The Blueprint Forecast for Philanthropy and the Social Economy 2017

Philanthropy consultant, scholar, and thought-leader Lucy Bernholz‘s annual industry forecast, Philanthropy and the Social Economy: Blueprint 2017, was published last week on GrantCraft. The Blueprint provides an overview of the current landscape, points to major trends, and directs your attention to horizons where you can expect some important breakthroughs in the coming year. As a past external reviewer of the Blueprint (in 2013), I’m particularly appreciative of all the work and thought Lucy puts into the forecast and recommend it as a must-read for leaders working in the nonprofit and social sector.

The first pull-out quote in the Blueprint captures perhaps its most important theme:

We must fight to protect civil society and democracy; they do not defend themselves.

Bernholz recognizes civil society as serving democracy by holding government, and corporate powers, accountable. This makes it critical for citizens to actively protect civil society, which is marked by the voluntary use of private resources for public benefit, regardless of whether through a nonprofit or other form

Among the topics covered by the Blueprint:

The intermingling of political and charitable activities of actors operating in both spaces, including, notably, both Presidential candidates in 2016 – As Bernholz notes: “Democratic political systems are shaped by a norm of transparency, whereas charitable regulations make room for anonymity and privacy.” But these systems have begun to overlap, creating inherent tensions and weakening oversight. Charities and social welfare organizations are being used for political purposes and political actors are using such organizations to hide their political activities (and funding). Bernholz accordingly asserts:

If both values—transparency and privacy— matter, then we need separate systems. If both sectors matter—political and civil society—then we need separate structures. In both cases, we need new rules and a new attention to oversight

The need to focus on the rules and rights embedded in the digital infrastructure of civil society – Society fails to recognize and appropriate address the dependence of civil society on its digital infrastructure. Bernholz states: “If we want civil society—the voluntary use of private resources for public benefit—to thrive, we need to protect the principles that enable it to exist in digital space.” This can be complicated where the majority of our digital systems are created and owned by for-profits and regulated and surveilled by government. Regardless, nonprofits, including foundations, should factor digital governance as part of their core responsibilities. As part of her forecast, Bernholz asserts:

Tax, estate, and corporate law as well as disclosure requirements have shaped philanthropy for decades. Telecommunications policy, privacy norms, cybersecurity requirements, consumer protection regulations, and intellectual property negotiations will shape it going forward.

Practical tips for nonprofits – Leaders need to “understand how digital works, what the relevant policy domains are, and how to manage digital risk.” To help, the Blueprint provides 3 worksheets focused on the use and governance of digital data in a reader’s organization:

  1. Digital data inventory
  2. Institutional data capacity
  3. Digital data and strategic planning

As for the forecasts made by the Blueprint, here are just three of Bernholz’s predictions:

  • Citizen oversight of government agencies will be a big area for technological innovation— for example, methods to monitor and report on police (e.g., TextMy90) and nonprofit “alert” systems built around streams of government data.
  • Actions sanctioned by the federal government against journalists, nonprofit organizations, and nonviolent activists inside the U.S. will profoundly test our rights to peacable assembly, a free press, and free expression.
  • State attorneys general will investigate at least one crowdfunding platform for charitable fraud.

Finally, read the Blueprint to learn the new buzzwords and Bernholz’s sage advice for the future:

The very nature of civil society is changed by our dependence on digital data. We cannot continue to act as if adapting our analog practices to digital resources will work.

F. D’Up Family Foundation

Concept of trade and taking a cut with money passing hands isolated on a white background

Inspired by recent news stories

Fred D’Up inherited a sizable amount of money, which he used to grow a business empire filled with plenty of successes and failures (including multiple business bankruptcies). Regardless of whether his businesses were doing well or not, Fred felt compelled to develop his image as a rich, powerful celebrity, and he was very good at it. In fact, he was so good at selling himself that polls showed that almost half of the country would vote for him as president notwithstanding his vulgar comments about, and abusive treatment of, women; his overt racism; his public mocking of the disabled; his disrespectful treatment of veterans and gold star families; his openly adulterous behavior; and his many lies.

Fred loved to exclaim how charitable he was but dubiously declined to identify any of the many charities he claimed to support with financial contributions. Investigative journalists were unsuccessful in finding any such supported charities. Fred explained he didn’t want to call public attention to his generosity. Yet, he shamelessly showed up uninvited to high profile charity events posing as a major donor and gave out fake million dollar bills. He also made very public pledges to donate to a number of charities that he failed to fulfill. Only on one occasion, upon four months of intense media fire, did he begrudgingly fulfill his pledge to a veteran’s charity.

Fred started the F. D’Up Foundation in the late 1980s. It was incorporated in New York and received from the IRS recognition of 501(c)(3) tax-exempt status and classification as a private foundation. Fred and three of his adult children served as board members of the Foundation. Fred also served as its president.

As would be expected, Fred initially funded the Foundation. But for the past eight years, the Foundation has relied entirely on others for funding its grantmaking. Sometimes, these others made donations to the Foundation, hoping to curry Fred’s favor. Other times, they gave money to the Foundation because they owed money to Fred and Fred directed them to pay the Foundation instead. This, however, was no act of generosity.

Fred did not want to recognize the payments as his own taxable income. Fred believed it was “smart business” to escape paying any taxes and freeload off of others paying for our country’s security, schools, roads, public health, and safety nets. But Fred didn’t realize that he would have to recognize as his own taxable income monies owed to him that he directed be paid to the Foundation. Tax laws logically treat such monies as first paid to Fred and then donated by Fred to the Foundation. For most taxpayers, recognition of such taxable income would be offset by a charitable contribution deduction in the same amount. However, there are limits to a taxpayer’s ability to take deductions. For someone like Fred, who reported a nearly $1 billion net operating loss (NOL) in the mid-1990s and was likely to have had NOLs in other years, a charitable contribution may offer no tax benefit (particularly if he is paying no federal income taxes).

