotional discussion is based on perception, rumor, and innuendo, and bears no relationship to what good decision making grounded in fact-based research might look like. The funding and service-delivery sides of our sector both argue mightily for research-based decision making, yet we can’t apply the same standard to deciding whether or not to increase the minimum payout requirement, accomplished directly or indirectly.

Fact: With a 5-percent annual payout, private independent foundations must achieve an annualized rate of return of 10 percent or they will by definition erode principal over time. To support a mandated annual payout higher than 5 percent would require an annual rate of return in excess of 10 percent, which is impossible to sustain in today’s markets and nearly impossible to sustain over the long term. Several studies show this.

When this argument is made, the debate suddenly morphs into something else. Parts of the field claim that private grant-making foundations should not exist in perpetuity. Well, it’s a little late in the day to make that argument, when many of the people who created these organizations stipulated in their wills that the foundations that carry their names exist in perpetuity and charge the governing boards with making sure that they do.

The next response runs something like this: Well, a dollar spent today is worth more than a dollar spent tomorrow. Jessie Ball duPont left a corpus of $42-million when she died in 1970. That corpus is worth $250-million today, and the foundation created with her money (which I head) has given away $210-million in grants since 1977 — five times what she left to the foundation. I trust that the organizations that continue to receive these dollars appreciate the fact that Mrs. duPont created a perpetual foundation, and that the trustees of her estate have invested the fund’s money wisely.

Another response gets more curious, and runs something like this: We don’t need to worry if foundations spend themselves out of existence because the nation creates new wealth all the time, and the wealthy will continue to create new giving vehicles. I wonder. With our constant reformation of the U.S. tax code, coupled with the elimination of the estate tax, what incentives will people have for giving?

Fact: Members of the House Ways and Means Committee claim that the provision is designed to curb financial abuses, especially excessive executive and trustee compensation and high rents. Obviously, this country experienced great growth in the number of family and independent foundations in the 1990s, and only a fool would argue that no financial abuses exist. But since we have no study of this issue, we have no understanding of how big or how small, quite frankly, this problem might be. For the record, the Internal Revenue Service already has the regulatory authority to disallow any administrative expense that is not “reasonable and necessary,” and it ought to use its authority to punish those who are guilty of abuse. We ought to insist on this enforcement.

Fact: Constant attention to the 10-, the 25-, and the 100-largest foundations, together with attention paid to the average administrative expense, tells us almost nothing that is useful. It doesn’t tell us anything about the majority of private grant-making foundations that are small and what they include in their administrative expenses.

Many foundations, the one I serve included, operate under donor restrictions that do not allow us to show certain expenses as grant expenses, because those eligible to receive support must conform to a specific list of organizations, a specific geographic area, or a specific field of interest. Consequently, we incur program expenses that we show as administrative expenses, and we include in these expenses such items as hiring consultants to work with grantees, funding research studies, convening public forums, publishing reports and a Web site, and paying membership dues, which includes not only the Council on Foundations and affinity groups, but also the creation and support of nonprofit centers. We also make frequent site visits.

Sad fact: At the end of the day, the current debate omits all discussion of donor intent and direction, suggests that all administrative expenses narrowly support internal operations and thus cannot be justified, and misses the glaring, obvious evidence that increasing private-foundation giving — whether we do it directly by mandating an increased payout rate or indirectly by disallowing administrative expenses — will not replace the loss of public dollars for support of nonprofits that serve vulnerable populations, especially the homeless, frail elderly, and children.

In the end, the country’s largest foundations will be fine, but we will do irreparable damage to smaller, less well-endowed foundations, all based on shrill rhetoric, a few egregious examples of poor stewardship, and a public that wants desperately to believe that private giving will bail us out of this mess we’re in.

Sherry Magill
President
Jessie Ball duPont Fund
Jacksonville, Fla.

To the Editor:

In your June 26 issue you ran a number of letters regarding H.R. 7, which would on the one hand reduce the excise tax on foundations from 2 percent to 1 percent and on the other increase the minimum foundation payout by eliminating from the equation reasonable administrative expenses.

One writer claims the 5-percent payout rule leaves “at least $520-billion locked away, unavailable for charitable use.” But it is that $520-billion, or whatever the number might be, which produces the 5 percent that is used for charitable purposes. Without the endowment, the question of payout is moot.

The writer further states that only community foundations should be allowed to exist in perpetuity, in part because they have “to pass the same public-support test required of other charities but not of private foundations.”

This comment misses the point. The fact is that community foundations have a more lenient test to meet than private foundations.

The IRS considers community foundations to be traditional charities and they therefore are required to meet the public-support test, not the minimum payout requirement. That also means community foundations can pay out less than 5 percent, while private foundations cannot.

Another letter writer states that “we are talking about foundations that are sitting on millions, made when the going was good. …Come on, how big must the asset ‘mountain’ be before taking a little off won’t cause an avalanche?”

The key here is again the minimum-payout requirement. Private foundations can pay out more than the minimum in any year, but can never pay less than the minimum regardless of whether times are good or bad.

Were private foundations permitted to pay out less in years of low or negative returns, it might make sense to ask that they pay out more in good years. Since that is not the case, the sensible payout rate is one that allows growth of income over time, while paying reasonable amounts annually.

There seem to be two main philosophical points of view regarding payout — 5 percent including, or 5 percent excluding, reasonable grant administrative expenses. Regardless of which side a person is on, there is one unassailable fact: A 5-percent payout rate is the maximum that also insures endowment growth over the long haul given historical returns on investment plus cost of living plus investment expenses.

Those who believe increasing the payout rate above 5 percent will increase dollars going to charitable organizations are, in the short run, correct. In the long run, they are wrong. And those who believe private foundations should not exist in perpetuity undervalue long-term financial support for charitable organizations.

Perhaps a better approach to this question of payout would be to ask the nonprofits if they would prefer that the private foundations be put out of business.

Art Thompson
President
Cooper Foundation
Lincoln, Neb.