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IRS and Treasury Release Proposed Regulations on Donor Advised Funds

By:
Veronica Aksu and Amarah Sedreddine
Published Date:
Apr 1, 2024

Another seismic development occurred just before the end of 2023 as the Treasury Department and Internal Revenue Service released proposed regulations on donor advised funds (DAFs). The release of the proposed regulations was significant not least because of how long the sector has been operating without meaningful guidance in this area. It has been over 15 years since DAFs were first legally defined and specifically regulated with the addition of Section 4966 and related provisions of the Internal Revenue Code as part of the Pension Protection Act in 2006.

A DAF is, in brief, a separately identified fund or account that is legally owned by a public charity (called the “sponsoring organization” or “sponsor”) but over which the fund’s donor continues to exercise certain advisory privileges with respect to the distribution or investment of fund amounts. The Pension Protection Act imposed limitations on the use of DAF funds; generally, restricting any distribution of DAF funds to grants to public charities. Grants to organizations other than public charities can only be made if the sponsoring organization exercises “expenditure responsibility” to ensure that the funds are used for charitable purposes. The statutory regime also imposes excess business holding limitations on DAFs, as well as excise taxes on certain transactions between the DAF and its donor and related persons (or transactions that confer a “more than incidental” benefit on such persons).  

Though DAFs have existed in the charitable sector for nearly a hundred years, DAFs exploded in popularity in recent years, with over $85 billion contributed to DAFs in 2022 according to the National Philanthropic Trust.[1] With these proposed regulations, the IRS finally re-entered the fray with a perspective on DAFs that seemed to be premised on a deep mistrust of this philanthropic model – with the potential to result far-reaching consequences for the charitable sector as a whole.

One of the aspects of the proposed regulations that immediately garnered significant attention was a new rule that would categorically sweep a donor’s personal investment advisor into the group of people with whom the DAF is prohibited from engaging in any type of paid arrangement. This means that a donor’s personal investment advisor would not be able to receive any compensation (no matter how reasonable or even beneficial) for their services to the DAF without triggering excise taxes. If implemented, such a rule would require several sponsors who have begun offering increasingly tailored and sophisticated options to their DAF holders to curtail their practices.

With time, other more nuanced implications of the proposed regulations began to receive more attention, including the impact that the proposed regulations might have on charitable programming beyond the vehicles traditionally understood to be DAFs. Public charities maintain a variety of funds that are not DAFs (or, at least, have not historically been understood to be DAFs) and which do not pose the same risk of undue donor influence as a typical DAF–for example, field-of-interest funds in which grants are made within a specified interest area. Similarly, several established public charities operate programs to incubate new charitable undertakings (generally referred to as “fiscal sponsorships”). Under the exceedingly broad definitions in the proposed regulations, all these types of structures run the risk of being categorized as a DAF, which could severely curtail, if not completely impede, their ability to operate.

Needless to say, the proposed regulations attracted significant attention from interested parties across the sector–in all, more than 100 substantive comments were submitted before the comment period closed on February 15, 2024. Commenters included sponsoring organizations (both community foundations and more “commercial” DAF sponsors); volunteer members of nonprofit organizations; technology solutions providers for DAF sponsors; and various legal, tax and philanthropic advisors and professionals (including the authors of this article). Although a timeline for the release of final regulations is unclear, a public hearing on the proposed regulations has been scheduled for May 6, 2024.


Amarah Sedreddine is a founding partner of Sedreddine & Whoriskey, LLP and an expert general counsel, providing comprehensive legal counsel and strategic guidance to non-profit clients at all stages of development and operation, across a wide range of tax, regulatory, governance, employment and general corporate and transactional matters.  She is informed in this work by her extensive expertise advising nonprofit organizations developed over the course of her career in the public sector. Prior to founding Sedreddine & Whoriskey, LLP, Amarah held roles as outside corporate counsel to Rockefeller Philanthropy Advisors, assistant general counsel at the Vera Institute of Justice, and associate general counsel at The New York Community Trust.  Amarah served as Chair of the New York City Bar Association’s Nonprofit Organizations Committee from 2019-2022 and is currently Chair of the Government Relations Council of Nonprofit New York.

 

Veronica Aksu is Counsel at Sedreddine & Whoriskey, LLP where she advises nonprofits on a wide range of general corporate and transactional matters. Prior to joining Sedreddine & Whoriskey, Veronica represented nonprofits in a variety of capacities including in-house roles as assistant general counsel at Public Health Solutions and the Center for Court Innovation (now the Center for Justice Innovation) and as a staff attorney at Lawyers Alliance for New York. Veronica began her career as a corporate associate at Sullivan & Cromwell LLP. Veronica currently serves on the Non-Profit Organizations Committee of the New York City Bar Association, where she is an active member of the For-Profit/Not-for-Profit Subcommittee.

 
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