Benefits of Starting a Private Foundation
Many high-net-worth individuals, families, and business owners are exploring the establishment of private foundations to enhance their charitable giving and financial planning. Why? The benefits of starting a private foundation are substantial for those who fit the profile, and having your own foundation can lead to a profound and meaningful impact for those committed to philanthropy.
Private foundations offer a powerful vehicle not only for addressing critical social issues but also for defining one’s legacy and creating a multigenerational impact. They provide donors with significant control over their philanthropic endeavors and investment strategy while offering substantial tax advantages.
If you’re a high-net-worth individual, family, or business, establishing a private foundation can significantly enhance your strategic approach to philanthropy. The following article details considerations for the formation and operation of private foundations. Please contact Greater Houston Community Foundation at 713-333-2210 for more information.
Key Insights
- Private foundations offer control over charitable giving and can help create a lasting legacy that can continue for generations.
- The two main types of private foundations — operating and non-operating foundations — serve different philanthropic goals. The best type of private foundation for you depends on your goals, whether to implement your own programs or support existing organizations.
- Establishing a private foundation can provide significant tax advantages, including income tax deductions, capital gains tax benefits, and potential estate tax reduction.
- While private foundations require more administrative oversight than donor advised funds, they offer greater control over investments, grantmaking, and governance.
- Community foundations, like Greater Houston Community Foundation, can serve as valuable partners by providing operations and administrative support, investment management, and strategic philanthropic and governance guidance, allowing foundation leaders to focus on their philanthropic mission.
Table of Contents
- What is a private foundation?
- Types of private foundations
- What are the benefits of a private foundation?
- Private foundations as an estate planning tool
- Private foundations vs. donor advised funds
- What is the 5% rule for private foundations?
- How do private foundations make money?
- Who can a private foundation give money to?
- Establishing a private foundation with the Community Foundation
- Greater Houston Community Foundation, your partner in philanthropy.
What is a private foundation?
So, what is a private foundation? A private foundation is an independent legal entity established to execute grantmaking and other charitable programs. Unlike public charities that typically receive funding from multiple sources, private foundations are usually funded by a single individual, family, or corporation. They operate under section 501(c)(3) of the Internal Revenue Code, making them tax-exempt organizations.
Private foundations provide a formal framework for philanthropy, allowing founders to address issues close to them while creating a lasting legacy. With proper management, a private foundation can continue its charitable work for generations, embodying the founder’s values and vision long into the future.
This increased impact comes with increased complexity and administrative demands: every private foundation must have a governing board of directors or trustees who oversee operations, manage assets, and direct grantmaking activities. They are also subject to strict regulations regarding reporting, tax filings, and other legal requirements to maintain their tax-exempt status.
Types of private foundations: operating vs. non-operating
Private foundations generally fall into two main categories, each suited to different philanthropic goals.
| Foundation type | How it works | Who may be a good fit |
| Non-operating foundation | More common than their operating counterparts, non-operating foundations primarily use their income and assets to make grants to other charitable organizations. They serve as funding sources for nonprofits and public charities that align with the foundation’s mission. | Non-operating foundations are well-suited for donors who prefer to support existing charitable organizations rather than creating and implementing programs. They’re appropriate for those who want to focus on strategic grantmaking and investment management, or who already have organizations that they’d like to support. |
| Operating foundation | Private operating foundations actively conduct their own charitable programs or services rather than primarily making grants to other organizations. These foundations directly implement projects, research initiatives, educational programs, or other activities that fulfill their charitable purpose. | Operating foundations are ideal for donors or organizations that want to be directly involved in the programmatic components and/or services of charitable work. They’re suitable for those who have a specific program or initiative they want to implement and manage themselves, rather than supporting existing organizations. |
Whether you are looking to develop your own programs or establish ongoing grant support for causes you care about, Greater Houston Community Foundation can assist in operating or determining the best giving vehicle to meet your needs.
We have a deep knowledge of charitable issues and organizations, and offer comprehensive private foundation management services.
What are the benefits of a private foundation?
One of the most significant advantages of establishing a private foundation is the potential tax benefits it offers. These benefits are often substantial and multifaceted, deepening the impact of charitable giving while potentially reducing tax burdens.
Private foundations can offer several tax advantages to donors:
- Income tax deductions. Contributions to private foundations are often tax-deductible, though with certain limitations. Cash donations are generally deductible up to 30% of the donor’s adjusted gross income (AGI), while donations of appreciated publicly traded securities are typically deductible up to 20% of AGI.
- Capital gains tax benefits. When donating appreciated stock, real estate, or other business interests to a private foundation, donors can often avoid triggering capital gains taxes that would otherwise be owed when selling assets outright.
- Estate tax advantages. Assets transferred to a private foundation are generally removed from the donor’s taxable estate, which can significantly reduce estate tax liabilities for high-net-worth individuals.
Continue reading about charitable donations and tax deductions
Private foundations as an estate planning tool
Estate planning and charitable giving can be incredibly complex, and private foundations can offer powerful support to those trying to organize their estate.
- They provide a mechanism for transferring wealth to charitable causes rather than facing significant estate taxes.
- Establishing a private foundation allows families to articulate and codify their philanthropic vision clearly, creating a guiding framework that can endure for generations. Families can ensure that their mission, values, and strategic priorities are preserved and communicated effectively, even as family circumstances and leadership change.
- They offer a way to maintain control over assets while helping ensure the assets will be used for purposes aligned with the donor’s values.
