What is a Private Foundation?

If you’re exploring ways to formalize your charitable giving, you’ve likely considered whether starting a private foundation would be right for you. What is a private foundation? And would you benefit from starting one for your large-scale philanthropy needs?

Private foundations give donors an unusual degree of control: over how money is invested, which causes receive support, and how a philanthropic legacy is carried forward across generations. That control does come with real responsibility, including strict compliance requirements and a mandatory annual payout. 

Below, we’ll break down exactly what a private foundation is, how it works, what it costs to start one, and how it compares to other charitable vehicles like donor advised funds and public charities.

Key Insights

• Private foundations are independent, tax-exempt 501(c)(3) entities funded by a single individual, family, or corporation and overseen by a board of directors or trustees.
• There are two types of private foundations: operating and non-operating. Non-operating foundations are far more common.
• Private foundations differ from public charities in funding sources, governance, privacy, and allowable tax deductions.
• Because of setup and administrative costs, private foundations typically make the most financial sense for donors contributing several million dollars or more.
• Donations to a private foundation are tax-deductible, though at lower limits than gifts to public charities or donor advised funds.

Table of Contents

• What is a private foundation and how does it work?
  • Types of private foundations
• Can anyone start a private foundation?
• How much money do you need to start a private foundation?
• How do private foundations get money?
• Benefits of a private foundation
• Private foundations vs. donor advised funds
• Rules and compliance for private foundations
• Are donations to a private foundation tax-deductible?
• FAQ about private foundations
• Formalize your giving with Greater Houston Community Foundation today

What is a private foundation and how does it work?

At its core, a private foundation is an independent legal entity, usually structured as either a nonprofit corporation or a charitable trust, created to carry out a donor’s charitable goals. Unlike a public charity, which draws financial support from a broad base of donors, a private foundation is typically funded and controlled by one family, individual, or business.

Here’s a broad look at how private foundations usually function:

• Funding: The foundation receives an initial contribution of cash, securities, or other assets from its founder, which is then invested to generate ongoing income for grantmaking.
• Governance: A board of directors or trustees, often composed of family members, is responsible for managing the foundation’s investments and directing its charitable giving.
• Grantmaking: The board decides which organizations or, in some cases, individuals receive support, guided by the foundation’s charitable mission.
• Reporting: The foundation must file Form 990-PF annually, disclosing its grants, investments, and the compensation paid to officers or key personnel.

Because the same few people typically control both the funding and the grantmaking decisions, private foundations offer a level of flexibility and permanence that’s difficult to replicate through other charitable vehicles. However, that flexibility is balanced by ongoing administrative and regulatory obligations.

Types of private foundations

Not all private foundations operate the same way. The IRS recognizes two primary categories, the distinction between which affects how the organization spends its money and what kind of oversight it faces.

1. Non-operating foundations are the most common type. They exist primarily to make grants to other 501(c)(3) organizations rather than to run their own programs directly.
2. Operating foundations use the bulk of their income to actively conduct their own charitable activities and programs (say running a museum, a research institute, or a direct-service program) rather than simply writing checks to other nonprofits.

Most families who set up a private foundation choose the non-operating structure because it allows them to support a wide range of charitable programs across different causes without having to build and staff their own operations.

Can anyone start a private foundation?

Technically, yes; there’s no legal requirement that limits who can establish a private foundation. Any individual, family, or business can create one by forming a legal entity, applying for 501(c)(3) status, and funding it with an initial charitable contribution. In practice, though, private foundations tend to be most practical for donors with substantial assets, because of the setup costs, ongoing administrative burden, and excise taxes involved.

Many advisors recommend that donors have several million dollars in assets before establishing a private foundation, and some suggest that a foundation isn’t cost-effective below $25 million, because of the fixed costs of legal formation, tax filings, and administration. 

For donors below that threshold, charitable vehicles like donor advised funds through community foundations can help them accomplish similar philanthropic goals with far less overhead.

How much money do you need to start a private foundation?

