IRS Holds Two-Day Hearing on Proposed Donor-Advised Fund Regulations

The Internal Revenue Service (IRS) held a hearing on May 6–7, 2024 on the proposed regulations for donor-advised funds (REG-142338-07) issued by the agency in November 2023. More than 150 organizations provided comments on the proposed regulations during the comment period leading up to the hearing, which hearing featured 34 in-person speakers, including a number of speakers from community foundations.

Many of the commenters took time to point out the benefits of donor-advised funds (DAFs) as well as the benefits of other types of funds that are currently not treated as DAFs but would be fundamentally impacted by the proposed regulations. These benefits included the lower cost of administering DAFs, the higher commitment to and resources available for compliance, the ability to undertake larger-scale programs when accessing the administrative support systems of a large sponsoring organization, and the efficient and egalitarian nature of DAFs.

In a particularly salient example, a speaker from the North Texas Community Foundation noted that a donor to the organization had contributed $12 million to a DAF in the 1980s and today that account holds almost $40 million and has made grants of $39 million. Commenters also generally reported on their organizations’ existing payout rates (which ranged from 12% to upwards of 40%) and often noted higher payout rates among individually managed accounts (contrary to concerns of the IRS relayed in the preamble).

Many commenters expressed the view that the proposed regulations, if adopted as final, would have a chilling effect, not only on the use of traditional DAFs but also on the use of many kinds of funds that would likely be treated as DAFs under the regulations.

The substantive comments predominantly focused on four key issues that were also the focus of many of the written comments:

• The inclusion of a personal investment advisor (PIA) as a donor advisor. The recommendations for changes to this provision included (1) striking the provision, noting its inconsistency with the current statute and existing laws and standards of practice that govern these relationships, and (2) an approach that a PIA would not be considered a donor advisor if it enters into an appropriate written agreement with the sponsoring organization, subjecting the PIA to the investment policies of and oversight by the sponsoring organization.
• The broad definition of “DAF.” These comments came largely from the community foundations and tended to focus on examples of funds that would be reclassified as DAFs and fundamentally impacted by such reclassification. These examples generally centered on field-of-interest funds and other collaborative funds that either make grants to individuals, incur significant administrative expenses, or work extensively with for-profit companies to implement a project (such as mask and testing companies during the COVID-19 pandemic).
• The definition of “distribution.” These comments generally focused on the lack of a carve-out for administrative expenses. Most commenters called for such an exception to be included, while some asked that the definition be aligned with the definition of “grant” under Section 4945.
• Effective date/retroactivity. Many, if not most, commenters requested that the regulations not be retroactively effective. Some also requested a transition period.

Other aspects of the proposed regulations that speakers commented on included the anti-abuse rule, the confusing advisory committee rules, the definition of “investment” (requesting that it be aligned with the program-related investment rules), when changes to restricted funds would amount to advisory privileges, and the fact that the regulations treat DAFs less favorably than private foundations.

Some of the community foundation representatives stated that they felt the proposed regulations would provide national DAFs with an advantage because they have access to high-quality investment advice and options outside of individually managed accounts—something that community foundations and independent sponsoring organizations generally cannot access. Some speakers also expressed the view that the effect of the proposed regulations would be to divert assets out of community foundations and toward private foundations or out of the charitable sector entirely.

Several commenters requested that the proposed regulations be withdrawn and, if appropriate and after consultation with the sector, reproposed. Some also noted that the proposed regulations are vulnerable to challenge under the Administrative Procedures Act on the grounds that the DAF legislation is not ambiguous and does not support many substantive provisions in  the proposed regulations, and that the proposed regulations may be inconsistent with the statute.