A philanthropic partner, such as a community foundation, can provide invaluable guidance and support in managing your private foundation, as well as integrating it into your broader financial and estate plans. We can help turn complexity into action by handling tax and compliance, developing investment strategies, and facilitating family or corporate philanthropy.
Private foundations vs. donor advised funds
Donor advised funds (DAFs) are the most ubiquitous philanthropic vehicle available to donors looking to make a difference.
| Private foundations | Donor advised funds | |
| Structure and control | Independent legal entities with their own boards, private foundations offer complete control over investments, grantmaking, and operations. | Account(s) established within existing public charities, DAF fundholders provide recommendations that are generally followed by the sponsoring organization. |
| Setup and maintenance | Private foundations require more time, effort, and expense to establish and maintain. | DAFs can be established quickly with minimal paperwork and no separate tax filings. |
| Privacy | Private foundations must publicly disclose their grants, assets, and board members through their tax returns. | DAFs can offer anonymity for donors who prefer privacy in their giving. |
| Minimum assets | Private foundations typically require substantial assets, often several to tens of millions of dollars, to justify their administrative costs. | DAFs can be established with much lower minimums depending on the public charity, and can range as high as tens or even hundreds of millions of dollars; there is no maximum asset cap |
Donor advised fund and private foundation rules
The two also have very different administrative requirements and tax rules:
| Private foundations:Must distribute at least 5% of their assets annuallyPay an excise tax on investment income Subject to more restrictions on investments and self-dealingHave lower deduction limits for contributions (30% of AGI for cash, 20% for appreciated securities)Required to file annual Form 990-PF tax returns | Donor advised funds:Have no minimum annual distribution requirementNo excise tax on investment incomeHigher deduction limits for contributions (60% of AGI for cash, 30% for appreciated securities)No separate tax filing requirements for donorsLower administrative costs and fewer compliance concerns |
Although there are significant distinctions between donor advised funds and private foundations, you don’t need to settle for one over the other. Utilizing both is often a strategic move by savvy philanthropists. A private foundation can be an effective tool alongside a donor advised fund, both providing leverage to achieve philanthropic and tax goals, to create a meaningful impact across various philanthropic vehicles.
FAQ about private foundations
What is the 5% rule for private foundations?
Private foundations must distribute at least 5% of their assets annually. This rule is in place to help ensure that foundations actively use their resources for charitable purposes rather than simply accumulating wealth. Charitable distributions from private foundations can include:
- Grants to IRS-qualified charities
- Reasonable administrative expenses related to charitable activities
- Direct charitable activities conducted by the foundation
- Assets purchased for charitable use
How do private foundations make money?
Private foundations typically generate income in a few ways.
- Investment returns. Most private foundations invest their endowment to generate ongoing income. Domestic tax-exempt private foundations are subject to an annual excise tax of 1.39% on their net investment income (IRC Sec. 4940(a)).
- Additional contributions. The original donor or others may continue to contribute to the private foundation.
- Program-related investments. Some private foundations make investments that generate both financial returns and advance their charitable mission.
Investment management is a vital responsibility for boards of private foundations, as they face the complex challenge of balancing fiduciary responsibility, the pursuit of financial returns, and a commitment to their core values and mission.
Who can a private foundation give money to?
Private foundations can make grants to:
- Public charities (501(c)(3) organizations)
- Community foundations
- Other private foundations
- Governmental units such as schools, cities, and public universities
- Non-501(c)(3) organizations for charitable purposes (with expenditure responsibility)
- Individuals for the purposes of scholarship or disaster relief
Distributions must be made for charitable purposes, and certain grants may require additional oversight, documentation, or expenditure responsibility procedures. Private foundations are generally not able to give to political campaigns or any organization involved in lobbying or legislation.
Private foundation support with the Community Foundation
Greater Houston Community Foundation offers specialized services to support private foundations, providing operations and administrative expertise while allowing you to focus on your philanthropic vision. We can help your foundation accept and manage a number of non-cash assets and other gift types, including:
- Cash
- Business interests
- Appreciated stocks, bonds, and securities
- Closely traded stock
- Coins, jewelry, and art
- Life insurance
- Real estate
- Privately held assets
- Some retirement assets
For donors concerned with long-term sustainability, the Foundation offers solutions for ensuring a private foundation’s continued operation, including investment management aimed at long-term growth, succession planning, and collaboration with your current and future Board members and key, trusted advisors.
We can help you navigate complex giving needs, create or refine your philanthropic strategy, streamline your operations, and facilitate your continued growth into the future. We work with you to develop and implement the impact you want to make through your giving.
Greater Houston Community Foundation, your partner in philanthropy.
The benefits of starting a private foundation include the ability to create a lasting legacy, the ability to maintain control over investment and giving strategies, significant tax benefits, legacy planning, and the ability to support a wide range of charitable causes, however you choose.
We understand that every donor is unique. Greater Houston Community Foundation offers tailored solutions to meet your philanthropic needs, including flexible structures, scalable operations and administrative support, and strategies aligned with your risk tolerance and desired impact. We work with your existing professional advisors to make sure your giving strategy complements your overall financial, estate, and tax plans, and will continue to do so for years to come.
Ready to get started? Call Greater Houston Community Foundation today at 713-333-2210 or reach out directly to make a difference with your philanthropy.
More Helpful Articles by Greater Houston Community Foundation:
- How to Donate Business Interests Strategically
- How To Get Started with Legacy Giving
- What Is the Great Wealth Transfer?
- Supporting Education: A Guide to Scholarships for Donors
- How Does a Donor Advised Fund Work?
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