Endowments have been in the news recently with respect to religious institutions invading the principal to sustain their ministries. So what is an endowment and in general, what rules need to be followed with respect to them?
Endowments are permanent funds or assets—money, securities, or property—bestowed upon an individual or institution to be used for a specific purpose. Endowments are invested to earn income, which is later used to support an organization's activities. In some circumstances an endowment may be required—by a donor’s gift instrument—to be spent or invested in a specific way. The Uniform Prudent Management of Institutional Funds Act (UPMIFA) establishes the standard of care and duties of governing boards of trustees of incorporated or unincorporated organizations, which are organized and operated exclusively for educational, religious, charitable, or other purposes—to the extent that they hold funds exclusively for any of those purposes. The Act does not alter the status of governing boards, or the duties and liabilities of directors, under other laws of the state.
In short, endowments provide:
• Sustainability — An endowment can enhance the ability to plan for the long-term and to meet the future needs of constituents.
• Autonomy — An endowment can increase an organization's independence from funding trends outside its control.
• Leveraging — An endowment can be used as a basis for acquiring additional funding.
Generally there are two kinds of religious or charitable trusts; (1) a trustee corporation, in which all property held by a church or charitable organization may be put into a type of aggregate form, to be managed by trustees for the benefit of the organization, or (2) a simple trust, in which money or income-producing property is put into a trust, segregated from the working capital of the church, and managed by a trustee, paying income to the church, or paying or accumulating income for a specific religious purpose. The UPMIFA governs endowment spending in most states. UPMIFA permits the concept of total return expenditure of endowment assets for charitable program purposes, expressly permitting prudent expenditure of both appreciation and income, therefore replacing the old trust law concept that only income could be spent. Thus, asset growth and income can be appropriated for program purposes.
UPMIFA, provides that an institution “may appropriate for expenditure or accumulate so much of an endowment fund as the institution determines to be prudent for the uses, benefits, purposes and duration for which the endowment fund is established.” UPMIFA recognizes and protects donor intent by providing a more comprehensive treatment of the modification of restrictions on charitable funds. For example, donor words indicating the funds or assets are not expendable on a current basis can override the favorable spending rules in UPMIFA or result in a fund with less flexibility. However, sometimes restrictions imposed by a donor become impracticable or wasteful or may impair the management of a fund. In such instances, a donor may consent to release the restriction, however if the donor is not available the charity may apply for a judicially approved modification of the restriction. Upon application for modification by judicial approval, the charity must notify the state’s chief charitable regulator. UPMIFA also allows a charity to modify a restriction on a small (less than $25,000) and old (over 20 years old) fund without going to court. If a restriction has become impracticable or wasteful, the charity may notify the state charitable regulator, wait 60 days, and then, unless the regulator objects modify the restriction in a manner consistent with the charitable purposes expressed in any documents that were part of the original gift. UPMIFA provides uniform and fundamental rules for the investment of funds held by charitable institutions and the expenditure of funds donated as “endowments” to those institutions.
UPMIFA supports two general principles: 1) assets should be invested prudently in diversified investments, and 2) that appreciation of assets should prudently be spent for the purposes of any endowment fund held by a charitable institution. Generally, a religious or charitable endowments are a long-term and permanent management device for the investment and distribution of significant amounts of money and capital-generating assets. As a permanent entity with a board of directors serving general religious or charitable purposes it may be managed as a trust or a nonprofit corporation. If the nonprofit corporation form is desired, proper steps must taken in accordance with state statutory filing. If trust management is desired, the governing instrument should contain clear directions regarding the purpose, powers, duties, selection and retention of trustees, and possible termination of the foundation.
The law firm of Dalton & Tomich plc has created and provided counsel to many endowments for religious and other charitable entities. Please contact one of our professionals should you desire to create an endowment or have questions about the endowment you are entrusted with.