Fred figured it would therefore be better to have some of the people who owed him money pay it the Foundation and improperly ignore such amounts as his own taxable income. He rationalized that he could then spend such money as president of the Foundation to buy things for himself or that benefited his businesses.

Fred chose not to understand the laws that require 501(c)(3) organizations to be operated to serve a public interest and not be operated for the benefit of private interests (private benefit doctrine). He also blatantly ignored the 501(c)(3) prohibition against political campaign intervention or electioneering, causing a payment to be made to an electioneering communications organization (which he explained as an accident) and making ceremonial checks containing a political campaign slogan for his own candidacy. And he disregarded the private foundation rules, including the prohibition against self-dealing (generally, private foundations are not allowed to engage in business transactions with their board members, subject to certain specific exceptions).

Fred considered the Foundation just another pocket from which he could spend money however he liked. When he saw a sculpture of himself, albeit with bigger hands, he didn’t think twice about having the Foundation buy it and display it in the lobby of a fancy hotel he owned. When someone challenged whether buying a $30,000 sculpture of himself to publicly display at his hotel was charitable, his representatives answered that his hotel was storing the sculpture generously without cost to the Foundation. If the IRS and the Attorney General scoffed at such claim, Fred would simply complain that they were nasty people on a politically motivated witch hunt. If that failed, he could always blame his lawyers. As long as he paid them enough, he was sure they would willingly take the fall.

When one of Fred’s companies was in litigation with another party, he caused his company to settle, and agreed as part of the settlement that the Foundation would make over $250,000 in payments to charities. Having the Foundation pay its monies to settle legal claims against one of its directors (or his companies) is for all practical purposes stealing from the Foundation. Instead of making the $250,000 in payments himself, Fred caused the Foundation to pay its monies, which are held in charitable trust to be safeguarded by its board of directors.

As a private foundation, the Foundation is required to engage in some grantmaking or other forms of charitable distributions to avoid a penalty tax for failure to meet its minimum distribution requirement. The Foundation’s biggest grant to date has been for renovating a monument located outside of Fred’s hotel. While it’s likely that Fred’s decision to make such grant was influenced by the potential it had for enhancing the value of his own property, such grant would probably pass muster. Fred could argue that such benefit was merely incidental to furthering a true charitable purpose. He could not make a similar argument to defend the Foundation’s purchase of expensive autographed sports memorabilia, which Fred displayed (stored) wherever he liked, in apparent disregard of the private benefit rules.

Sadly, the Foundation has caused many to view the philanthropic sector as corrupt. But Fred is an outlier. Who else does that?!


2016 ABA Business Law Section Annual Meeting

Boston, Massachusetts, USA Skyline at Fan Pier.

The American Bar Association (ABA) Business Law Section is holding its 2016 Annual Meeting in Boston on September 8-10. I’m looking forward to meeting with my colleagues in the Nonprofit Organizations Committee, attending the various programs, and expressing my appreciation as one of the recipients of the Committee’s Outstanding Nonprofit Lawyer Awards.

Accelerators and Incubators

The first program I attended was titled Accelerators and Incubators, Their Clients, and the Role of the Lawyer, described as follows:

The panel will discuss variations in accelerator and incubator ecosystems in various parts of the U.S. Additional topics covered will include securities law issues related to representing early stage companies and how lawyers can cost-effectively represent them. Ethics in attorney compensation and investing in your client will be discussed.

The program began with a discussion of the differences between accelerators and incubators, noting generally that accelerators provide support over a more limited duration (average of 15 weeks); select and work with a more limited group of cohorts (average of 7 portfolio companies); are privately owned and take an equity stake in their portfolio companies (unlike with most incubators, many of which are nonprofits); and appear to be associated with a higher success rate in terms of raising capital, gaining customer traction, and exerting a positive impact on regional entrepreneurial ecosystems.

Lawyers working with startups associated with accelerators and incubators are often asked to assist with company formation, governing documents, capital raises, and general contracting needs. Understanding securities laws is critical. According to panelist Sara Stock (great name!):

Registration is a very cumbersome, time consuming and expensive process. However, luckily, the Act contains exemptions from registration under Regulation D (17 CFR § 230.501 et seq.) Regulation D contains rules providing exemptions from the registration requirements, allowing some companies to offer and sell their securities without having to register the securities with the SEC. Securities offered under any of these exemptions are referred to as private placements. How to structure the private placement is critically important, because early stage companies often do not have the funds available for a full private placement memorandum. The attorney should evaluate the situation to determine if the Regulation D exception requirements rise to the level of necessitating a private placement memorandum, or, alternatively, is the company better served with a subscription package that includes items such as: (i) instructions for completion; (ii) disclaimers; (iii) subscription agreement; (iv) instruments for the raise (i.e. form of convertible note); (v) investment considerations; (vi) investor questionnaire; and (vii) company’s business plan, projections and sources and uses.

Some common misunderstandings result from a failure to recognize that: (1) notes (evidencing the sale of debt) and passive interests in a limited liability company are securities, which will require an exemption from registration; and (2) managers that sell securities may need to ensure they fall under an exemption from registration as a broker, which may require that they do not participate in selling an offering of securities for their company more than once every 12 months (challenging if there are multiple rounds of financing).

The program also covered several ethical issues facing attorneys that work with startups at accelerators or incubators, including those associated with: (1) serving on an advisory board or as a mentor; (2) becoming an officer or director of the company1; (3) taking equity or options as compensation; (4) investing in the company; and/or (5) working on a contingent fee.

Supplemental Resources

Handout (ABA Business Law Section 2016 Annual Meeting)

How Lawyers Can Add Value for Startups (Above the Law, 2015)

Summary of the Rule 3a4-1 Safe Harbor for Sales of Securities by Officers, Employees and other Associated Persons of the Issuer (Proskauer, 2012)

What’s a Nonprofit Accelerator Anyway? (Mission Capital)


I’m particularly intrigued by the program titled Chan-Zuckerberg & Friends: Using Philanthropocapitalism to Accomplish Charitable Goals: Will Foundations Become an Endangered Species? 

