Resolved: Founders and directors will help their foundations have greater impact if they commit their entire endowments during a limited period of time, spending down their resources rather than managing them in perpetuity.
Point: Lars Boggild
Canadian philanthropic foundations regularly look for ways to be more impactful on the issues they care about. Approaches ranging from collective impact strategies, to the growth of impact investing, to the growing use of “big bets” all have been motivated by seeing philanthropic resources make greater and more lasting change. To quote Darren Walker (2017) in his recent article announcing the Ford Foundation’s commitment to $1 billion of impact investing, the Foundation was motivated by “the next great challenge in philanthropy: to find and finance more social good than we ever have before.” The math behind these decisions is often simple. An endowed foundation that meets its minimum disbursement quota has nearly 29 times as much capital in the endowment than it disburses annually (1 divided by the 3.5% disbursement quota). Given their motivation for greater impact, there is a strong case for foundation founders and directors to consider limiting the life of their foundations.
There are high-profile examples of this approach. In perhaps the most significant Canadian example, the Andrea and Charles Bronfman Philanthropies intentionally closed its doors in 2016, having created lasting impact with its grantees (this includes funding for Canada’s famous “Heritage Minutes” produced by Historica Canada). Last December, the US-based Edna McConnell Clark Foundation declared its intention to spend down its $1 billion endowment in the next decade (Daniels, 2016). Despite these and other examples, for foundations with substantial assets, the ongoing default when an endowment is created is usually for it to be managed long-term. There are many reasons for this. A healthy financial engine to permanently support charitable operations and discretionary grantmaking can be essential to address persistent issues. Permanence may also be needed to engage family members over time. Indeed, Canada’s charitable law, through its previous restrictions on 10-year gifts, also made more active spending difficult (Burrows, 2010). Thankfully, at a time when it has perhaps never been more important to consider bolder giving, it has also become easier.
In the context of philanthropy, “limited life” means a foundation intentionally decides to actively grant and spend-down its resources, for example over 20 years, rather than managing its capital in perpetuity. While significant work has described the practical realities of the process of spending down (Consider the recent study by the Centre for Effective Philanthropy), less has been written about the strategic rationale as to why this can be the right choice. This article aims to add to that argument, finding that the creation of more limited-life foundations in the philanthropic ecosystem would be a healthy change, resulting in more resources flowing at the scale needed to address systemic challenges, a bolder culture of giving, and perhaps even a more satisfying experience for founders.
Looking at the big picture of strategic choices
The first reason that limiting the life of a foundation can be a smart strategic choice is that it can help match the scale and urgency of some of the social issues founders want to address. This is a matter of fighting fire with the appropriate firepower. Too many issues are actively growing, and becoming costlier to mitigate as they progress. For example, climate change and inequality are growing exponentially and with a complexity that is difficult to navigate, making an ounce of prevention worth a pound of cure. If a philanthropic organization considers these issues part of its mission, and believes they are urgent crises, then slowly drawing from the returns of an endowment to address them doesn’t make sense. In these circumstances, it’s better to spend more resources sooner to make the greatest impact possible today, limiting the future negative effects caused by delaying an investment. The math is simple: if the issues philanthropy is seeking to address are growing faster than the resources currently used to address them, a given amount of investment will have less influence over time.
A hypothetical foundation, earning 5.5% on its endowment, granting at a 3.5% disbursement quota, and spending 1% on administration, will take six years to cumulatively grant an amount equivalent to 20% of its original endowment, and 26 years to cumulatively grant an amount equivalent to 100% of its original endowment. For many issues, whether environmental (climate change) or social (the crisis of Indigenous children in foster care), that’s too long a time horizon.
We’ve seen this same logic at work with the increasing use of so called “big bets” in philanthropy. Increasingly, when foundations believe that there is a political moment or an inflection point linked to an issue they care about, they will put larger resources into that moment, believing it will bring lasting change. When we step-back and use this same thinking to look at a variety of issues – ranging from peace-building, to local environmental degradation, to health – more limited-life foundations can make a real difference.
