Rural Endowment Building

Rural Endowment Lingo

In addition to the basic terms below, a few other definitions and explanations will help you put Building Engines for Rural Endowments: A Thinking and Action Framework and its tools to best use. Because definitions and word choice can differ slightly from one foundation to another, it will be helpful to get a sense of what the framework has in mind when it uses the words: advised fund or area fund. Whether you choose to tweak these definitions or use them precisely is up to you, but demystifying some of the lingo will undoubtedly prove essential as your community foundation assembles its engine for building rural endowments.

What is a community foundation?

First things first. Community foundations are tax-exempt, nonprofit, autonomous, publicly supported, non-sectarian, philanthropic organizations that raise and manage a wide range of permanent endowment and non-endowed funds; in turn, the foundation uses the stream of revenue produced by these endowments and from pass-through funds to support charitable activities within the geographic area served by the foundation.

In recent years, community foundations have been among the fastest growing source of charitable dollars in the United States, with more than 650 community foundations currently operating. In addition, scores of community foundations are growing in both developed and developing nations outside the United States.

A community foundation offers its designated geographic area three primary services:

A community foundation is a one-stop shop for local (and non-local) donors who wish to contribute their cash, trusts, bequest or real property to create permanent endowments that will benefit the community in perpetuity.
Likewise, a community foundation is a one-stop shop for local (and non-local) individuals, foundations and public resource providers that seek to channel their pass-through resources toward purposes that will benefit the community.
Using the investment earnings on each endowed fund, any available pass-through funding, and its ability to partner and leverage other resources into the effort, a community foundation makes grants and builds capacity within the community to address local needs and opportunities.

Not all community foundations are created equal. Indeed, community foundations can differ from one another a great deal, depending on their origin, the priorities and values set by their boards, and the culture, economy and demographics of the community itself. In general, some community foundations focus mostly on the endowment-building aspect of being a community foundation; others spend most effort on the community-building purpose of the foundation; while many try to strike a healthy balance to sustain the two.

Fund structure and grantmaking

Community foundations structure their funds in a variety of ways. The most common fund structures are these:

Discretionary competitive funds (also called "unrestricted")
Donor-advised competitive funds
Donor-advised noncompetitive funds
Area funds (may be set up as donor-advised, field of interest or supporting organization)
Designated (or agency endowments)
Field of interest funds
Scholarship funds

Grants, or fund payouts, from endowed funds typically represent 5% of the fund's assets—often based on the average balance over a specified number of quarters and calculated at the beginning of the foundation's fiscal year. Non-endowed or "pass-through" funds are structured to allow donors to "invade principle" in order to recommend grants that exceed the payout policy established by the foundation.

The process for making grants depends upon the fund's structure:

Discretionary competitive funds: awarded competitively by regional distribution committee/board appointed by the community foundation.
Advised competitive funds: awarded competitively by regional distribution committee appointed by donor.
Advised noncompetitive funds: awarded upon recommendation (and staff due diligence) by one family or advisor.
Designated/agency endowment: 5% of fund balance is awarded automatically (following due diligence by foundation) on an annual basis to a rural organization/agency designated by donor, family, foundation or the nonprofit itself.
Field of interest: awarded competitively or by board discretion based on issue-oriented criteria established by the foundation and through a foundation-appointed distribution committee.
Scholarships: typically awarded through a competitive process by a committee designated either by the donor or the foundation at the time of the fund's establishment; others operate similarly to designated funds, in that an annual disbursement is made to a named high school or college that coordinates its own selection committee and process.

Due diligence

Generally speaking, "due diligence" can be defined as "the degree of prudence that might be properly expected from a reasonable person in the circumstances." As due diligence relates to community foundations, it might be included under "fiduciary duty" or the legal responsibility for acting wisely on behalf of a beneficiary or, more broadly, the responsibility exercised by foundation boards (and staff) on behalf of donors and the governing documents of the foundation.

When a grant is recommended by a community foundation donor, advisory committee, board or staff, a part of the grantmaking process includes due diligence to make certain that, among other things, the grantee's tax status renders it eligible to receive charitable gifts, that no services or gifts have been offered in exchange for the grant, and that the decision to make the grant has followed the foundation's stated policies and procedures. The provision of due diligence by staff is often included as the most basic "donor service."

Gift vehicles

Donors may contribute any of the following type of assets to build rural endowment:

Cash: dollars and cents.
Stock: a gift of ownership shares in any publicly traded company, usually converted to cash soon after the community foundation receives it.
Bequest: a gift by will to a specific recipient; a charitable bequest is a transfer at death by will to a nonprofit organization for charitable purposes.
Charitable gift annuity: a gift of cash or securities from a living donor in exchange for the promise of lifetime income, immediate or deferred. A charitable gift annuity is a contract between a donor and charity that is part charitable gift and part purchase of an annuity. The total assets of the charity back the payments.
Charitable lead trust: a charitable lead trust pays the trust income to a charity first for a specified period, with the principal reverting to the donor or going to other person(s) at the end of the period. If it is established by will, it is known as a Testamentary Charitable Lead Trust.
Charitable remainder trust: a gift plan that provides income to one or more beneficiaries for their lifetimes, a fixed term of not more than 20 years, or a combination of the two. Assets, usually cash, securities or real estate are transferred to a trust that pays income to the beneficiaries for the term of the trust. When the trust term ends, the remainder in the trust passes to the charity. Can be established as a Charitable Annuity Remainder Trust with a fixed payout or as a Charitable Remainder Unitrust with a variable payout. Can be established either by will or during a donor's lifetime.
Real property: gifts of real estate, art, collections, or other owned property including livestock, crops, or other real business assets. Like stock, these are typically converted to cash by the community foundation.

Public support test

Two public support tests exist to ensure that a charitable organization is responsive to the general public rather than a limited number of persons. One test, sometimes referred to as 509(a)(1) or 170(b)(1)(A)(vi) for the sections of the IRS Code where it is found, is for charities such as community foundations that mainly rely upon gifts, grants and contributions. To be automatically classed as a public charity under this test, organizations must show that they normally receive at least one-third of their support from the general public (including government agencies and foundations). However, an organization that fails the automatic test still may qualify as a public charity if its public support equals at least 10% of all support and it also has a variety of other characteristics—such as a broad-based board—that makes it sufficiently "public."

The second test, sometimes referred to as the section 509(a)(2) test, applies to charities, such as symphony orchestras or theater groups, that get a substantial part of their income from sales of services that further their mission, such as the sale of tickets to performances. These charities must pass a one-third/one-third test: They must demonstrate that their sales and contributions normally add up to at least one-third of their financial support, but their income from investments and unrelated business activities does not exceed one-third of support.

Note: When in any doubt about your foundation's or a grantee's ability to meet the public support test, a consultation with a lawyer is absolutely recommended.

Endowed and non-endowed funds

While RDP is deliberately focused on building rural endowments (based in large part upon the community economic development ideas discussed above), many community foundations choose not to emphasize endowment at any point in their fundraising work. While some foundations will only accept endowed funds, others offer donors the option of starting out with a non-endowed fund to help the donor test the waters. Some foundations charge a slightly higher fee for non-endowed funds in an effort to encourage endowments. Other foundations simply follow the donor's preference with no predisposition toward endowed versus non-endowed funds.

What is consistent is that these decisions seem to follow an overall philosophical approach to fundraising and to philanthropy. Consequently, it is important that your organization (board, staff, stakeholders) have discussed and understand at least two things: first, the difference between endowed and non-endowed funds, and second, the philosophical approach your foundation takes to developing one or the other or both types of funds.

Building rural assets to build rural livelihoods

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