There’s no legal minimum funding requirement to establish a private foundation, but the practical costs of setup and maintenance mean it usually only makes financial sense at a certain scale. Setting one up involves: 

• Legal fees 
• The cost of drafting governing documents
• An application for tax-exempt status with the IRS
• Accounting costs
• Tax preparation costs
• Ongoing Investment management

Because of these fixed costs, many philanthropic advisors suggest that a private foundation works best for donors contributing at least several million dollars, since smaller foundations can end up spending a disproportionate share of their assets on administration rather than grantmaking.

How do private foundations get money?

Private foundations are funded very differently than public charities. Instead of relying on many small gifts from the public, a private foundation is typically capitalized by one primary source.

Common sources of funding for a private foundation include:

• An initial and ongoing endowment from the founding individual, family, or corporation
• Contributions of cash, publicly traded securities, or other appreciated assets
• Gifts of closely held business interests, real estate, or other privately held assets
• Investment income earned on the foundation’s existing endowment

Because charitable contributions to the foundation typically come from a small, defined group of people rather than the public at large, the IRS applies stricter rules to private foundations than to public charities, including limits on self-dealing and requirements around minimum annual distributions.

Benefits of a private foundation

Despite the added administrative complexity, private foundations offer several advantages that are hard to find elsewhere, and make them appealing to donors who want long-term, hands-on control over their giving. Some of the benefits of a foundation for donors who are a good fit include:

• Legacy building. A private foundation can operate indefinitely, allowing a family’s charitable vision and values to be passed down across generations, often with children or grandchildren serving on the board.
• Grantmaking flexibility. Foundations can support scholarship programs, individual charitable programs, and grants to a wide variety of causes, within IRS guidelines—offering more flexibility than some other giving vehicles.
• Tax advantages.Family foundation tax benefits can be substantial. Contributions of cash may be deductible up to 30 percent of adjusted gross income, and gifts of long-term appreciated securities may be deductible up to 20 percent, while also potentially avoiding capital gains tax on the appreciation.
• Asset acceptance. Foundations can accept a broad range of contributions, including cash, securities, real estate, and other privately held assets.
• Employment and involvement. Family members can serve on the board or, in some cases, be compensated for reasonable services performed for the foundation.

These advantages are a major reason families choose to formalize their philanthropy this way, but the right structure will depend heavily on your goals and asset mix.

Private foundations vs. donor advised funds

Along with private foundations, donor advised funds (DAFs) are another popular vehicle for high-net-worth donors and organizations looking to make an impact through charitable giving. Public charities, including community foundations like Greater Houston Community Foundation, derive a portion of their support from the public, as mandated by the IRS. Unlike private foundations, public charities maintain boards of directors comprised of diverse members, ensuring accountability and representation.

Community foundations, alongside hospitals, schools, and homeless shelters, are prominent examples of public charities. Community foundations also serve as sponsors for DAF programs, which offer donors a flexible and efficient charitable vehicle. 

Donor advised funds, akin to private foundations but with streamlined administrative processes, allow donors to establish dedicated accounts under their chosen name, facilitating grantmaking, providing anonymity, and offering tax benefits. Additionally, donor advised funds alleviate the burden of administrative reporting through the sponsoring organization while being notably more cost-effective to establish than private foundations.

Philanthropic partners like Greater Houston Community Foundation provide support and services for donors, fostering a seamless philanthropic experience. In certain scenarios, donors may even choose to leverage both a donor advised fund and a private foundation simultaneously to maximize flexibility in their charitable endeavors.

As the table shows, a donor advised fund can be a simpler, more cost-effective entry point into structured philanthropy, while a private foundation offers more control and the ability to give directly to individuals. Many donors ultimately find that using both vehicles together gives them the best results.

Continue reading: Can a donor advised fund give to a private foundation?

