The professor and specialist in nonprofit law and philanthropy talks to Michael E. Hartmann about whether private foundations got a better or worse bargain in the 1969 Tax Reform Act than donor-advised funds (DAFs) got in the 2006 Pension Protection Act, the benefits of “bright-line” rules in the context of the public-support test loophole specifically, but also others in philanthropy and nonprofitdom, and the “low-hanging fruit” of closing DAFs’ public-support test loophole compared to other contemplated reforms.
Benjamin M. Leff is a professor at American University’s Washington College of Law, which he joined in 2009 and before which he was a visiting assistant professor at Harvard Law School. Leff’s scholarly interests include U.S. federal tax law and how it and its implementing regulations apply to philanthropic and other nonprofit organizations.
He practiced law at Vinson & Elkins in Austin, Tex., from 2001 to 2007. He joined the firm after clerking for federal judge Douglas P. Woodlock in Boston. His Yale Law School degree followed completion of the Ph.D. coursework at the University of Chicago Divinity School.
In Leff’s recent “Getting Donor-Advised Fund Regulation Right: Closing the Public-Support Test Loophole,” he examines donor-advised funds (DAFs) and the loophole that DAF law and regulations create that allows donor avoidance of the public-support test to which they would otherwise be subject. He recommends a “bright-line” rule that would close the loophole, consistent with a 2017 Treasury Department notice, and which he maintains would actually further the at-least stated charitable purpose of DAFs.
The engaging Leff was kind enough to join me for a recorded conversation about these and related issues last week. In the first part of our discussion, which is here, we talk about the history and purpose of the public-support test, the “Grand Bargain” of the 1969 Tax Reform Act and the “new bargain” of the 2006 Pension Protection Act (PPA), and potential explanations for the use of DAFs to avoid the test and its ramifications.
The just less than 23-and-a-half minute video below is the second part, during which Leff discusses whether private foundations got a better or worse bargain in the Tax Reform Act than DAFs got in the PPA, the benefits of “bright-line” rules in the context of the public-support test loophole specifically, but also others in philanthropy and nonprofitdom, and the “low-hanging fruit” of closing DAFs’ public-support test loophole compared to other contemplated reforms.
There are some ways in which DAFs got a better bargain with the PPA than private foundations did with the ’69 Act and some ways in which DAFs got a worse one, according to Leff.
“One of the insights that motivated me to write this paper,” however, he tells me, is that some of “these bright lines, these really clear rules that make it harder to use DAFs for self-dealing,” for example, “benefit the DAF market. I think it actually increases the attraction of DAFs for the vast majority of people using those DAFs because it separates out the people who are going to use it for self-dealing purposes and most people [who] don’t want to use it for self-dealing purposes.” Most people “want the institution that they trust to be making good rules to keep it clean, so to speak. … By creating more strict rules, they actually benefit the use of DAFs” for the proper purposes.
“The primary benefit of a DAF is good old-fashioned economic efficiency,” according to Leff. “You can reduce the administrative costs, which in effect are lost costs. In some cases, you can reduce those administrative costs if what you’re doing is relatively simple because you have economies of scale and scope in these big organizations creating these little funds.”
The current legal and regulatory system’s “opportunity to use DAFs in an abusive way, I think, is bad for the donor-advised fund market, because the benefit of the donor-advised fund market is it has simplified, clear rules to prevent some abuse,” he says.
“I’ve carved out what I think of as the ‘lower-hanging fruit’” of reforming the public-support test loophole “for this paper,” Leff continues. “I’m pretty committed to writing another paper where I deal with these more-complicated things and I’ll just preview what they are,” he says, before describing DAFs’ delayed-benefit and anonymity problems.
The delayed-benefit problem arises from the fact that, while deductions for donations to DAF providers are taken immediately, those donations needn’t be given in turn by the provider to any actual charity within any specified period of time. “In the ‘Grand Bargain,’” he explains,
private foundations are required to distribute—this is a simplification—five percent of their assets every year to public charities. They can’t just sit on a hundred percent of their assets year after year after year. Donor-advised funds are not subject to that distribution requirement, so theoretically, donor-advised funds could sit on their assets and just let them grow year after year after year. … That’s a very substantial area of concern for the critics of donor-advised funds. I’m not saying they’re wrong, for sure. I’m saying that’s a much more-complicated issue.
The anonymity problem arises from the fact that DAF account-holders can, by funneling a donation through the DAF-mechanism conduit, simply avoid any public transparency of the gift—again, unlike private foundations. Leff thinks this a complicated issue, too, also worth further exploration.
Perhaps with bright lines of its own, but those too can cause complications. “The argument for bright lines is you create the bright lines and that pushes people who want to do the more-complicated stuff into other existing structures,” according to Leff. “In this case, that other structure is the private foundation. Then, it’s a separate question: do we need to reform the private-foundation rules to prevent abuses that we’ve now pushed into the private foundations?”
