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The 'black hole' that sucks up Silicon Valley's money

The Atlantic logo The Atlantic 5/20/2018 Alana Semuels

Mark Zuckerberg et al. posing for a picture© Manuel Balce Ceneta / APA fast-growing type of charitable account gets big tax breaks but little oversight.

The San Francisco Bay Area has rapidly become the richest region in the county—the Census Bureau said last year that median household income was $96,777. It’s a place where $100,000 Teslas are commonplace, “raw water” goes for $37 a jug, and injecting clients with the plasma of youth —a gag on the television show Silicon Valley—is being tried by real companies for just $8,000 a pop.

Yet Sacred Heart Community Service, a San Jose nonprofit that helps low-income families with food, clothing, heating bills, and other services, actually received less in individual donations from the community in 2017 than it did the previous year. “We’re still not sure what it could be attributed to,” Jill Mitsch, funds development manager at Sacred Heart, told me. It’s not the only nonprofit trying to keep donations up—the United Way of Silicon Valley folded in 2016 amidst stagnant contributions.

That’s not to say that Silicon Valley’s wealthy aren’t donating their money to charity. Many, including Mark Zuckerberg, Elon Musk, and Larry Page, have signed the Giving Pledge, committing to dedicating the majority of their wealth to philanthropic causes. But much of that money is not making its way out into the community.

There are many reasons for this, but one of them is likely the increasing popularity of a certain type of charitable account called a donor-advised fund. These funds allow donors to receive big tax breaks for giving money or stock, but have little transparency and no requirement that money put into them is actually spent. Fidelity Charitable and Schwab Charitable, two of the biggest charities with donor-advised fund programs, held $2.2 billion in donor-advised funds from clients located in San Mateo and Santa Clara Counties in 2014. That’s a 946 percent increase from 2005, according to The Giving Code, a 2016 report about philanthropy in Silicon Valley.

Because donor-advised funds are still categorized as public charities, they have no payout requirement and fewer disclosure requirements. And because they’re categorized as public charities, donors can give a higher share of their income to these funds than they could to a private foundation, which can help them avoid taxes.

And wealthy residents of Silicon Valley are donating large sums to such funds. Last year, the Goldman Sachs Philanthropy Fund received $114 million from Jan Koum, the co-founder of WhatsApp, and $526 million from Laurene Powell Jobs, the founder of Emerson Collective, according to Bloomberg, which obtained two pages of IRS information that the agency mistakenly posted online. (Emerson Collective owns a majority stake of The Atlantic.) “Donor-advised funds have been growing at double-digit rates from year to year,” Ray Madoff, a professor at Boston College Law School and a critic of donor-advised funds, told me. “Ask any nonprofit what their growth looks like—it’s nothing like that.”

The biggest of these collections of donor-advised funds in the region—and one that’s been in the news frequently in Silicon Valley lately because of a #MeToo scandal first reported by The Chronicle of Philanthropy—is the Silicon Valley Community Foundation. The foundation said in February that it has $13.5 billion of assets under management, meaning that it surpassed the Ford Foundation to become the philanthropy with the third-largest coffers in the United States, according to The Chronicle of Philanthropy. It has received billions of dollars in donations from dozens of tech titans, including Koum, the former Ebay president Jeff Skoll, the WhatsApp co-founder Brian Acton, the Facebook co-founder Dustin Moskovitz, Netflix CEO Reed Hastings, the Twitter founder Jack Dorsey, the Google co-founder Sergey Brin, and the Oracle founder Larry Ellison. Mark Zuckerberg gave $1 billion in shares in 2013. Like any other community foundation—just about any city and lots of small towns have them—it is supposed to be helping local donors give to local causes. Or, as it says on its website, “engaging donors to make our region and world a better place for all.”