This debate has a long history. Canada combines some of the most generous tax incentives for giving in the world with a relatively minor requirement for foundation giving. Compared to the US, which has a 5% spending requirement, our required 3.5% disbursement quota is less stringent. More strikingly, the trend has been to consistently require less and less actual grantmaking by philanthropic foundations. Beginning with the first disbursement quota in 1950 at 90%, the actual giving requirement has steadily decreased: to 5% in 1977, 4.5% in 1984, and finally 3.5% in 2004, where it stands today (Man, 2011).
It’s critical to acknowledge that these are just minimums, and in fact many endowed Canadian foundations regularly exceed them. For example, when looking at the 500 largest grant-makers in Canada (excluding corporate foundations), charitable grants accounted for 6.5% of assets on average in 2015, a number which accounts for most Canadian foundation gifts. Even when excluding those foundations with assets of less than $1 million, to adjust for foundations that are acting primarily as a flow-through for charitable giving in a single year or may be making an unusual gift, this number falls to a respectable 6% (author’s calculations; Blumberg, 2016). Clearly, many significant gifts are being made well beyond what’s required. Nonetheless, our regulatory requirements for charitable giving by foundations set the tone and standard for what is expected.
This context of less required giving and grantmaking, contrasts with what can be most personally satisfying for philanthropists. In 2009, a survey conducted by the Foundation Centre found that 12% of responding family foundations intended to have a limited life. Most importantly, the Centre found that the decision to limit the life of a foundation was rarely part of the founding documents; families made it after establishment through the active engagement of the founder or the next generation of family members. Notably, one of the determinants of limiting a foundation’s life is having a living donor, who is usually inspired to create greater impact in their lifetime (Renz, 2009).
In fact, Canadian regulations used to make such ambitions more difficult. Restrictions on the use of the capital of 10-year gifts made it harder for founders and directors to choose to spend more, even when desired or needed. Thankfully, as of 2010, the Canada Revenue Agency simplified the calculation of the disbursement quota, including the elimination of 10-year gifts. This simplified approach has created more flexibility in the management of charitable capital and enabled founders to choose to limit the life of their foundations (Hoffstein, 2010). Thus, it becomes important for founders and directors to have conversations about whether a limited life foundation is the smarter strategic, more meaningful, choice.
If founders are looking to make a lasting difference and create a legacy, it’s potentially risky to spend down. What if the chosen strategy doesn’t work and a foundation has spent its resources? Similarly, what if the sectors in which the organization works can’t meaningfully absorb such an influx of capital? While reasonable concerns, these justifications shouldn’t blind us to the fact that generosity is a renewable resource, and that future philanthropists will come after with similar generosity of spirit. To quote Julius Rosenwald, who in 1928 directed the Trustees of the Rosenwald Fund to begin spending down, “I am not in sympathy with this policy of perpetuating endowment and believe that more good can be accomplished by expending funds as trustees find opportunities for constructive work than by storing a large sum of money for long periods of time . . . Coming generations can be relied upon to provide for their own needs as they arise” (Ascoli, 2006). As Rosenwald argued, spending down capital can better reflect the broader reality of wealth creation and generosity, and allow for greater alignment with founders’ intentions.
Consider the ongoing growth in The Giving Pledge, a commitment by the world’s wealthiest to dedicate most of their wealth to philanthropy. Part of what is remarkable among the signatories to the Pledge is not only their generosity, but also the varied trajectories of their backgrounds and careers. The pledgers include many individuals who have made their fortunes in industries that simply didn’t exist just a few years ago. Individuals like Eric Lefkofsky, the co-founder of Groupon, Reed Hastings, the CEO of Netflix, and Brian Chesky, the co-founder of Airbnb. It’s notable that despite The Giving Pledge’s steady growth over the last seven years, Canada is still not represented among its 21 countries and 170 signatories. The Giving While Living movement, started by Chuck Feeney, the founder of the Atlantic Philanthropies (a multi-billion dollar foundation that concluded its grantmaking in 2016), goes even further. It encourages the wealthy to give away most of their wealth while they are still alive, recognizing the urgency of many social issues and providing an opportunity for greater satisfaction through seeing the results of their philanthropy.