This program will discuss benefits and traps regarding alternatives to traditional foundations for accomplishing social good; in particular, using LLCs, other philanthropic ventures, and non-charitable tax-exempt entities. We will discuss how these structures avoid constraints imposed on 501 (c) (3) organizations, governance issues, political impacts, and charitable oversight by state Attorneys General.

I’ve previously written about the Chan-Zuckerberg Initiative on this blog here and here and can’t wait to hear the perspectives of the outstanding panelists: William Fournier (Caplin Drysdale), David Levitt (Adler Colvin), Sharon Lincoln (Foley Hoag), J. William Callison (Faegre Baker Daniels), and Will Fitzpatrick (Omidyar Network). Professor Philip Hackney (Louisiana State University) is moderating. I’ll provide some highlights below – stay tuned.

  • Private foundation restrictions like self-dealing and requirements of public disclosure have led to alternative ways of giving using taxable entities. However, private foundations still are very popular vehicles for charitable giving that provide substantial tax benefits to their founders/donors and a charitable mission lock on their assets after their death.
  • Taxable entities as vehicles for achieving social good may provide greater opportunities for donor engagement, flexibility (including in making investments), and earned income. And they may share common ground with nonprofits and be used to facilitate or promote microphilanthropy (e.g., crowdfunding).
  • Private foundations may have more flexibility in investments than some may think:
    • Program-related investments (PRIs). The primary purpose of a PRI is to accomplish one or more of the foundation’s 501(c)(3) exempt purposes (other than testing for public safety), production of income or appreciation of property is not a significant purpose, and influencing legislation or engaging in political campaign intervention is not a purpose.
    • Mission-related investments (MRIs). While an MRI is not currently defined by the Internal Revenue Code or Treasury Regulations, it is generally considered to be an investment for both a financial return and a social impact return (more specifically, one that advances the particular mission of the investor). IRS Notice 2015-62 generally provides that it’s not a lack of reasonable business care and prudence (and therefore not a jeopardizing investment under IRC 4944) merely because the private foundation managers consider the social impact return related to the foundation’s mission as well as the financial return the investment may produce in selecting an investment.
    • Excise tax on net investment income applies to income generated by both PRIs and MRIs. IRC 4940.
  • PRI and MRI rules:
    • PRIs (not MRIs) count toward the foundation’s mandatory distribution requirement, and PRIs (not MRIs) are not counted in the assets for purposes of determining the foundation’s 5% distribution requirement. IRC 4942.
    • Excess business holdings rules apply to MRIs (not PRIs). IRC 4943.
    • PRIs are exceptions to jeopardizing investments; MRIs are not (but see the discussion of IRS Notice 2015-62 above). IRC 4944.
    • The rules regarding taxable expenditures apply to PRIs, including the expenditure responsibility requirements. MRIs, on the other hand, are not subject to these requirements. IRC 4945.
  • Chan-Zuckerberg Initiative – still in its very early stages but with great flexibility, know little about its governance structure and internal obligations/restrictions created, know little about its exit strategy and how to avoid eventual estate taxes, entity discloses what it wants.
  • Omidyar Network – private foundation (grantmaking and PRIs) and taxable LLC (Series A and B investments), which pays for all of the expenses of both entities.
  • Public concern about philanthrocapitalism: no dedication of assets to charitable purposes beyond founder’s (or their heirs’) whims, no required transparency about use of funds.
  • Will we see new laws affecting taxable vehicles with a publicly announced social good purpose?
    • Perhaps nothing directly imposed on private taxable vehicles.
    • But likely to see continued incentives or allowances for social investments.
    • And may continue to see new laws related to deductions and solicitations.

Supplemental Resources

The birth of philanthrocapitalism (The Economist, 2006)

Using New Hybrid Legal Forms: Three Case Studies, Four Important Questions, and a Bunch of Analysis (Tax Analysts, 2012)

A Prediction for the Nonprofit Sector in 2015

Mark Zuckerberg and the Rise of Philanthrocapitalism (The New Yorker, 2015)

Program-Related Investments


Program-related investments (PRIs) are investments (different from strictly donative grants) made by private foundations in which:

  1. The primary purpose is to accomplish one or more of the foundation’s 501(c)(3) exempt purposes (other than testing for public safety),
  2. Production of income or appreciation of property is not a significant purpose, and
  3. Influencing legislation or engaging in political campaign intervention is not a purpose.

While PRIs are not used widely by the vast majority of private foundations, PRIs can be an effective alternative strategy to grantmaking in advancing the foundation’s charitable purpose and meeting its minimum distribution requirements. One reason why PRIs are not used more broadly is the difficulty in interpreting whether a particular investment would qualify as a PRI and not subject a foundation to penalties for making a jeopardizing investment or failing to meet its distribution requirements (if it relied on the investment being part of its qualifying distributions). Some foundation rely on legal opinions to mitigate such risks, but this may not always be cost-effective, particularly for smaller investments. But legal opinions are not always necessary provided that the the foundation has a sufficient understanding of the PRI rules and how they are applied and is comfortable accepting and managing a modest amount of risk. The trade-off can be key in allowing a private foundation to use PRIs to “get more bang out of their buck.”

The following examples and principles are listed on the IRS webpage on program-related investments:

5 Examples of PRIs

  1. Low-interest or interest-free loans to needy students,
  2. High-risk investments in nonprofit low-income housing projects,
  3. Low-interest loans to small businesses owned by members of economically disadvantaged groups, where commercial funds at reasonable interest rates are not readily available,
  4. Investments in businesses in low-income areas (both domestic and foreign) under a plan to improve the economy of the area by providing employment or training for unemployed residents, and
  5. Investments in nonprofit organizations combating community deterioration.