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But critics say that in part because of its structure as a warehouse of donor-advised funds, the Silicon Valley Community Foundation has not had a positive impact on the community it is meant to serve. Some people I talked to say the foundation has had little interest in spending money, because its chief executive, Emmett Carson, who was placed on paid administrative leave after the Chronicle’s report, wanted it to be known that he had created one of the biggest foundations in the country. Carson was “aggressive” about trying to raise money, but “unaggressive about suggesting what clients would do with it,” one Silicon Valley nonprofit head, who did not want his name used because he is still seeking money from the Foundation, told me. “Most of us in the local area have seen our support from the foundation go down and not up,” he said.

The amount of money going from the Silicon Valley Community Foundation to the nine-county Bay Area actually dropped in 2017 by 46 percent, even as the amount of money under management grew by 64 percent, to $13.5 billion. Local nonprofits called the foundation the “Death Star” and the “Black Hole” because it was so hard to get money out of it, Al Cantor, a nonprofit consultant, told me. “They got so drunk on the idea of growth that they lost track of anything smacking of mission,” he said. It did not help perceptions that the foundation opened offices in New York and San Francisco at the same time local organizations were seeing donations drop. And even when it did give out money, the Silicon Valley Community Foundation often spent it outside of California. Last year, it gave out $436 million in grants to the nine-county Bay Area, which was just 34 percent of the $1.3 billion in grants it dispersed.

Mindy Berkowitz, the executive director of Jewish Family Services of Silicon Valley, told me that she met with the Silicon Valley Community Foundation a decade ago to find out more about how to try and attract money from donor-advised funds. The foundation now gives her organization some grants, but they don’t come from the donor-advised funds, she told me. ”I haven’t really cracked the code of how to access those donor-advised funds,” she said. Her organization had been getting between $50,000 and $100,000 a year from United Way that it no longer gets, she said, yet it deals with more and more demand for services—with extra money, she would want to give out housing stipends or dedicate a staff member to helping people find affordable housing, or bring an attorney on board to run the group’s pro bono legal clinic.

Rob Reich, the co-director of the Stanford Center on Philanthropy and Civil Society, set up a donor-advised fund at the Silicon Valley Community Foundation as an experiment. He spent $5,000—the minimum amount accepted—to set up a donor-advised fund, and waited. He received almost no communication from the foundation, he told me. No emails or calls about potential nonprofits to give to, no information about whether the staff was out looking for good opportunities in the community, no data about how his money was being managed. (Donors choose how aggressively they want fund managers to invest their money in the stock market.) One year later, despite a booming stock market, his account was worth less than the $5,000 he had put in, and had not been used in any way in the community. His balance was lower because the foundation charges hefty fees to donors who keep their money there. “I was flabbergasted,” he told me. “I didn’t understand what I, as a donor, was getting for my fees.”

Though donors receive a big tax break for donating to donor-advised funds, the funds have no payout requirements, unlike private foundations, which are required to disperse 5 percent of their assets each year. With donor-advised funds, “there’s no urgency and no forced payout,” says Heather McLeod Grant, one of the authors of The Giving Code and the co-founder of Open Impact, an advisory firm specializing in philanthropy and social change. Cantor, the nonprofit consultant, told me that he had met wealthy individuals who said they were setting up donor-advised funds so that their children could disperse the funds and learn about philanthropy—they had no intent to spend the money in their own lifetimes.

Fund managers also receive fees for the amount of money they have under management, which means they have little incentive to encourage people to spend the money in their accounts, Reich said. Transparency is also an issue. While foundations have to provide detailed information about where they give their money, donor-advised funds distributions are listed as gifts made from the entire charitable fund—like the Silicon Valley Community Foundation—rather than from individuals. Donor-advised funds can also be set up anonymously, which makes it hard for nonprofits to engage with potential givers. They also don’t have websites or mission statements like private foundations do, which can make it hard for nonprofits to know what causes donors support.

Of course, there are some potentially positive aspects of donor-advised funds. Proponents speak of donor-advised funds as “democratizing” giving because anyone, including people with just a few thousand dollars to give, can set up a donor-advised fund and guide how that money is used. Sue McAllister, a Silicon Valley Community Foundation spokeswoman, told me that the organization has grown in recent years because donors want to spend their money now, rather than create a legacy of giving later. The foundation has given $5.6 billion since it was founded in 2007, she told me.