What these international efforts have in common is an intention to actively mobilize holders of wealth and influence a culture change of giving actively and boldly. Canada needs this as well. The GIV3 Foundation (2016) recently found that only one in four Canadian tax filers claimed a charitable donation, a proportion that has been declining for 25 years. This has led to a smaller base of donors. As of 2013, the top 10% of Canadian donors accounted for 66% of all charitable giving – a growing trend over the preceding decade (Turcotte, 2015). While the wealthy form a significant proportion of the top 10% of Canadian donors, much more is possible. A recent pan-Canadian survey looking at philanthropy among high-net worth individuals found that more than eight in 10 were giving less than 1% of their investable assets, a lower proportion compared to those with less income (BMO et al., 2014, pg.14; Turcotte, 2015, pg. 9).
This decline in the number of individuals giving to charities contrasts with the fact that the number of philanthropic vehicles has steadily grown. Based on data from the Canadian Charities Directorate, in mid-2016 there were more than 86,000 registered charities in Canada, of which public and private foundations make up around 12%. More than one quarter of public foundations and more than 40% of private foundations were created in the last decade. This is reflected in their growth rates, with the number of registered public foundations growing at 3.3% annually since 2006, compared to 5.9% for private foundations in the same period (CRA, 2016). The number of donor-advised funds (DAFs), an increasingly common vehicle for those not wishing to create a foundation outright, has also grown significantly. While limited information is available in Canada, in the US, between 2014 and 2015 alone, the number of DAF accounts grew by 11% (National Philanthropic Trust, 2016). Anecdotally, charitable leaders have noted a similar growth in the popularity of DAFs in Canada, partly driven by the growing availability of these offerings within our wealth management industry.
This growth may not be all positive. Of concern in the US, The Economist recently found (2017) that many DAFs are simply circulating donated funds among multiple charitable vehicles without benefiting the community. While there’s been no suggestion that similar abuses are occurring in Canada, this finding highlights the need for caution as some may see philanthropic vehicles, like any tax-assisted structures, as a way to shelter wealth. More hopefully, established Canadian DAF providers, such as the Aqueduct and Raymond James foundations, have tended away from creating permanent funds, instead supporting their clients in creating DAFs with the intention of granting such funds in their lifetimes. If we are to escape a culture in which charitable vehicles are increasingly seen as a way to avoid taxes, rather than enable generosity, we need more of these examples. Questioning our assumptions about whether we should design foundations to exist in perpetuity is a good place to start.
Freeing the future
For founders, limiting the life of their foundations doesn’t need to run counter to the creation of a strong legacy. Nor does it require that all a foundation’s resources are spent while a founder is alive, or even in a very short span of time. For example, for founders looking to leave a legacy, this could mean granting resources over a decade after their death to balance the goals of urgency and strategy. Even limiting the life of foundations to 20 years will have a meaningful impact on the resources they deploy for social change, as the math above has shown. This can also bring considerable benefits. For founders, choosing a limited life foundation can also ensure that their intentions are maintained. Across multiple generations, there is no guarantee that funds will be used for the purposes they were intended by a founding donor. More important is the recognition that future needs will change in a way that permanent foundations with a defined purpose can hardly predict.
The last word here goes to Stephen Bechtel, Jr., the founder of the S. D. Bechtel, Jr. Foundation, who in 2009 directed the spend-down of his private foundation, a process which will be complete by 2020. Writing to his board he found, “Each of my children and grandchildren has their own charitable foundation from which they each can select charitable needs as they see fit . . . I prefer that they each use their own foundations to support causes they think are most important, rather than being saddled with trying to manage my foundation . . . In the near term it is difficult, if not impossible, for the leadership of the S. D. Bechtel, Jr. Foundation to determine the highest priority charitable needs out in the long-term future. I believe it is more important for the Foundation to focus on the contributions that we see as the highest priority near-term charitable needs, and let future generations of charitable contributors determine, in the future, the greatest needs of their time” (Dachs, 2014).
In closing, this article has argued that for philanthropic communities to thrive, more resources need to be actively deployed to address our deepest challenges, not just invested to support that purpose. Part of what is needed is a culture change in our social expectations and behaviour in how we give. Giving wealth away while they are alive should become something that is more socially acceptable and expected from wealthy individuals. While the growth in the number of foundations speaks to philanthropic intent, it is a slow remedy. Philanthropists who choose to limit the life of foundations and actively deploy more wealth for social progress will inspire future creators and holders of wealth to take up the mantle of philanthropy and increase the possibility of bolstering progress today.