7 PRI Principles

  1. An activity conducted in a foreign country furthers an exempt purpose if the same activity would further an exempt purpose if conducted in the United States,
  2. The exempt purposes served by a PRI may include any of the purposes described in section 170(c)(2)(B) are not limited to situations involving economically disadvantaged individuals and deteriorated urban areas,
  3. The recipients of PRIs need not be within a charitable class if they are the instruments for furthering an exempt purpose,
  4. A potentially high rate of return does not automatically prevent an investment from qualifying as program-related,
  5. PRIs can be achieved through a variety of investments, including loans to individuals, tax-exempt organizations and for-profit organizations, and equity investments in for-profit organizations,
  6. A credit enhancement arrangement may qualify as a PRI, and
  7. A private foundation’s acceptance of an equity position in conjunction with making a loan does not necessarily prevent the investment from qualifying as a PRI.

Two Sticky Issues

  1. When a private foundation makes a particular investment, like a loan to a for-profit, can the foundation reasonably justify that such investment was made primarily to advance the foundation’s specific exempt purpose? According to the regulations: “An investment shall be considered as made primarily to accomplish one or more of the purposes described in section 170(c)(2)(B) if it significantly furthers the accomplishment of the private foundation’s exempt activities and if the investment would not have been made but for such relationship between the investment and the accomplishment of the foundation’s exempt activities.”Beyond the PRI rules, can the foundation also show that any private benefit it provides to the for-profit is incidental, quantitatively and qualitatively, to furthering its exempt purpose? An interesting example of an investment target would be a local for-profit newspaper. If the private foundation makes a high risk $1 million loan to the newspaper company at below market interest, is that consistent with the foundation’s educational goals? Is the newspaper company only incidentally benefited by the loan primarily extended to help assure the local public remain informed of important issues?
  2. If the production of income or appreciation of property is a secondary purpose for making the loan (the primary purpose being to advance the foundation’s exempt purpose), how can the foundation tell if such secondary purpose is significant? According to the regulations: “In determining whether a significant purpose of an investment is the production of income or the appreciation of property, it shall be relevant whether investors solely engaged in the investment for profit would be likely to make the investment on the same terms as the private foundation.”Using the newspaper example above, what if, in lieu of a loan, the foundation purchased a $1 million equity stake in the newspaper company? Such purchase may be at below the stock’s market value (particularly if the foundation accepted non-preferred stock), but it could help leverage additional equity investments from other investors seeking more preferential terms, which could ultimately result in a high return for all shareholders. While a high rate of return in and of itself does not signal that the foundation had a significant profit motive at the time it made the investment, how can one tell?


Program-Related Investments: Will New Regulations Result in Greater and Better Use? Nonprofit Quarterly

Strategies to Maximize Your Philanthropic Capital: A Guide to Program Related Investments TrustLaw, Thompson Reuters Foundation for Mission Investors Exchange

Examples of Program-Related Investments – Final Regulations  Federal Register


Council on Foundations 2016 Annual Conference



The Council on Foundations 2016 Annual Conference (The Future of Community) was held in Washington DC on April 8-12. The Conference website identifies contemporary boundaries that make up community (identity, purpose, and place) and three focus areas that have a direct impact on the health and well-being of our global communities:


In today’s workforce, the ideal employee must constantly adapt to new bodies of knowledge. To date, our current education system has not prepared our youth for this future and existing certificates degrees, and other traditional markers of expertise no longer guarantee successful careers. Foundations are looking critically at investments that support essential skill acquisition as well as improve existing educational institutions. To cultivate talent and adaptive skills that can keep workers at pace with a shifting global economy, grantmakers have also begun investing in new strategies for lifelong learning and skill development. These conference sessions will examine thes e pilot efforts that grantmakers have crafted to prepare a modern workforce.



With its ability to catalyze innovation, the philanthropic sector is looking at private/ public partnerships, civic engagement, building tighter ties to myriad efforts, as well as learning from grantmaking to date to combat the challenges of climate change. Conference sessions will focus on how grantmakers are looking to both global and local efforts to address climate change and its impact.



The United States has the largest prison population in the world, and many are routinely denied access to the civil legal processes that might help them overcome the pressing problems of everyday life, like home foreclosures, landlord disputes, custody cases, and unfair employment. Although a divisive topic in the past, today leaders of both parties have forged consensus around the need for bold action to fix this broken system. By examining large aspects of the justice system, including law enforcement, civil legal processes, and incarceration, this conference programming will look at the best ways that grantmakers can invest in meaningful reforms.

The Veterans Philanthropy Exchange 2016 National Annual Convening immediately followed the COF Annual Meeting and was kicked off with an announcement of $7 million in new commitments to the Philanthropy-Joining Forces Impact Pledge, a three year $285 million philanthropic effort to address a range of issues facing veterans.


Here are some my favorites resources coming out of, or relating to topics covered by, the Conference:

A Common Vision for Improving the Future of Community, CEO Vikki Sprull’s opening remarks (YouTube)

2016 Annual Conference – Day 1 Recap (YouTube)

2016 Annual Conference – Day 2 Recap (YouTube)


Council on Foundations President Focuses on the Future of Community (RE: Philanthropy Blog)

Research Reinforces Importance of Community, Upbringing for Revered Historian McCullough (RE: Philanthropy Blog)

HUD Deputy Secretary Shares Department’s Efforts in Building Communities (RE: Philanthropy Blog)


Philanthropy and Inclusivity: A Longstanding Problem That Must Be Treated as Urgent (Nonprofit Quarterly)

Philanthropy and Equity: Pushing from the Inside Is Slow Going (Nonprofit Quarterly)

Final State of the Work (D5’s annual report on the state of diversity, equity, and inclusion in philanthropy)

The California Endowment Diversity, Equity and Inclusion Report Card [See 15 Diversity Plan Goals]


2016 US Council on Foundations: American philanthropy prepares for climate change in Congress (Alliance Magazine)

2016 US Council on Foundations: De-polarizing climate change (Alliance Magazine)

2016 US Council on Foundations: How US funders can lead the SDGs at home (Alliance Magazine)


4 Takeaways from Council on Foundations 2016 Annual Conference (JD Supra)

1. When you want to fill a room to capacity, talk about the Chan Zuckerberg Initiative.
2. MRIs and PRIs finally have some momentum.
3. Good governance remains a top priority for the sector.
4. We may be witnessing the next great generation.

