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What some foundations are doing differently because of the coronavirus pandemic: 4 questions answered

June 23, 2020 Category: FeaturedFundingLong


This guest column was written by Daniel Hemel, sssistant professor of law at the University of Chicago.

This article is republished from The Conversation under a Creative Commons license. Read the original article here.

Five prominent private foundations announced on June 11, 2020 that they would increase their grant making by more than US$1.7 billion over the next three years “to help stabilize and sustain a nonprofit sector facing devastating economic effects due to the global pandemic and the epidemic of social injustice.” The Conversation asked legal scholar Daniel Hemel, to help readers understand this move.

1. What’s going on?

Federal law requires private foundations to spend a portion of their endowments, typically at least 5%, on charitable endeavors each year. Many of the largest private foundations keep close to that 5% floor. But the Ford Foundation, the John D. and Catherine T. MacArthur Foundation, the Andrew W. Mellon Foundation, the W.K. Kellogg Foundation and the Doris Duke Charitable Foundation — jointly announced that they would raise their payout rates substantially above that floor for the next two to three years. Ford, the largest of the five, says its payout will rise to more than 10% of its endowment in 2020 and 2021. That announcement followed an earlier pledge by more than 700 foundations to relax grant restrictions so that the charities they support have greater flexibility to respond to challenges created by the COVID-19 pandemic.

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2. Why 5%?

Congress initially set the minimum payout at 6% of foundation investment assets in 1969, later lowering it to 5% in 1976. The choice between these rates is admittedly arbitrary, but there is logic behind the decision to set the payout rate at a single-digit percentage of foundation assets.

Many large foundations aspire to provide stable support for the nonprofit sector in perpetuity. To maintain their spending power for years to come, foundations need to earn a return on their investments that is at least equal to their payout rate. The long-term inflation-adjusted return on U.S. financial investments has averaged around 6% per year since 1870. Unless foundations can beat the market by a wide margin, they likely won’t be able to sustain a double-digit percentage payout rate for very long. Recognizing this, the five foundations all have committed to temporary payout increases over the next two or three years. As Ford Foundation President Darren Walker has argued, a “once-in-a-century crisis” requires an out-of-the-ordinary response.

3. Why aren’t all foundations doing this?

Not every philanthropist is convinced that this crisis is “once-in-a-century.” There is no iron rule that pandemics may only sweep the world once every 100 years, after all. Foundations that pay out more now will have less to spare if another, possibly even deadlier scourge – perhaps a 1918-like pandemic influenza strain or a highly transmissible form of Ebola – arrives in the not-too-distant future.

Other foundations believe their dollars can be better used to address challenges that aren’t likely to go away in a few years, like systemic racism or climate change. They might decide that nothing about COVID-19 or the resulting recession changes their optimal spending strategy. Still others might think that the present moment is a time to hit the pause button on new projects while social distancing and travel restrictions make it hard to conduct on-the-ground evaluations of potential grantees.

And it’s important to underscore that if past performance is any guide to future results, the foundations’ temporarily higher payout amounts cannot be sustained forever. If the Ford Foundation had spent at a significantly faster rate in its early days, it wouldn’t have been able to provide the grant that launched the Mexican American Legal Defense and Education Fund at the height of the civil rights movement. If MacArthur had spent significantly more early on, it would have had less money to devote to the “loose nukes” problem in the former Soviet Union after the Cold War’s end. The decision to spend more now inevitably means spending less later.

The problems of the present are easier to see than the challenges of the future are to imagine. But those future challenges aren’t necessarily less important to address.

4. What else are some big foundations doing?

The Ford Foundation is issuing $1 billion of “social bonds” to finance its new spending. MacArthur is issuing $125 million of bonds, and the Doris Duke Charitable Foundation is issuing $100 million of bonds. The other two foundations in the group of five have yet to reveal their plans for financing the additional spending.

For Ford, what that means is that a foundation is borrowing $1 billion from investors in exchange for a legally enforceable promise to pay the money back at the end of the bond term and to pay interest each year in the meantime. Ford’s bonds will have terms of between 30 and 50 years.

Ford will be better off issuing $1 billion of bonds rather than selling $1 billion of its assets if the interest rate it pays on the bonds is less than the investment return it can earn on its endowment. Leveraging its holdings by taking on debt is a riskier portfolio strategy than foundations typically pursue, but risky isn’t always bad. It’s the same logic that many homeowners follow when they take out a mortgage.

Again, spending more money now means that there will be less money to spend later — and that’s true no matter how foundations finance that additional spending today. Whether that’s the right move will depend on whether the good that foundations can do with their additional spending today outweighs the good they could have done if they had spent the money in the future.

The Conversation US is funded by a variety of foundations, which are disclosed on their website.The Conversation

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