Counterpoint: Kathy Hawkesworth
Every once in a while, it is suggested that “endowment” is either out of fashion or should be. Also expressed is a desire to apply the considerable principal that underpins the annual grants made by an endowment to instead support current charitable programming.
A $400 grant next year from a $10,000 endowment fund created this year (based on a 4% disbursement policy) may not seem impressive at first blush. Yet, the ongoing, dependable, cumulative support, over time, of well-structured and well-administered endowments is indeed powerful.
For example, in the last months of 1992 an endowment fund was established to annually support a particular Edmonton inner-city agency. In this true story, a single gift of $100,000 created the fund. No further gifts have ever been made to it. By the end of May 2017, this fund had already cumulatively granted more than $145,000 to the agency; this, during an investment period that included the market challenges of 2002 and 2008. By the end of 2016 the value of this fund had grown to almost $195,000. This is but one example of how endowments can provide steady, predictable support.
This article makes the enthusiastic argument for thoughtful, vibrant, permanent endowment funds. The nature of such funds accords well with the nature of the asset gifts that create them. Endowment donors worked hard to accumulate their assets and seek for their gifts of those assets to similarly be employed with a long-term focus: to create a legacy. There is a measure of immortality and personal significance represented by an endowment fund that is not well served by limiting the endowment’s longevity.
Other points listed as reasons to provide a shorter term of endowment support (low interest rate environment, charity changes, succession plans, etc.) can be ably addressed by more appropriate drafting and better contemplation and provision for the inevitable changes that take place over time.
An endowment fund is neither a savings account nor an amount “set aside” from charitable activities. Rather, an endowment is a financial engine invested to support the programs and operations of charitable causes. It is strategic investment hard at work for the cause(s) it serves. Its otherwise long-term benefit is truncated by decisions that diminish its power, including, but not limited to, an ability to bring the fund to an early end.
The example endowment noted above will grant its second $100,000 to the charity in much less time than the original if its investment, costs, and spending patterns allow. Then it will grant another $100,000, again and again. This is the appeal to donors who create such endowments; the ability to carry on a purpose long past their own lifetimes, and in some cases to teach and inspire future generations to enhance the lives of others.
Many antiquated definitions and indeed perceptions of “endowment” exist. I prefer to consider endowment as:
A separately identifiable fund, created by a conditional gift, which is prudently invested, to generate sufficient earnings and growth, to allow an appropriate portion of the earnings/fund to:
- Be spent each year to support the organizations and activities for which the endowment was created (i.e. the conditions); and
- Allow the endowment support to remain meaningful over the very long term (keeping in mind cost of living and inflationary increases and the inevitable, and hopefully occasional, poor investment markets).
The ongoing viability and effectiveness of endowment funds will ultimately depend upon the strategic choices made, one of the most important being the decision to embrace the philosophy of endowment. With that decision come others such as:
- Investment and granting parameters within which the endowment will operate;
- The investment and management costs to be borne by the fund; and
- What conditions are acceptable over the very long term.
There also exists the opportunity to honour and protect the purpose and use of the endowment established by the founder.
Endowments come in many forms and people set them up for many different purposes. The benefits and issues of endowments vary with the type. What follows are only a few examples of the many permutations and combinations of endowment forms available.
Some endowments are set up specifically to support one or more named entities. Such endowments have the potential of providing predictable funding, “breathing room,” for the recipient charities. Knowing that particular endowment grants will appear year over year allows charities to better strategically budget and plan. Endowment support can also provide the charity with a measure of resiliency especially where other funding sources cannot be fully counted upon. These endowments can enhance sustainability.
Of course, if the granting parameters of an endowment are such that dependability and consistency are unreliable, these advantages are reduced. For example, granting all net earnings each year results in annual grants riding the waves of investment volatility.