Popular Tweets

MacArthur Foundation: “Philanthropy has the freedom to experiment and ask questions for which there are not answers.”—MacArthur Pres. Julia Stasch

Kresge Education: Philanthropy should be leading a national conversation on diversity, equity and inclusion- not trailing it.

Council on Foundations: “Unless governments put climate change into law, we’ll never get there.” @richardbranson

Packard Foundation: #Philanthropy at its best is a magical combination of passion, patience, persistence, and true partnership. Carol Larson

Chan Zuckerberg Initiative – Taxable Social Enterprise – Part 2

Young hipster man making a good-bad sign

Shortly after Mark Zuckerberg announced the social good goals of the Chan Zuckerberg Initiative and the joint pledge he made with his wife Priscilla Chan to contribute 99 percent of their Facebook shares (currently valued at about $45 billion) to the Initiative, which is structured as a limited liability company (LLC), I started getting calls from the media. They wanted to know what it meant to give money to an LLC instead of a 501(c)(3) nonprofit. I subsequently wrote a very brief article explaining the rationale for using an LLC and how the Chan-Zuckerberg Initiative was reminiscent of earlier social good efforts from some Silicon Valley titans. Since then, dozens of stories have come out criticizing and defending Zuckerberg and the couple’s use of the LLC as a vehicle in philanthropic giving.

Among the publications I spoke with about the Initiative: Fast CompanyThe Chronicle of PhilanthropyNational Public Radio (NPR), the Canadian Broadcasting Company (CBC), and Tax Analysts.

LLC Background Information

An LLC is Not a Nonprofit

  • An LLC owned by individuals is not a 501(c)(3) tax-exempt entity
    • But the LLC may very well be a pass-through entity (like a partnership or sole proprietorship) in which its profits, losses, and other tax attributes are passed through to its owners
  • A contribution to such an LLC does not allow for a charitable contribution deduction
    • But the owners may be able to take a charitable contribution deduction if and after the LLC makes a contribution to a qualified 501(c)(3) entity
    • The owners will not be able to take a charitable contribution deduction for direct contributions to, or investments in, a for-profit social enterprise (a form of impact investing); contributions earmarked for lobbying; or contributions to engage in political campaign intervention

An LLC Offers Great Flexibility and Benefits

  • An LLC can have a social good purpose and, just like any individual, can engage in charitable and philanthropic activities
    • It can make charitable contributions to public charities or to a private foundation
    • It can make charitable contributions to a donor-advised fund (allowing for an immediate tax deduction and deferred grantmaking)
    • It can make investments in for-profit social enterprises
    • It can make loans to nonprofit or for-profit social enterprises
    • It can guarantee loans made by financial institutions to nonprofit or for-profit social enterprises
    • It can enter into joint ventures with nonprofits
    • It can enter into joint ventures with for-profits without being subject to the same limitations and restrictions that would be applicable to a 501(c)(3) co-venturer
    • It can engage in lobbying without limitations that would be applicable to 501(c)(3) organizations
    • It can engage in political campaign intervention like supporting or opposing political candidates without  limitations that would be applicable to most tax-exempt organizations
  • The purposes of an LLC can be changed by its owners at any time, subject to any internal restrictions they may have created by contract
    • Accordingly, the LLC can simply turn into a regular investment vehicle at any time without public notice
  • The governance of an LLC is extremely flexible; it can be structured with just one manager or have a corporate-like board of directors
  • An LLC offers its owners limited liability protection and is a widely used vehicle for asset protection purposes
  • A privately-held LLC is not required to operate transparently to the public

A Pledge is Not the Same as a Contribution

  • An unenforceable pledge to an individual’s own LLC is not binding and is merely an expression of present intent

My Take

The LLC offers Chan and Zuckerberg a limited liability vehicle in which to organize their social good efforts. It offers the couple no additional tax benefits with respect to the deducibility of their contributions. The deduction will follow the change in control of the funds from Chan and Zuckerberg (regardless of whether held in a pass-through LLC or in their personal accounts) to a 501(c)(3) charitable entity. But a limited liability form is completely customary in any entity of that size owned by individuals.

No money has changed control yet. At this point, there is just an unenforceable pledge, albeit a very public one for an enormous amount of money. It’s fair to criticize the message (was it initially misleading or simply broadly misinterpreted as a pledge to charity?), but utilization of an LLC from which to engage in individual social good efforts is not in and of itself worthy of criticism. We’ll see a lot more of this from younger, sector-agnostic, wealthy do-gooders in the future. See A Prediction for the Nonprofit Sector.

Finally, as The Atlantic article referenced below states:

It’s too early to criticize the Chan Zuckerberg Initiative—just as it’s too early to praise it.

Recommended Reading

Mark Zuckerberg’s Philanthropy Uses L.L.C. for More Control (New York Times)

Assessing Mark Zuckerberg’s Non-Charity Charity (Atlantic)

How Mark Zuckerberg’s Altruism Helps Himself (Pro Publica)

Mark Zuckerberg wants to change the world, again. You got a problem with that? (Fusion)

5 criticisms of billionaire mega-philanthropy, debunked (Quartz)

Chan Zuckerberg Initiative – Taxable Social Enterprise

Mother holding her newborn baby's feet

Yesterday, Mark Zuckerberg published a touching letter written to his week-old daughter Max which announced the beginning of the Chan Zuckerberg Initiative. The Initiative’s mission focuses on two ideas: advancing human potential and promoting equality. And the statement that raised all the attention:

We will give 99% of our Facebook shares — currently about $45 billion — during our lives to advance this mission.

