With the expansion of the standard deduction under the Tax Cuts and Jobs Act of 2017, which eliminated the benefit of itemizing deductions, the bunching of charitable contributions is a useful coping strategy, especially when coupled with a donor-advised fund (DAF). The suspension of the Pease limitation (which reduced the value of itemized deductions for high income taxpayers) through 2025 prevents any cutback in the size of the deduction, making the bunching strategy worthwhile.
The donor’s retention of the right to recommend the use of the principal and income accounts of a DAF is very attractive in creating and sustaining a family tradition of philanthropy. Some DAFs permit the donors to name successor advisors for the account.
While the donor’s right is one of advising, not mandating, most DAFs are likely to follow a funder’s recommendations if they’re compliant with the Internal Revenue Code. The “price” for all these benefits is the donor’s loss of control over the assets. IRC Section 4966(d)(2)(A) requires the DAF to be owned and controlled by the sponsoring organization and separately identified by reference to the contributions of the donor(s). The donor is permitted to retain advisory rights of not only distribution but also investment.
Let’s examine Pinkert v. Schwab Charitable Fund,1 the most recent unsuccessful challenge by a contributor to a commercially sponsored DAF and how it differs from another case brought by an unsatisfied contributor to a DAF.
No Federal Standing
Philip Pinkert sued individually and on behalf of all account holders Schwab Charitable Fund (the Fund) and Charles Schwab & Company (the Company) over the Fund’s choice of investment options and its payment to the Company for custodial and brokerage services. Philip sued the Fund for breach of fiduciary duty, the Company for aiding and abetting breach of such duty and both for violating California’s Unfair Competition Law. The Fund and the Company asked the court to dismiss the case, arguing that Philip lacked standing under federal and state law because of his irrevocable transfer to the Fund. The U.S. District Court for the Northern District of California granted their motion to dismiss. The court noted the irrevocable transfer of property required under IRC
Sections 170(f)(18)(B) and 4966(d)(2)(A). Additionally, nothing in the Fund’s “Program Policies” promised anything other than that what was permitted and required under law.
Philip alleged that cheaper investing alternatives available to institutional investors weren’t offered to him. He saw his harm as being that the charitable funds for distribution were reduced by avoidable, higher fees. In effect, there was less money to advance his philanthropic priorities and reputation within their community.
The court cited Viralam v. Commissioner2 in finding that Philip lacked legal standing to bring a lawsuit. It found unimpressive Philip’s argument that his contractual right to recommend distributions and choose investments created a property right. Nor was he a charitable beneficiary of the DAF.
Philip also argued that he had standing by claiming a right to advance philanthropic goals, benefit charity and create a family culture of giving. The court didn’t see his situation as similar to a line of cases that held contracts can convey property interests despite disavowals to the contrary. Comparing Fairbairn v. Fidelity Investments Charitable Gift Fund,3 the court noted there were no allegations of specific promises made, broken and causing harm. In Fairbairn, the plaintiffs had unsuccessfully argued that the defendant’s handling of lightly traded public stock triggered a 30% reduction in their gift. The Fairbairn court concluded the Fairbairns lacked standing because they ceded control of assets. The court didn’t find any evidence that specific promises were made to address blockage issues.
No California Standing
Philip tried to clear the standing hurdle by arguing its existence under California statutory and common law. The claim of breach of fiduciary duty for mismanagement of assets can be brought by “a person with a reversionary, contractual or property interest in assets subject to the charitable trust laws.”4 Because the Fund had exclusive control of the gifted assets, Philip had no standing as he lacked a definite interest in the property. Nor did he have a “special interest” in the property under California common law.
Planning Pointer for DAF Sponsors
For contributors to DAFs who are unhappy with the management, investment and distribution of funds, there’s no practical recourse. While the major DAFs are legally independent from their corporate affiliates, there may not be incentives for the DAFs to keep expenses and fees to an irreducible minimum. Absent a commercial sponsor making specific, provable promises of how funds will be liquidated and invested, the contributors must accept the loss of control. For them, perhaps a private foundation or other arrangement may be the better vehicle.
Both Fairbairn and Pinkert offer lessons to collegiate sponsors of their own DAFs that they too must avoid promising anything to the supporters other than what’s described in the policies and procedures for DAFs. Development professionals should be extremely reliant on their institutions’ policies and procedures. A gift acceptance policy should clearly indicate that the contributions to the DAF are irrevocable, subject to the exclusive legal control of the DAF, with final authority to decline any and all grant recommendations for any reason or no reason at all. The gift acceptance policy should deter development professionals from making any extra promises to donors contemplating a contribution to a DAF.
Endnotes
1. Pinkert v. Schwab Charitable Fund, No. 20-cv-07657 (N.D. Cal. Jan. 2021).
2. Viralam v. Commissioner, 136 T.C. 151, 162 ( 2011).
3. Fairbairn v. Fidelity Investments Charitable Gift Fund, No. 18-cv-04881 (N.D. Cal. Feb. 2021).
4. Pinkert v. Schwab Charitable Fund, supra note 1, at p. 9.