[Question] Pros/Cons of Donor-Advised Fund

by zdgroff1 min read22nd Apr 201912 comments

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My fiancé and I are thinking of starting a donor-advised fund, as we'll be getting a lot of gifts for our wedding and have some recent sources of income we want to donate at least a substantial portion of. What are the pros/cons?

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If you are an advanced investor or getting advice from one, a big problem with DAFs is that they generally have limited investment options. When I evaluated them in ~2010, I found that the lower expected return in the DAF would consume the tax advantage in a few years. However, then we found the Community Foundation in Boulder (you don't have to be in Boulder, but you probably have to be in the US), which actually gives investment freedom. Though there are fees, they are significantly less than the initial tax advantage plus the advantage of being able to grow tax-free. I have been using this DAF since 2015 and it has worked well.

How did you estimate the expected return in a DAF vs. unconstrained?

Calculate the expected return of the investments based off a 7 year mean reversion (GMO) or 10 year mean reversion (Research Affiliates).

Cool! Does that mean you're overweighting emerging markets?

One concern I have with the Community Foundation in Boulder is it's not clear how committed they are to letting donors direct money however they want. Unlike the national DAF providers (Schwab, Vanguard, Fidelity), it seems like there's a decent chance they will at some point change their mind and decide you are only allowed to give to the causes that they like. How are you thinking about that risk?

I'm fairly sure I could change custodians if that happened (like people can do with retirement accounts).

I don't think that's how DAFs work? I believe the DAF legally owns the money and can do anything they want with it. You can ask them to donate the money to a different DAF that you created, but they have the right to refuse to do that.

I confirmed with them that the donor has the control of where the money goes, unless they deem it a hate group. And they are also okay with transferring to another DAF.

Good to hear, thanks for confirming!

I work in philanthropy at an effective animal welfare nonprofit. Here are my thoughts on DAFs:

PROS: DAFs have the benefits of having your own foundation (including enabling you to give over any number of years and have tax benefits) but without the administrative burden. DAFs can create a barrier between the donor and the nonprofit (i.e. if you don't specify who you are, the nonprofit can't contact you) which could be a pro or a con.

CONS: the nonprofit doesn't receive names and contact info for the people who donate to your DAF. If an individual makes a donation to your DAF in honor of your wedding, the nonprofit doesn't know that s/he donated and may miss out on the opportunity cultivate her/him as a donor. You may be able to circumvent this, though, by asking your wedding guests to opt into sharing their names/contact info and then passing that info along to the nonprofit. At the nonprofit where I work, we've had repeated success with converting wedding donors into lifetime donors.

A knowledgable EA friend of mine has suggested using DAFs for the limited purpose of donating appreciated stock to organizations that do not routinely handle such requests. He said at Vanguard, you can open a DAF, donate your appreciated stock to the DAF, instruct the DAF to donate the appreciated stock to the organization(s), and then close the DAF.

You can find some more reliable information here, though not from an EA perspective.

https://www.bogleheads.org/wiki/Donor_advised_fund

Some links if you haven't seen them yet:

https://reducing-suffering.org/advanced-tips-on-personal-finance/

https://80000hours.org/2013/06/how-to-create-a-donor-advised-fund/

I don't use a DAF but I've considered it in the past. In my view, the chief advantage is that they allow you to claim the tax deduction when you deposit money into the DAF, before you actually make the donation. They're also exempt from capital gains taxes, although you can also avoid capital gains taxes by donating appreciated assets directly to the charity, but that depends on whether the organization will accept them (not sure how universal this is). They also charge fees, which can be fairly expensive but are cheaper than capital gains taxes on expectation.