Many initially assumed the pledge from Zuckerberg and his wife Priscilla Chan was to one or more 501(c)(3) charitable organizations, but a Facebook press statement clarified that the Initiative was a limited liability company (LLC). A New York Times article explains the rationale for choosing a non-tax-exempt entity:

By using a limited liability company instead of a nonprofit corporation or foundation, the Zuckerberg family will be able to go beyond making philanthropic grants. They will invest in companies, lobby for legislation and seek to influence public policy debates, which nonprofits are restricted from doing under tax laws. A spokeswoman for the family said that any profits from the investments would be plowed back into the Chan Zuckerberg Initiative for future projects.

This is reminiscent of Google’s announcement in 2005 that it would commit one percent of its profits and equity to, a division of Google Inc. and not a 501(c)(3) organization, to advance its philanthropic efforts. A Washington Post article explains Google’s rationale for not making the pledge to a tax-exempt charity or its own Google Foundation:

By using for the bulk of its charitable giving, the company will have greater flexibility in how it deploys the funds since the affiliate will not be subject to the restrictions imposed on foundations by the Internal Revenue Service. For example, will be able to invest in projects promoting entrepreneurship in Africa that are off limits for foundations because the programs turn a profit. It will also support charitable initiatives that spread the use of technology and could be viewed as questionable for a foundation since they are closely related to Google’s business.

The Omidyar Network (started by eBay founder Pierre Omidyar) provides another example of the use of a non-exempt LLC to further philanthropic purposes. A Forbes interview of the Omidyar Network’s managing partner Matt Bannick explains the hybrid model:

At the heart of our strategy is a flexible approach to philanthropy. We embrace whatever tools necessary—including nonprofit grants and for-profit impact investments–to support high-impact social entrepreneurs and the broader environments in which they work.  Our hybrid investment approach is supported by a hybrid organizational structure:  we operate both a foundation and a for-profit investment fund under the same roof.

Deeper Dive

For-Profit Philanthropy – Dana Brakman Reiser, 77 Fordham Law Review 2437 (2009)

Private Foundation: New Rules Recognizing Mission-Related Investments

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On September 15, 2015, the IRS released Notice 2015-62, Investments Made for Charitable Purposes, which may provide comfort to private foundations about making mission-related investments with reasonable business care without violating the jeopardizing investments laws. It is hoped that this guidance will catalyze greater impact investing by foundations using their endowment assets.

Mission-Related Investments

While a mission-related investment or MRI is not currently defined by the Internal Revenue Code or Treasury Regulations, it is generally considered to be an investment for both a financial return and a social impact return (more specifically, one that advances the particular mission of the investor). In some cases, there may be no need to balance those potentially competing concerns. But in many cases, the investor will need to balance at least short-term financial return with the social impact return. Some simple examples of MRIs include a purchase of equity in a company creating jobs in economically disadvantaged communities, a loan to an organization distributing essential resources in developing countries, and an investment in an alternative energy company.

See Mission-Related Investing: Legal and Policy Issues to Consider Before Investing (MacArthur Foundation)

Jeopardizing Investments

According to the IRS: “Jeopardizing investments generally are investments that show a lack of reasonable business care and prudence in providing for the long- and short-term financial needs of the foundation for it to carry out its exempt function.”

Substantial penalty taxes may be imposed on private foundations that make jeopardizing investments pursuant to Section 4944 of the Internal Revenue Code. The foundation may be subject to a first-tier tax of 10% of the relevant amount so invested for each year in the taxable period. A 25% second-tier tax may be imposed if the violation is not corrected within the taxable period. Foundation managers (including directors) who knowingly participated in making that investment may also be subject to a first-tier tax of 10% and a second-tier tax of 5% of the relevant amount.

The general approach to avoiding the tax on jeopardizing investments is to invest in a reasonably diversified portfolio of assets rather than in a small number of speculative investments. The IRS provides: “In deciding whether the investment of an amount jeopardizes carrying out the exempt purposes, a determination must be made on an investment-by-investment basis taking into account the foundation’s portfolio as a whole.”

There is a specific exclusion from the jeopardizing investment prohibition for program-related investments (PRIs). Generally, a PRI is an investment in which (1) the primary purpose is to accomplish one or more charitable purposes; (2) the production of income or the appreciation of property is not a significant purpose; and (3) lobbying or electioneering is not a purpose. A PRI might take the form of a loan to a charity or a loan to, or equity investment in, a business entity for a charitable purpose, such as, to develop or distribute a lifesaving drug for use in developing countries that would not otherwise be commercially viable.

See Private Foundation – “Jeopardizing investments” defined (IRS)

The New Guidance

According to the IRS, Notice 2015-62 “confirms that under section 4944 of the Internal Revenue Code, private foundation managers may consider the relationship between a particular investment and the foundation’s charitable purpose when exercising ordinary business care and prudence in deciding whether to make the investment.”

In other words, it’s not a lack of reasonable business care and prudence (and therefore not a jeopardizing investment) merely because the private foundation managers consider the social impact return related to the foundation’s mission as well as the financial return the investment may produce in selecting an investment.

Prior to this guidance, it was uncertain whether private foundation manager could select an investment whose primary purpose was to accomplish one or more charitable purposes where the production of income or the appreciation of property was also a significant purpose, making the investment fall outside of the definition of a PRI. The Notice specifically states:

Foundation managers are not required to select only investments that offer the highest rates of return, the lowest risks, or the greatest liquidity so long as the foundation managers exercise the requisite ordinary business care and prudence under the facts and circumstances prevailing at the time of the investment in making investment decisions that support, and do not jeopardize, the furtherance of the private foundation’s charitable purposes.

Notably, this conforms the standard under federal tax laws with the state prudent investment laws under the Uniform Prudent Management of Institutional Funds Act (UPMIFA), “which generally provide for the consideration of the charitable purposes of an organization or certain factors, including an asset’s special relationship or special value, if any, to the charitable purposes of the organization, in properly managing and investing the organization’s investment assets.”