The ability to give to a fund, receive a tax benefit, and not donate any of that money in your lifetime arose from a loophole in tax law. In 1969, Congress passed the Tax Reform Act, which differentiated between public charities like food banks and universities, and private foundations, according to Madoff, the Boston College professor. The law was passed because Congress worried that donors to private foundations were receiving too many tax benefits without any reassurances that their money was helping the public in a timely matter. The new law required that private foundations pay out at least 5 percent of their assets every year and report who their money came from and where it went. It also imposed greater annual limits on contributions to private foundations than those that are applicable to public charities. Public charities—defined as organizations that receive a significant amount of their revenue from small donations—were saddled with less oversight, in part because Congress figured that their large number of donors would make sure they were spending their money well, Madoff said. But an attorney named Norman Sugarman, who represented the Jewish Community Federation of Cleveland, convinced the IRS to categorize a certain type of asset—charitable dollars placed in individually named accounts managed by a public charity—as donations to public, not private, foundations.

Because donor-advised funds are still categorized as public charities, they have no payout requirement and fewer disclosure requirements. And because they’re categorized as public charities, donors can give a higher share of their income to these funds than they could to a private foundation, which can help them avoid taxes. They’ve been growing nationally as the amount of money made by the top 1 percent has grown: Contributions to donor-advised funds grew 15.1 percent in fiscal year 2016, according to The Chronicle of Philanthropy, while overall charitable contributions grew only 1.4 percent that year. Six of the top 10 philanthropies in the country last year, in terms of the amount of nongovernmental money raised, were donor-advised funds, according to an annual ranking by The Chronicle of Philanthropy. Contributions were especially big in 2017 because of upcoming changes to tax law—people who might just take the standard deduction in future tax filings could put some money into donor-advised funds in 2017 and still deduct that contribution from their income, and then figure out what to do with the money later.

Groups that administer donor-advised funds defend their payout rate, saying distributions from donor-advised funds are around 14 percent of assets a year. But that number can be misleading, because one donor-advised fund could give out all its money, while many more could give out none, skewing the data. In addition, those funds with high payout rates could just be giving to another donor-advised fund, rather than to a public charity, Madoff says. One-quarter of donor-advised fund sponsors distribute less than 1 percent of their assets in a year, Madoff has found.

Donor-advised funds are especially popular in places like Silicon Valley because they provide tax advantages for donating appreciated stock, which many start-up founders have but don't necessarily want to pay huge taxes on, Madoff said. Donors get a tax break for the value of the appreciated stock at the time they donate it, which can also spare them hefty capital-gains taxes. “Anybody with a business interest can give their business interest before it goes public and save huge amounts of taxes,” Madoff said. Often, people give to donor-advised funds right before a public event like an initial public offering, so they can avoid the capital-gains taxes they’d otherwise have to pay, and instead receive a tax deduction. Mark Zuckerberg and Priscilla Chan gave $500 million in stock to the foundation in 2012, when Facebook held its initial public offering, and also donated $1 billion in stock in 2013. (A spokesperson for the Chan Zuckerberg Initiative declined to comment for this story. Other donors, reached for comment, either did not respond or declined my interview requests.)

Wealthy donors can also donate real estate and deduct the value of real estate at the time of the donation—if they’d given to a private foundation, they’d only be able to deduct the donor’s basis value (typically the purchase price) of the real estate at the time they acquired it. The difference can be a huge amount of money in the hot market of California. That’s part of the reason the Sobrato Family Foundation, one of the biggest philanthropic organizations in Silicon Valley, has donated millions of dollars’ worth of real estate and office buildings to the Silicon Valley Community Foundation. Rick Williams, the chief executive of the Sobrato Family Foundation, told me that when his organization wanted to donate some of its real-estate holdings, the Silicon Valley Community Foundation was helpful at handling that type of “complex transaction.” He said that while there is a concern that some donor-advised funds are not putting money out into the community, he thinks the structure can be helpful for some entrepreneurs who made a lot of money very young and are still involved in their companies and don’t have time to think about how they want to give. “Donor-advised funds provide them an opportunity and place to park that money and slowly build that muscle,” he told me.

