A legacy of giving – that’s what we’ve seen our clients want to leave their family for generations to come. A private foundation is an excellent vehicle to fulfill that purpose.
Most charities are classified as either private foundations or public charities. Public charities are usually operating charities such as schools, hospitals, churches, research institutions, and similar entities. Private Foundations, on the other hand, are typically funded by a single family or business and provide grants to public charities. Many families create private foundations to not only support charities that are important to them, but to create a culture of philanthropy within the family.
Most clients think that operating a private foundation is a relatively simple affair. But the rules that govern these charities are complicated and not necessarily intuitive. The penalties that can be imposed for violating these rules are punitive. It’s critical for clients to seek professional advice because this area of the federal tax code is full of traps for the unwary. We’ve seen those with the best of intentions unwittingly violate the rules and potentially subject themselves to a draconian tax burden.
While private foundations may have employees and office space, tremendous care must be taken whenever there is any financial arrangement between the foundation and those that created or that run the foundation. For example, here are some common questions and pitfalls that we have seen:
Office Space: Can you lease office space to your private foundation? Yes. If you don’t charge rent. As soon as you charge rent, it is an act of “self-dealing.”
Family member employees: Can you hire a family member in a foundation? Yes. Family members can work for the foundation, but the compensation must be reasonable for the services provided. It is important to document the duties and responsibilities that the family member will have, and support for the reasonableness of his or her compensation.
Grant Requirements: How much must a foundation give away? Generally, a foundation must use five percent of its assets on grants and administration expenses every year to avoid certain excise taxes imposed by the federal government. That five percent is based on a monthly average of the foundation’s assets.
Incorporation vs. Trust: Does your foundation have to be a corporation? No, the vast majority of foundations are structured as not-for-profit corporations. However, some families prefer structuring their foundations as a trust. Trusts may, under certain circumstances, provide greater flexibility on how the foundation is managed and may be a better tool to address various issues.
Investment Limits: The federal tax code generally provides penalties for foundations making risky and speculative investments and in family businesses.
At the Law Office of Finley Stetson we have a tremendous amount of experience with the formation and operation of private family foundations. While finding an attorney who is meticulous and well-versed in this intricate area of law is important, it’s just as critical to select a tax professional who can help navigate multi-generational personalities with experience and sometimes a dash of humor.
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