Certainly not all tasks are appropriate for endowment giving. However, rather than assume that an endowment is not appropriate for a relatively new organization or for one focused on what is hoped to be a uniquely current issue, another perspective is to always plan for “miracles and disasters” so that each fund created is flexible enough to stand the test of time.
For example, the person who wishes to build schools may find the annual granting percentage of an endowment to be too limiting for that purpose. On the other hand, an endowment may be so appropriate to support the ongoing maintenance of those schools that it should be included as part of the capital campaign.
For a charity addressing a pressing need, there may be a desire to apply all funding immediately to that cause. However, a predictable endowment to deal with basic infrastructure (keeping the lights on or paying for supplies or key salaries) may provide the stability required to allow other funding to be applied more effectively to the need.
Some donors seek to support a particular form of charitable activity or task (e.g. feeding hungry children) rather than particular charities. It can be problematic if the field of interest is defined too narrowly as to be helpful over the long term (e.g. caring for retired milk horses). One option might be to suggest the endowment term be shortened. However, our experience is that the vast majority of donors are open to having a second (third or other) broader area of support apply if their first choice becomes stale-dated, especially:
- Where the discussion of their wishes is grounded in finding why they seek to support what they seek to support; and
- As the donor develops a better understanding how time changes even the best laid plans.
The importance of determining “why” in many contexts is eloquently articulated in Start With Why, How Great Leaders Inspire Everyone to Take Action (Sinek, 2009).
Thoughtful drafting practices for longevity include:
- Defining a generously broad overriding intent and purpose of the endowment (e.g. research into causes, treatments, and potential cures for life threatening illnesses – rather than “cure polio”);
- Stipulating a highest priority (e.g. cure polio);
- Specifically contemplating what is to happen if the more specific issue is resolved or a beneficiary charity ceases to exist; and
- Outlining an excellent “Plan B” and/or “Plan C” to apply if the first options are no longer viable or practicable.
This appreciation of how “shift happens” is particularly important for founders of private foundations and those who create endowment funds that provide granting flexibility each year. These endowment funds fall into the larger group of what many call “donor advised funds” (not all of which are permanently endowed).
Missing from such funds is the predictability that allows recipient charities to plan. Rather, these funds are more donor-focused. That is, they allow the donor to retain the ability to try out charitable options, learn more about philanthropy, gauge accountability and impact, and change direction. These funds also offer another avenue to connect with family members and instil a tradition of caring.
Both private foundations and donor advised funds (permanent or not) require careful consideration of succession issues, especially as they relate to the intention of the founder in creating the structure.
The standard boilerplate clauses that we see in foundation incorporation documents suggest that many do not uniformly give these succession issues the attention they deserve. In particular, often underestimated and under-contemplated is the ability of an endowment to continue and respond to emerging needs and priorities within the founder’s areas of interest even after the founder and/or family have ceased to be actively involved. In Canada’s vibrant charity sector there exist excellent alternatives to dissolving a fund or foundation that can continue to animate the founder’s intentions admirably.
For the founder establishing the structure (foundation or fund) with a view to encouraging and empowering children, grandchildren, and even further generations to be philanthropic, there are several key questions to be asked, including:
- To what extent must future generations comply with the founder’s areas of philanthropic interests?
- Who exactly is to be included and excluded from fund decisions?
- What level of consensus is required? How are disputes to be resolved?
- How else to manage change? What amendments are permitted and by whom?
- Is a wind-up or a successor entity, or entities, contemplated, and if so, what intents and purposes are they to fulfil?
When demonstrating to founders just how far outside the founder’s interests the endowment grants could be applied by each family cohort, we have received a range of responses. The founder may accept the potential diversity of family interests or prefer strict control of the purpose (I believe the exact quote was “Let them get their own fund!”).
Not only does knowledge of the founder’s perspective (which may change over time) better inform the current terms of the endowment and who may make amendments to those terms, it also identifies to what extent a third party, like another foundation, might help protect the founder’s charitable intentions.
A permanent endowment that limits the jurisdiction of future family members to granting only annual amounts ensures that even an occasional significant granting misstep will not defeat the founder’s intention permanently. Enabling the early termination of an endowment could.