But nonprofits say it would be much more helpful for donors to give out that money now, when people who live in Silicon Valley are struggling. Especially because some of the challenges facing lower-income people are directly related to the success of some of these entrepreneurs, who created companies that brought tens of thousands of new people to the region, pushing up demand for housing. “Sometimes that injection of significant funds to a reputable organization could be a game changer on a social problem,” Cat Cvengros, vice president of development and marketing at the Second Harvest Food Bank of Santa Clara and San Mateo Counties, told me. The food bank has seen a 50 percent increase in demand since the recession, Cvengros said, and isn’t able to respond to all the people who need its help.

Mitsch, the funds development manager at Sacred Heart, said it’s difficult to solicit donor-advised funds to make up for the drop in donations her organization is seeing, because it is hard to build relationships with sponsors, especially if they create donor-advised funds anonymously. This was something I heard from many nonprofits—unlike family foundations that have mission statements or websites outlining what causes they support, donor-advised funds don’t provide much information about what causes their donors support.

Sometimes, donor-advised funds can work well, Jessica Paz-Cedillos, the director of resource development at SOMOS Mayfair, told me. Philanthropists set up funds and immediately start giving to local causes. But often, it doesn’t work that way. “The hard part about this—money will sit there, and if [it’s] not being invested in the community, what good is it doing?” she said. SOMOS Mayfair is another nonprofit seeing increased demand for services as the community they serve—primarily immigrants—lose housing in San Jose.

Some groups are pushing for donor-advised funds to be subject to more regulation. Madoff, the Boston College professor, has urged Congress to pass legislation that would require donated funds to be passed on to charities in a certain amount of time, in exchange for the tax benefit Americans are giving them. “Right now, too many tax-subsidized contributions are being set aside indefinitely—subject to no obligation for them ever to be put to active charitable use,” Madoff and Roger Colinvaux, a professor of law at Columbus School of Law, wrote in a letter to the Senate Committee on Finance in July. Jan Masaoka, the CEO of the California Association of Nonprofits, told me that policy organizations like hers are talking about ways to add regulations to donor-advised funds, potentially making them subject to the same requirements as private foundations and requiring they spend a certain amount of money every year.

But changing the law on donor-advised funds—and changing how community foundations work—could be a struggle. Even as the Silicon Valley Community Foundation tries to fix itself, some donors may be moving their money to donor-advised funds at other entities, where they will have similarly limited incentive to spend. There is strong lobbying on behalf of the institutions that administer donor-advised funds to keep the status quo. Even organizations that represent nonprofits have been quiet about changing how donor-advised funds work, Cantor said. That may be because they receive support from donor-advised funds—the National Council of Nonprofits lists the Fidelity Charitable Trustees’ Initiative as one of its mission partners. A coalition of philanthropic trade associations even sent a letter to the Senate Committee on Finance defending donor-advised funds last year.

It might take something more than regulation to change the Silicon Valley Community Foundation. The Chronicle of Philanthropy investigation found that the Foundation’s top fundraiser, Mari Ellen Loijens, engaged in emotionally abusive and sexually inappropriate behavior and that she created a “toxic” and “terrible” workplace. Loijens has since resigned, but the foundation’s problems go deeper than her. Even Rick Williams, the Sobrato CEO whose job is to get money out into the community, and who has donor-advised funds in the Silicon Valley Community Foundation, says he’s concerned. He’s talked with some wealthy individuals with donor-advised funds who say they wish the Silicon Valley Community Foundation provided more information about how to donate to local causes. “I’d like to see it opened up so there’s more transparency,” he said. “I hope they come back from this stronger.”

Alana Semuels is a staff writer at The Atlantic. She was previously a national correspondent for the Los Angeles Times.

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