Nonprofit GPS

Your Personal Navigation System Through Not-for-Profit Accounting Issues

What is the Difference Between Donor-Advised Funds and Restricted Donations?

Donors advising on the use of their donation sounds relatively the same as donors restricting the use of their donation, doesn’t it? These are actually very different concepts. Donor advised funds are separately identified accounts that are maintained by a public charity. After the donor makes an unrestricted donation to the donor advised fund/account, the charity has legal control over it. However, an arrangement or agreement has been made between the charity and the donor, where the donor retains advisory privileges on how those funds should be used throughout the existence of that separate account. A donor advised fund tends to be more of a long lived account that receives donations and from which disbursements are periodically made. Even though the donor can advise on the use of the funds, the charity still has the ultimate authority on the use, with the responsibility of ensuring that the use meets the tax exempt mission of the charity. Donor advised funds are carefully watched by the IRS due to past abuse with these funds where the donor essentially has control over the use of the funds, and then uses those funds in a way that results in an economic personal benefit to the donor, while the donor still receives a tax deduction. A charity can actually lose its tax exempt status if an individual uses the charity in some way in order to attain a personal benefit.

A restricted donation relates to a specific donation, rather than relating to a separate account set up specifically relating to one individual donor’s donations. A donor places either a time or purpose restriction on one specific donation, which is received by the charity and usually pooled into the general operating or investment accounts of the organization. The charity has the responsibility to use the donation in accordance with the donor’s wishes, but after the donor makes the donation, the donor generally does not have any further involvement and does not have any ongoing advisory privileges.

There is sometimes a misconception that a restricted donation can be made to a tax exempt entity, with the donor-restricted purpose naming an individual to benefit from the donation. Under IRS rules, no tax deduction is allowed if there is a direct personal benefit to the donor or any other person. Also, as mentioned above, a tax exempt entity is at risk of losing its tax exempt status if a personal benefit transaction occurs. For example, if a charity has a scholarship program, there should be an unbiased selection process as well as a conflict of interest policy to prevent personal benefit transactions from occurring.

By Colette Kamps, CPA