Further, it cannot be overstated that helpful (and less than helpful) elements of an endowment are not inherent. For the endowment to work as intended requires thoughtful drafting in a unique legal framework that is not always well understood. Here, the question “what if” is also of crucial importance.
Other strategic decisions
An endowment’s impact may be dismantled bit by bit through many other decisions. In such cases it is the decisions and not the endowment model per se that is of concern.
Obvious, perhaps, is that the management and investment costs borne by a fund reduce the power of the endowment.
Endowments are not solely about the future. In addition to the requirement that registered charities operate exclusively for charitable purposes, the Income Tax Act (“ITA”) stipulates a minimum amount to be expended annually on charitable activities. This minimum is called the disbursement quota (“DQ”). With the flexibility built into the DQ, it may also be that several different styles of spending strategy and/or investment strategy can support a compliant disbursement. The question then becomes what describes a meaningful disbursement.
There is a balance to be struck between the amount to be granted each year to provide meaningful current and future support; hence the need for the fund capital to grow in value over time.
Depending upon the investment environment, the DQ may, in fact, strike a fine balance between current and future support. Or it may be that returns are robust enough to support a higher current payout. Much energy is expended in analysing suitable disbursement/granting rates. Interestingly, analysis has shown that more modest current granting has the potential for greater absolute granting (Commonfund Institute, 2014).
The viability of an endowment fund can also be put at risk by outmoded and inflexible approaches to investment. Again, it is not the model that is a problem but a potential failure to provide flexibility to address ever changing legal and investment environments.
Some (and hopefully historical) examples of problematic endowment terms include:
- Endowments that are permitted to grant only from interest earned: These endowments perform poorly in low interest rate environments, limiting vibrant support and the ability to meet the DQ. Where only interest-bearing assets are available, the power of such endowments also diminishes over time since the underlying assets have no ability to appreciate in value.
- Endowments that are permitted to grant only from income earned: While not restricted to interest, the expansion to include dividends, rental income, and even royalties may not be sufficient for an endowment to thrive. In the Fenton Estate decision (2014 BCSC 39) the charitable trust could not meet its disbursement quota because of this restriction. The BC Supreme Court permitted a change to allow “total return investing,” which allows the granting of capital gains in addition to income.
- Endowments that must preserve the capital of the fund in all years and in all circumstances, further exacerbated where the terms of the endowment add income not granted in a year “to capital.” These endowments run the risk of providing no support in a year where investment returns are negative or do not surpass expenses even where the granting policy is modest.
In short, endowments need to be able to evolve. The investment asset allocations must also be able to best reflect the opportunities available at a given time.
Changes in the legal, regulatory and investment fields proceed apace with some exciting developments. By whatever name they are called, “impact investing,” “mission-based,” or “mission–aligned” investing, “responsible investing,” “social enterprise,” investment opportunities, including those for endowments, are expanding widely to include those that generate both financial and social returns “beyond the bottom line.” Much is being written, tested, and reviewed about these investment options, all of which is beyond the scope of this article.
As stated by Vikki Spruill, CEO of Council on Foundations in Better Understanding Responsible Investing Practices: “Above all else, foundation staff and trustees are still learning about these strategies, their potential and how to implement them” (Spruill, 2016).
That said, sound investment approaches that are able to further leverage the substantial capital of endowments to enhance the present impact, while also provide for future impact, are welcome. They may help overcome perceptions of endowments as being somehow detached and hoarded from the charitable purposes they actually serve.
When faced with a possible 10-year endowment term, a wise friend once asked, “And then what happens in year 11?”
The uniqueness of donors and their motivations for creating support will result in many different responses to this question. Some donors may be satisfied with a term of support. It is, however, unwise to assume that donors inspired by the perpetual cycle of support offered by a permanent endowment fund will give as generously where only more limited duration is offered.
Endowment’s gift to both the present and future limits the other cycle; that is, continually starting from scratch in raising support whether it be for the arts, human services, health, education, environment, or other field of charitable endeavour.
I am optimistic that a generous spirit and the philanthropic culture that exists today will continue or, better yet, improve in the generations to come. I am even more optimistic that, with careful attention to detail, the endowments created now will be flexible, useful, and dynamically supportive for the issues those future generations will face.
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