Rules and compliance for private foundations

Private foundations are subject to a detailed set of IRS rules designed to keep them transparent, accountable, and focused on genuine charitable purposes. Some of the most important requirements include:

• Annual reporting. Private foundations must file Form 990-PF each year, disclosing grants awarded, investment activity, and compensation paid to officers and key staff.
• Minimum distribution. Non-operating foundations generally must distribute roughly five percent of their average net investment assets annually, regardless of how much investment income they actually earned that year.
• Excise tax. Even though private foundations are exempt from federal income tax, their net investment income is generally subject to an excise tax of about 1.39 percent.
• Self-dealing restrictions. Private foundations are prohibited from engaging in most transactions with their substantial contributors, board members, or other insiders—even transactions that might otherwise seem beneficial to the foundation.
• Business holding limits. Private foundations face restrictions on how much ownership they can hold in private businesses.
• Permitted grant purposes. Grants must generally support religious, charitable, scientific, literary, or educational purposes, or foster amateur sports competition or the prevention of cruelty to children or animals; grants for other purposes can be treated as taxable expenditures.

Given the number and complexity of these rules, most private foundations rely on outside legal and tax professionals, in addition to their board, to stay in compliance year over year.

Are donations to a private foundation tax-deductible?

Yes. Contributions to a private foundation are generally tax-deductible, since private foundations are recognized as 501(c)(3) organizations. That said, the deduction limits are somewhat less generous than those available for gifts to public charities or donor advised funds.

As stated above: 

• Cash contributions to a private foundation are typically deductible up to 30 percent of a donor’s adjusted gross income, compared with up to 60 percent for gifts to a public charity. 
• Gifts of long-term appreciated publicly traded securities are generally deductible up to 20 percent of adjusted gross income at fair market value, while gifts of real estate or closely held assets are often limited to cost basis rather than fair market value. 

Because these rules can meaningfully affect a donor’s overall giving strategy, it’s worth talking through broader charitable giving tax strategies before making any large tax deductible donations, whether to private foundations or public charities.

FAQ about private foundations

What is the main difference between a private foundation and a public charity?

A public charity receives broad support from the general public and is governed by a diverse, unrelated board, while a private foundation is typically funded and controlled by a single family, individual, or corporation.

Do private foundations have to give away money every year?

Yes. Non-operating private foundations are generally required to distribute 5 percent of their average net investment assets each year, regardless of how much the foundation earned in investment income.

Can a private foundation employ family members?

In some cases, yes. Family members can serve on the board or be compensated for reasonable services, though strict self-dealing rules govern these arrangements to prevent misuse of foundation assets.

What are the alternatives to starting a private foundation?

Plenty of donors want the structure and permanence of a foundation without the compliance load, and several options can get them there. Depending on your goals, the Community Foundation can help you explore:

• Charitable remainder trusts, which provide an income stream to you or your beneficiaries for a set term or lifetime, with the remaining assets passing to charity afterward. These are often a fit for donors holding highly appreciated assets who want to balance current income needs against a future charitable gift.
• Donor advised funds with philanthropic advisory services, which pair the simplicity of a DAF with hands-on support—research on local organizations, family facilitation, site visits, and grantmaking strategy—so donors get the guidance a foundation staff might otherwise provide.
• Administrative services for existing private foundations, for families who already have a foundation and want to keep it, but would rather hand off grant administration, recordkeeping, and reporting.

Choosing among these depends on your asset mix, how much day-to-day involvement you want, and whether you’re starting fresh or reconsidering a structure you already have. A conversation with a philanthropic advisor is usually the fastest way to narrow it down.

Formalize your giving with Greater Houston Community Foundation today

Because private foundations involve legal formation, ongoing tax filings, and investment oversight, most families benefit from working with an experienced philanthropic partner rather than attempting the process alone. 

Whether you’re deciding between a private foundation, a donor advised fund, or a combination of the two, the right structure depends on your asset level, your privacy preferences, and how involved you want future generations to be in your giving.

Greater Houston Community Foundation works alongside donors and their financial advisors, offering everything from donor advised fund formation to private foundation support. If you want to build a broader family philanthropy strategy that can extend across generations, the Community Foundation can help. Contact Andrea Mayes, Senior Director of Charitable Solutions, or call 713-333-2210 to get started.

More Helpful Articles by Greater Houston Community Foundation: 

• Choosing Between Donor Advised Fund Providers
• Guide to One Big Beautiful Bill Charitable Contributions
• Gifting Restricted Stock Units To Charity
• How Does Charity Help With Taxes?
• Why Keep Charitable Giving During Market Volatility

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