Planned Giving Via Externally Managed Trusts: Balancing Donor Intent with Foundation Policy

In the realm of higher education philanthropy, substantial donor contributions are pivotal in advancing institutional missions. But it gets complicated when donors try to influence the investment strategies of their gifts. This desire for control over investment decisions can create conflicts with the foundation’s established investment policy and the responsibilities entrusted to its chief investment officer (CIO).

The Challenge of Donor-Directed Investments

Higher education foundations typically adhere to established investment policies managed by professional investment officers or committees. These policies are designed to ensure prudent, diversified and sustainable growth of endowment funds, aligning with the institution’s long-term financial goals.

Often, however, a donor approaching the foundation with a large, transformative gift may also insist on dictating how that donation is invested — or even require that it be managed by their own investment advisor. This insistence can stem from the donor’s desire to see their personal investment strategy implemented or to maintain greater control over the growth of their philanthropic legacy.

Such conditions, while well-intentioned, can create tension between honoring the donor’s wishes and preserving the foundation’s established governance structure. Allowing individual donors to dictate investment decisions risks disrupting the balanced and diversified framework critical for long-term financial stability. This can lead to conflicts of interest, increased risk exposure and administrative challenges as the foundation strives to reconcile the donor’s directives with its own fiduciary responsibilities.

A Solution: Externally Managed Trusts

One alternative to satisfy both the donor’s intentions and the foundation’s investment policies is an externally managed trust. This is a legal arrangement in which a donor establishes a trust, appoints an independent trustee or external management firm to oversee its assets, and designates a beneficiary (such as a higher education foundation) to receive distributions. This structure allows the donor to specify investment strategies and objectives, while the external manager executes these directives, ensuring professional oversight and adherence to the donor’s intentions.

Externally managed trusts differ from other planned giving vehicles, like donor-advised funds (for which the donor may advise but does not exercise direct control over investment decisions). These trusts provide a mechanism for donor autonomy without compromising the foundation’s established investment policies.

Advantages of Externally Managed Trusts

Both donors and foundations can enjoy certain advantages with externally managed trusts.

Donor Autonomy

Donors can exercise control over the trust’s investment strategy. This aligns the management of their gift with personal financial philosophies or objectives.

Institutional Compliance

The foundation benefits from the trust’s distributions without deviating from its established investment policies or assuming additional fiduciary responsibilities.

Tax and Estate Planning Benefits

Donors may realize significant tax benefits by contributing assets to an externally managed trust. By transferring appreciated assets into the trust, donors can potentially defer or even avoid capital gains taxes that would otherwise be incurred upon the sale of those assets.

Furthermore, if the trust is structured as irrevocable, the assets are removed from the donor’s taxable estate. This could reduce potential estate tax liabilities. Donors could also be eligible for an immediate charitable income tax deduction based on the fair market value of the contributed assets, further enhancing the financial efficiency of their gift.

Legal, Regulatory and Tax Considerations

Given the complexity of trust law and varying tax regulations, both donors and foundations should work closely with legal and financial professionals. Expert guidance ensures that the trust is structured correctly, complies with all legal requirements and truly maximizes the intended benefits.

Because the tax benefits are highly dependent on the trust’s structure, the nature of the assets contributed and current tax laws, donors must work closely with tax professionals to make certain the arrangement maximizes these advantages while remaining compliant with applicable regulations. Tailored advice can help navigate legal and regulatory matters, mitigating risks and ensuring the trust operates efficiently under applicable laws.

Considerations for Foundations Engaging in Externally Managed Trust Agreements

While externally managed trusts offer a valuable solution, foundations should still approach them with caution. To ensure clarity and minimize potential misunderstandings, both parties should clearly outline distribution schedules, expectations and any conditions associated with the trust. Establishing these details early on helps the foundation plan around the distributions while respecting the donor’s investment philosophy.

Additionally, clear communication about the roles and responsibilities of each party can prevent future disagreements and help maintain a strong relationship between the donor and the foundation. The foundation should work closely with the donor’s advisors to structure the trust structured appropriately and aligns with any legal and regulatory requirements. It also helps to have a higher education CPA to help you work through what can be a challenging – and sensitive – process.

Externally managed trusts represent a strategic approach to accommodating donor investment preferences without compromising the fiduciary responsibilities of higher education foundations. By thoughtfully implementing such arrangements, institutions can enhance donor satisfaction, secure substantial contributions, and uphold the integrity of their investment policies.

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