What Is a Donor-Advised Fund?

When a donor invests certain assets in a charity over time, it’s known as a donor-advised fund (DAF). This fund is managed and administered by a third-party institution. There are various reasons why an individual, family or organization might invest in a DAF. Aside from the anonymity and opportunity to have a charitable legacy, DAFs allow donors to receive tax deductions. These benefits help make DAFs one of the fastest-growing forms of philanthropy. Before setting up a DAF, it’s important to understand how they work and differ from other charitable options, their potential drawbacks and the necessary steps to create one.

A DAF is a charitable investment account. Instead of donating directly to a charity, the donor sets up an account managed by a sponsoring organization. Although the organization maintains the account, the donor can decide where and when to donate the funds. Donors can be individuals, families or organizations.

According to the Internal Revenue Service (IRS), the sponsoring organization must be a section 501(c)(3) organization. Unlike other donations, the donor can decide to release DAF grants to IRS-qualified charities later but get tax deductions when they make the contributions to the account.

The New York Community Trust introduced the first-ever DAF in 1931. This philanthropic method grew in 1991 when Fidelity Investments became the first commercial DAF sponsor. It was only in 2006 that Congress created a clear definition of DAF and released regulations through the Pension Protection Act.

The IRS created regulations covering organizations established to generate questionable deductions to prevent abuse of the tax advantages. Proof of these arrangements may lead to IRS disallowing deductions and imposing excise taxes on sponsoring organizations, donors and/or fund managers.

Since its inception in 1931, the popularity of DAFs has significantly increased. According to the National Philanthropic Trust, there were already 1,285,801 individual DAF accounts in 2021. Contributions have also increased to $72.67 billion.

The ease of setting up a DAF and its flexibility to donors make it a good option for charity giving. Donors can choose the organization where their funds go and determine when donations will be disbursed.

The number of grants via DAFs significantly increased in 2021. There was $45.74 billion worth of grants to various charitable organizations. This sets a new record high.

Throughout the years, total grants have consistently shown an increase. The upward trend continued in 2021. The growth in value of DAF grants shows a 28.2% year-over-year increase. In 2017, there were only $19.72 billion in DAF grants.

Source: The 2022 DAF Report

Total contributions also showed an increase in 2021, recording an all-time high of $72.67 billion. This is way over the 2020 value, which is $49.58 billion. Year-over-year growth was 46.6%. Annual five-year growth from 2017–2021 was 23.6%. The average rate of increase from 2011–2020 was 18.1%

Source: The 2022 DAF Report

There were 1,285,801 individual DAF accounts recorded in 2021. This was 28% more than the 2020 total accounts of 1,007,745. The compound annual growth rate in the past five years was 28.5%.

Source: The 2022 DAF Report

DAFs allow individuals to make charitable donations with more flexibility. By setting up a DAF, the donor leaves the management of funds to a sponsoring organization while having control of when and where the funds will be donated. At the same time, the donor immediately receives tax benefits, no matter when the money is disbursed to charity. Depending on the donor, the donation can also grow tax-free through investments.

There are various reasons why DAFs are some of the most rewarding charitable options. Aside from allowing you to support IRS-qualified charities of your choice, you can also enjoy tax deductions as soon as you make contributions. It’s important to remember that DAF contributions are irrevocable. You can no longer take back the funds once you deposit them.

There are different types of assets you can contribute to a DAF. While these may vary depending on the sponsoring organization, certain assets are commonly accepted.

The IRS defines DAF sponsors as section 501(c)(3) organizations. But generally, there are three main types of DAF sponsors — community foundations, single-issue charities and national DAFs.

Many may think of a DAF as a tax management and philanthropy strategy for wealthier individuals or those who belong to higher federal tax brackets. This misconception may be due to some sponsoring organizations requiring minimum contributions. However, most individuals can use it to gain tax benefits while making charitable deeds. What’s important is you know how to optimize the benefits.

Here are some tips you find helpful:

Having a DAF account can help you plan your charitable donations to suit your goals. However, it’s important to find the right provider and charity organization. Taking the right steps can help you avoid making mistakes. Additionally, it can help you have a smooth experience.

Below is a simple guide to help you start your DAF journey.

There are different types of DAF sponsoring organizations. Each one offers advantages. They may also have specific requirements and fees. Make sure you compare your options well to find the right DAF provider based on your financial situation and charity goals.

There may be fees involved. DAF sponsors may charge administrative and investment fees. Some may also have maintenance fees.

Depending on the sponsoring organization, there may also be regulations on how fees are calculated. Typically, higher contributions may have cost more. Make sure you consider these before starting a DAF account.

Once you decide on a DAF sponsor, you can start making contributions. Some providers may have a minimum initial contribution requirement. There may also be organizations that restrict what type of assets you can contribute. Generally, you can deposit cash, stocks, mutual funds, life insurance policies and other investments like cryptocurrency.

You can immediately claim a tax deduction upon depositing your contribution. Make sure you itemize your taxes and deductions properly. Deductions depend on the type of asset. For instance, the limit for itemized deductions on charitable cash contributions is 60% of your adjusted gross income (AGI).

Ultimately, control and maintenance of DAFs are responsibilities. However, donors remain as advising parties. For example, you can choose where to invest your funds. That said, your options are limited to the options provided by your chosen DAF.

Decide on what charitable organizations to support. Donors typically choose where to donate their funds. Ensure you review that your chosen charities are IRS-qualified.

A DAF is only one of the many charitable options available. The best way to donate depends on your preference and goals. If you think a DAF isn’t right, you can opt for private foundations or charitable trusts instead.

Use the table below to review varying options.

Starting a DAF can be a bit overwhelming, especially with the available options. Fortunately, there are various resources you can use to help you make well-informed decisions.

• American Endowment Foundation: Use this list of questions to determine whether a DAF sponsor is suitable for your charity goals.
• Charitable Giving Tax Savings Calculator: Get an estimate of potential tax savings.
• Charity Action Plan: Start planning your charity action plan using this online worksheet.
• Community Foundation Locator: Select your state or use the interactive map to determine what accredited community foundations serve your area.
• Federal Trade Commission Consumer Advice: Get tips on how to choose the right charitable organization. Find out the red flags you should watch out for.
• Give.org: Find a certain charity and check its accreditation using Give.org’s online search tool or alphabetical list of charities.
• Nine Questions You Should Ask Every Nonprofit: Choose the right nonprofit organization with the help of these questions.
• Philanthropy Roundtable Policy Primer: Learn more about donor-advised funds as a charitable giving tool using this comprehensive guide.
• Tax Exempt Organization Search Tool: Use the IRS’ online search tool to find tax-exempt organizations you can choose from.
• Tax Foundation: Stay updated on tax changes.
• FBI.gov: Access various resources on reporting charity scams.