Restricted gifts and endowments play an important role in enabling nonprofits to address specific needs and provide for their short- and long-term financial health and stability. In a recent webinar, Yosef (Yossi) Ziffer, a partner in Venable's Transactional Tax and Nonprofits Practice Group, delved into restricted gifts, endowments, and some of the interesting opportunities, quandaries, and scenarios that these funds present for nonprofits.
The discussion covered key legal concepts, strategic decisions, and practical advice related to the procurement, use, and management of restricted and endowed funds, including how to best position your organization to reap the benefits of these forms of charitable support. Yossi also discussed real examples of ways in which nonprofits have been aided and, in some cases, limited by the terms governing restricted funds.
How can both the donor and the organization ensure that their interests are protected and represented while acting in good faith with each other? What steps should the donor take to ensure that their wishes are fulfilled? What steps should the organization take to best position itself in case circumstances change in the future, and is the purpose of the gift no longer as relevant?
In a sense, all gifts to charity are restricted. The benefits and privileges of tax-exempt status, and the ability to receive charitable contributions that are deductible to the donor, are inherently subject to limitations. In order to qualify under Section 501(c)(3), a nonprofit must be organized and operated in furtherance of at least one of the purposes that the federal government has deemed to be charitable. There are limits under the law as to what an organization can and cannot do with a charitable gift.
There will always be certain restrictions built in. When a donor makes a gift to charity, the terms of the gift instrument (the document pursuant to which the gift is made) will establish the allowable parameters for how the gift can be used.
In a technical sense, the authority of any particular charity to engage in activities is further defined by the provisions of that organization's charter and other governing documents. And in the absence of more specific documentation focused on the gifts, the overall governing documents of the charity themselves could be invoked by a donor as a type of gift instrument, establishing the donor's expectation as to how the gifts would be used.
When the donor and nonprofit are ready to finalize the charitable gift, it's critical that they enter into a well-crafted gift agreement. This is an important step for both parties because putting the agreement in writing will focus everyone on the definitive terms of the agreement and thereby help avoid any misunderstandings and hopefully prevent any disagreements in the future.
The gift agreement should spell out the basic elements of the gift – how much is being given, the payment schedule, the permissible forms in which the gifts will be paid, and anything else the parties wish to memorialize in connection with the donation.
A restricted gift is subject to additional gift-specific restrictions as agreed to by and between the donor and the charity. For a restricted gift, the statement of restriction will be just as important as the key terms of the gift agreement. Pay careful attention to how the restriction is drafted on paper because going forward, the terms of the contract will govern how the gift can be used. Once a gift is made by a donor to an organization for an agreed upon purpose, the organization is legally bound to use the gift for that purpose, regardless of which party introduced or initiated the concept of the restriction. Gift agreements may also include reporting obligations to specify how the nonprofit keeps the donor apprised of how the gift is being used, particularly for a gift that is subject to an ongoing restriction.
To best protect the nonprofit, the gift agreement should also address what happens in the future if circumstances change and the originally stated purpose becomes less viable. While the nonprofit may be interested in carving out additional flexibility, the donor may want to build in additional safeguards to ensure that the originally stated purpose is upheld in the future
An endowed gift or endowment consists of institutional assets that are not wholly expendable on a current basis. Essentially, the organization can access those funds from time to time to address financial needs, but the manner in which the endowment is deployed must also consider the fact that the endowment is designed to last indefinitely and in perpetuity. They are a subset of restricted gifts, where the restriction pertains not only to what you do with the gift, but the ways in which the institution can spend the money.
The law that applies to the investment management and expenditure of endowments is the Uniform Prudent Management of Institutional Funds Act (UPMIFA). UPMIFA is a model act developed by a body called the Uniform Law Commission, outside of any particular state legislative process. Forty-nine states plus DC have adopted variations of UPMIFA and incorporated it into their respective statues.
UPMIFA eliminates a prior emphasis on the "historic dollar value" of endowments, so the manner in which a nonprofit is permitted to deploy its endowment can be measured by an overall standard of prudent expenditure, rather than based on any fixed number. While some aspects of UPMIFA apply specifically to endowments, many of its provisions apply more broadly to all institutional funds and to restricted gifts, whether endowed or not. Thus, UPMIFA provides a framework for how charities manage, invest, and expend various types of funds. Nonprofits are also subject to other federal and state laws that establish fiduciary duties that boards of directors owe their organization, but UPMIFA supplements those standards.
Of course, a donor and an institution can always contractually agree to their own terms and conditions when creating an endowment or other type of restricted gift. And in order to do so, the terms of the gift agreement should be explicit so that the intention of both parties is protected.
Conferring with legal counsel is always advised when considering a charitable gift, managing its establishment, and drafting related agreements. Learn more about how Venable's Nonprofit Organizations Practice can help you efficiently navigate this territory.
Yosef Ziffer, Partner, Transactional Tax and Nonprofits