Michele Berger: On a webinar hosted by Mission Investors Exchange and the Council on Foundations titled “Impact Investing and Private Foundations: New Guidance from the IRS and Its Implications for the Field“, the following tips were discussed.

While foundations may now enjoy more comfort and less ambiguity when making impact investments, foundation managers must still exercise the same ordinary business care and prudence when making such investments. Some suggestions for implementing a process for MRIs include:

  • having a separate portfolio for impact investments;
  • creating a policy statement within the organization that addresses how to make MRIs;
  • looking at what the foundation sees as its purposes (examining Articles of Incorporation, the mission statement, programs) and measuring how the investment is tied to those purposes;
  • documenting the decision and rationale for the investment in meeting minutes or a summary of the investment;
  • making sure the board and senior management is apprised of such decisions and processes; and
  • consulting counsel.

See New IRS Rule Likely to Make Impact Investing Easier, The Chronicle of Philanthropy

International Grantmaking: Expenditure Responsibility


Private foundations in the United States are often interested in funding promising organizations and projects that are based outside of the country. When doing so, these foundations are required to follow certain rules and procedures promulgated by the IRS to help ensure that the foreign grantees are properly using those funds for charitable purposes. Currently, when a private foundation engages in international grantmaking, it has two options for complying with these rules: exercising expenditure responsibility or conducting an equivalency determination.

What is Expenditure Responsibility?

Expenditure responsibility (also referred to colloquially as “ER”) means that the foundation exerts all reasonable efforts and establishes adequate procedures:

  1. To take certain precautions to ensure that the grant funds will be spent for proper purposes (in connection with this requirement the foundation must conduct a pre-grant inquiry concerning potential grantees and make all its grants subject to a certain type of written grant agreement with the grantee);
  2. To obtain full and complete reports from the grantee on how the funds are spent; and
  3. To make full and detailed reports to the IRS on the expenditures.

When is an Expenditure Responsibility Required?

ER is generally required whenever a private foundation makes a grant to an organization other than (i) a public charity described by Internal Revenue Code (IRC) §509(a)(1) or (2); (ii) a pubic charity described by IRC §509(a)(3) – or supporting organization – other than a non-functionally integrated Type III supporting organization; and (iii) an exempt operating foundation described in IRC §4940(d)(2), which has been publicly supported for at least 10 years. Accordingly, ER is required when a private foundation makes a grant to:

  • a foreign nongovernmental organization (NGO), unless an equivalency determination is conducted;
  • a private foundation (other than an exempt operating foundation);
  • a 501(c)(4) social welfare organization, 501(c)(5) labor union, or 501(c)(6) business league; or
  • a non-tax exempt (for-profit) business (for exclusively charitable purposes).

Pre-Grant Inquiry

The pre-grant inquiry should concern itself with matters such as:

  • the identity, prior history, and experience of the grantee and its managers; and
  • whether the grantee has a history of compliance or noncompliance with the terms of previous grants, and any knowledge concerning the management, activities, and practices of the grantee.

The scope of the pre-grant inquiry will vary in each case depending on —

  • the size and purpose of the grant;
  • the period over which it will be paid; and
  • any prior experience the grantor has had with the grantee.

The Internal Revenue Service Manual provides that “[o]rdinarily, no further pre-grant inquiry is necessary where a grantee has properly used all prior grants and filed the required reports.”

The grant agreement for an ER grant must include the following:

  • the grant purposes, which can include contributing to capital endowment, purchase of capital equipment, specific program or series of programs, or general support of the grantee, provided that neither the grants nor the income thereof may be used for a non-501(c)(3) purpose or for testing for public safety;
  • a provision indicating that the grantee must repay any funds not used for grant purposes;
  • a covenant that the grantee must submit annual reports on the use of funds (unless the grant is to a private foundation for endowment or other capital purposes, in which case other rules apply – see Treas. Reg. 53.4945-5(c)(2));
  • a covenant requiring complete records of receipts and expenditures to be maintained, and made available to the grantor;
  • a covenant not to use any funds (1) to influence legislation, (2) to influence the outcome of elections or carry on voter registration drives, (3) to make grants to individuals for travel, study, or other similar purposes by such individual, unless such grant satisfies the requirements of IRC §4945(g), (4) to make grants to other organizations except as provided in IRC 4945(d)(4) (it’s generally okay for the grantee to regrant to any organizations the private foundation can grant to, subject to the same conditions), or (5) to undertake any activity for any purpose other than a 501(c)(3) purpose (but not for testing for public safety).

Reports from Grantee

Reports from the grantee must be required annually and after all the grant funds have been expended (though an annual report may suffice as a final report if the grant funds are fully expended in a single year). Such reports should address the following:

  • the use of the funds;
  • compliance with the terms of the grant; and
  • the progress made by the grantee toward achieving the purposes for which the grant was made.

Reports to the IRS

Reports to the IRS from the grantor (made in its Forms 990-PF) must include the following information:

  • The name and address of the grantee;
  • The date and amount of the grant;
  • The purpose of the grant;
  • The amounts expended by the grantee (based upon the most recent report received from the grantee);
  • Whether the grantee has diverted any portion of the funds (or the income therefrom in the case of an endowment grant) from the purpose of the grant (to the knowledge of the grantor);
  • The dates of any reports received from the grantee; and
  • The date and results of any verification of the grantee’s reports, but only if undertaken pursuant to and to the extent required because the grantor had reason to doubt the accuracy or reliability of such reports.

