In addition to retail, institutional, and business clients, financial professionals can also open accounts for estates, foundations, and charities. Each of these client types has its own legal structure and account considerations.
When a person dies, their assets often become part of their estate. Unless a contractual arrangement applies to a specific asset (for example, a transfer on death designation or a trust agreement), the asset generally becomes property of the estate at death. Those assets are then handled through probate court.
A will is a legal document that directs how a person’s assets should be distributed to beneficiaries after death. A person may die:
A will names an executor, the person or entity responsible for settling the estate. After death, the executor presents the will to the probate court. If the court accepts the will as valid, it issues letters testamentary, which legally authorize the executor to act on behalf of the estate. The executor then:
If there is no will, a family member or friend typically petitions the probate court to be appointed administrator of the estate. The administrator performs a similar function, but without a will to direct distributions. In that case, the probate court often helps determine how assets are distributed.
Estate accounts are fiduciary accounts, so they’re subject to fiduciary-specific rules and regulations. In practice, this means the executor or administrator must put the beneficiaries’ interests ahead of their own.
Because estate assets are often distributed within a few months, the executor or administrator typically isn’t investing with a long-term time horizon.
Combining investing with charitable giving has become increasingly common. Investing for charitable purposes often involves impact investing, also called socially responsible investing. As quoted by a Fidelity Investments charitable giving site:
Impact investing is the act of purposefully making investments that help achieve certain social and environmental benefits while generating financial returns. It’s a broad term that refers to everything from investing in companies with an explicit mission aligned with your values to avoid investing in companies that do not meet those criteria.
Impact investing is common in charitable portfolios because the investment choices are meant to support the donor’s broader goals. For example, if the goal is to support charities focused on climate change, investing in green energy companies may align better than investing in oil companies.
There are three typical ways to donate assets or securities to charitable causes:
With a direct donation, an investor gives assets or securities straight to the charity of their choice. Donations are typically tax-deductible, which can reduce the donor’s taxes.
In many cases, donating securities can be more tax-efficient than donating cash. For example, suppose an investor buys $80,000 of stock that grows to $100,000 and wants to donate $100,000.
Donating a security is generally most attractive when the donor has an unrealized gain (a gain on a security that hasn’t been sold yet). If the investor has an unrealized capital loss on a position they want to donate, it’s often better to sell the security first and donate cash. That approach can produce both:
Regardless of the method, charitable giving typically provides some form of tax relief. Many investors also use charitable giving as part of estate planning. For example, Warren Buffet has pledged to give away 99% of his wealth to philanthropic causes. The more that’s given to charity, the less an individual or estate may be subject to taxation.
A private (non-governmental) foundation is an organization formed primarily to make charitable donations. A well-known example is the Bill and Melinda Gates Foundation. To fund their foundation, Bill and Melinda Gates donated a significant portion of their wealth (they’ve pledged over $100 billion in funding to the organization).
This structure is typically funded privately by the founder(s), rather than through public fundraising. Investors who want to use this approach generally establish their own foundation. While some foundations are extremely large, many are not; roughly 66% of private foundations maintain less than $1 million in assets.
Once funded, a private foundation is managed by the Foundation Board (similar to a corporation’s Board of Directors). The Board’s role is to manage foundation assets, identify charitable giving opportunities, and make donations when appropriate.
Like direct charitable contributions, assets used to fund private foundations are generally tax-deductible.
An increasingly popular way to donate to charities is through donor-advised funds (DAFs). Instead of donating directly or creating a private foundation, investors establish “giving accounts” at financial institutions. Companies like Fidelity and Charles Schwab offer these accounts.
Investors can contribute a wide range of assets to a giving account, including cash, securities, and even cryptocurrencies. After the contribution, the donor (or their adviser) manages the assets. As the account value (hopefully) grows over time, the donor selects an eligible charity to receive a donation. When the donor requests a donation, the firm that holds custody of the giving account distributes the assets to the charity.
Charities generally must be 501(c)(3) public charities to be eligible for DAF contributions. This designation is provided by the Internal Revenue Service (IRS), which recognizes the organization as a legitimate charity. There are two types of 501(c)(3) organizations:
A key difference is how they’re funded. Private foundations are funded internally by their founders, while public charities are funded by donations from non-affiliated individuals and organizations.
Like direct donations and contributions to private foundations, DAF contributions are tax-deductible to the donor.
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