The Quick (Spending) and the Dead: The Agency Costs of Forever Philanthropy

32 Pages Posted: 7 Jul 2020

See all articles by Brian D. Galle

Brian D. Galle

Georgetown University Law Center

Date Written: June 11, 2020

Abstract

American philanthropic institutions control upwards of a trillion dollars of wealth. Because contributions to these entities are deductible from both income and estate taxes, and the entities’ earnings are tax-free, that trillion dollars is heavily underwritten by contemporary taxpayers. Law offers little assurance that those who pay will be those who benefit, however. To the contrary, since these subsidies become more valuable the longer charitable assets are left unspent, law strongly encourages philanthropies to save rather than spend, even in situations of great current need. Other legal rules further encourage grant-making institutions to strive to exist “in perpetuity.”

This Essay offers new empirical evidence of the social cost of forever philanthropy, that is, of institutions that long outlive their founders. Drawing on a relatively unique dataset of foundation donors, and combining it with a large archive of tax returns filed by private foundations, I search for evidence that managers of long-lasting organizations depart significantly from the preferences of the organization’s supporters. I find that a firm’s overhead, or the ratio of administrative expenses to grants made, jumps by about 12% as soon as the organization’s last living donor dies. Payout rates, or the share of assets spent each year, move sharply in the opposite direction, falling about 7% at that time.

I interpret these findings as evidence of substantial agency costs. Since the timing of the donor’s death is relatively random, these outcomes offer convincing causal evidence that the ability of a donor to monitor her foundation’s managers importantly affects whether those managers follow her wishes. I argue that overhead and payout changes in the direction I observe strongly suggest that managers, once free from direct oversight, are operating the firm for their own comfort and security. Thus, by unnaturally extending the lifespan of foundations, law is encouraging wasteful allocation of taxpayer-supported charitable resources.

Therefore, I suggest several policy options that would reduce the agency-cost problem. Among others, I support maintaining or increasing legal requirements for mandatory distributions by private foundations, and closing legal loopholes offered by a relatively new charitable phenomenon, the donor advised fund.

Keywords: philanthropy, nonprofits, tax, agency costs, restricted spending, trusts and estates

Suggested Citation

Galle, Brian D., The Quick (Spending) and the Dead: The Agency Costs of Forever Philanthropy (June 11, 2020). Available at SSRN: https://ssrn.com/abstract=3624925 or http://dx.doi.org/10.2139/ssrn.3624925

Brian D. Galle (Contact Author)

Georgetown University Law Center ( email )

600 New Jersey Avenue, NW
Washington, DC 20001
United States

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