Additional Resources

Grants to Organizations from Private Foundations: Is Expenditure Responsibility Required? – Council on Foundations

Office of Chief Counsel IRS Memorandum No. 200504031 – IRS

Expenditure Responsibility – A Primer & Ten Puzzling Problems – Adler & Colvin

IRC §4945 – Taxes on Taxable Expenditures

Treasury Reg. §53.4945-5 – Grants to Organizations

Private Foundations & Self-Dealing  

InvestmentWe recently added a post to the blog about private foundations and the rules that they are subject to.  Of the private foundation rules, those regarding self-dealing are some of the most complex and have some of the most serious potential ramifications for a private foundation if violated.  In this post, we’ll take a closer look at the self-dealing rules and some of the exceptions to the rules.

Internal Revenue Code (“IRC”) § 4941 sets forth the self-dealing rules for private foundations and defines self-dealing as any direct or indirect:

  • “sale or exchange, or leasing, of property between a private foundation and a disqualified person;
  • lending of money or other extension of credit between a private foundation and a disqualified person;
  • furnishing of goods, services, or facilities between a private foundation and a disqualified person;
  • payment of compensation (or payment or reimbursement of expenses) by a private foundation to a disqualified person;
  • transfer to, or use by or for the benefit of, a disqualified person of the income or assets of a private foundation; and
  • agreement by a private foundation to make any payment of money or other property to a government official…, other than an agreement to employ such individual for any period after the termination of his government service if such individual is terminating his government service within a 90-day period.”

IRC § 4946 provides the definition of a disqualified person for purposes of the rules applicable to private foundations.  With respect to the self-dealing rules, a disqualified person includes anyone who is:

  • a substantial contributor to the foundation;
  • a foundation manager (which includes officers, directors, trustees, or other individuals who have similar powers or responsibilities);
  • an owner of more than 20% of the combined voting power of a corporation, the profits interest of a partnership, or the beneficial interest of a trust which is a substantial contributor to the foundation;
  • a family member of any such persons;
  • a corporation, partnership, or trust of which any such persons own more than 35% of the total combined voting power, profits interest, or beneficial interest, respectively; or
  • a government official.

As we discussed in our recent post, if a private foundation enters into a self-dealing transaction with a disqualified person, both the disqualified person and the foundation managers who knowingly participated in the self-dealing transaction will be subject to taxes.  (See this IRS page (updated 7/29/16) for additional information on the taxes on self-dealing; and this IRS page (updated 8/12/16) for additional information on the definition of disqualified person)

However, there are exceptions and special rules that apply to the self-dealing restrictions that private foundations and potential disqualified persons should be aware of, including:

  • Gifts – Although the furnishing of goods, services, or facilities by a disqualified person to a private foundation is typically considered an act of self-dealing, that will not be the case if the goods, services, or facilities are to be used exclusively for IRC Section 501(c)(3) exempt purposes and are provided to the private foundation without charge.
  • Compensation – The payment of compensation or the reimbursement of expenses by a private foundation to a disqualified person (other than a government official) for personal services that are reasonable and necessary to carrying out the foundation’s exempt purposes will not be considered self-dealing, so long as the compensation amount is not excessive. Although we don’t have a clear definition of what constitutes reasonable and necessary personal services, the Regulations state that personal services include legal services, investment advice, commercial banking services, and the services of a broker serving as an agent for the private foundation.  This exception does not apply to the purchase or sale of goods, even if services are a part of the process of producing the goods.  A private foundation may also provide goods, services, or facilities (such as meals or lodging) to a foundation manager, employee, or volunteer without engaging in a self-dealing transaction if the value of the items provided is reasonable and necessary to the performance of the foundation’s activities in carrying out its exempt purposes.
  • Loans – A disqualified person may loan money to a private foundation without it constituting a self-dealing transaction if the loan is made without interest or other charge and if the proceeds of the loan are used by the private foundation exclusively for IRC Section 501(c)(3) exempt purposes. A loan by a disqualified person to a private foundation at below-market rates, however, will still be treated as an act of self-dealing to the same degree that a loan at market rates would be.  The provision of general banking services, including checking and savings accounts (subject to certain conditions), will generally not be considered self-dealing.
  • Leases – The lease of space by a disqualified person to a private foundation will not be considered an act of self-dealing if the lease is without charge. The lease will still be considered to be without charge even if the foundation pays for janitorial expenses, utilities, or other maintenance or administrative costs it incurs, so long as the private foundation does not make the payments directly or indirectly to a disqualified person (rather, the payments should be made directly to the utility provider, for example).  There is also an exception for the leasing of office space to a private foundation in a building with other tenants who are not disqualified persons if the lease is pursuant to a binding contract that was in effect on October 9, 1969, or renewals thereof, and the lease reflects an arm’s length transaction.
  • Publicly Available Services – A private foundation may provide goods, services, or facilities to a disqualified person on a basis no more favorable than that on which the goods, services, or facilities are provided to the general public without violating the self-dealing rules. However, this exception only applies if a substantial number of persons other than disqualified person actually use the goods, services, or facilities in question.
  • Incidental Benefits – The receipt by a disqualified person of an incidental or tenuous benefit from the private foundation’s use of its income or assets is not sufficient in-and-of-itself to make the use an act of self-dealing. For example, if a substantial contributor gets public recognition for the activities of the foundation, that alone generally will not be sufficient to constitute self-dealing.
  • Recapitalization – A transaction between a private foundation and a corporation that is a disqualified person is not self-dealing if it is pursuant to a liquidation, merger, redemption, recapitalization, or other corporate adjustment, organization, or reorganization so long as all of the securities of the same class as those held by the foundation are subject to the same terms and the private foundation will receive no less than fair market value. In order for the securities to be considered subject to the same terms, the corporation must make a bona fide offer on an equal basis to the foundation and every other holder of securities of the same class.
  • Government Officials – Certain payments to government officials, including certain prizes and awards, scholarships for educational study, incidental gifts or services, and reimbursement of domestic travel expenses, will not constitute self-dealing.

Unless an exception applies, the prohibition on acts of self-dealing for private foundations is absolute and, given the stiff penalty taxes that are imposed, private foundations are well-advised to understand these rules and to ensure that they refrain from violating them.