How much should a foundation give to charities each year?

The question is both deceptively simple and deeply fundamental. In the midst of the COVID-19 pandemic, a looming economic recession, and ongoing injustice in racialized communities across Canada, there is an unprecedented need for charitable dollars. And Kris Archie, executive director of The Circle of Philanthropy and Aboriginal Peoples in Canada, says foundations should open their cheque books even wider.

“Communities – they know what they need,” she told Future of Good’s May panel on giving during the pandemic. “It becomes very simple during a moment like this for philanthropic organizations to realize that they write their own rules” and can up their spending according to currently dire community needs.

Long before COVID-19, Canadian foundations were required by law to give far more than 3.5 percent of their assets each year. This is the inspiration behind the Give5 campaign, a pledge by at least 69 foundations to give at least 5 percent of assets this year – potentially unlocking hundreds of millions of new capital for charities and non-profits. Their rationale is straightforward: we’re living in the middle of a pandemic. Our federal government is spending billions of dollars funding the Canada Emergency Response Benefit, supporting cities, and ensuring the national economy doesn’t completely crash. Why shouldn’t foundations give more?

Our federal government is spending billions of dollars funding the Canada Emergency Response Benefit, supporting cities, and ensuring the national economy doesn’t completely crash. Why shouldn’t foundations give more?

But long-term, encouraging foundations to step up and shell out 5 percent of assets or more each year isn’t as simple as signing the Give5 pledge – or surpassing it. The rules around disbursements are complicated. Markets are volatile. And the Canadian government is well within its power to raise the asset disbursement quota and force foundations to give more. Except it hasn’t, partially because of the returns on the bond market over the past decade. The pandemic is still prompting organizations like Resource Movement to question the rationale behind Canada’s 3.5 percent disbursement quota. 

This rule was designed to ensure foundations or charitable enterprises spent most of their accumulated wealth on helping the public, rather than paying for operating expenses (or simply reaping tax benefits). To say these rules are complicated is an understatement: there are two different quotas, one tied to donations, the other revolving around the value of properties or other assets held by a particular charity. While the Give5 campaign refers specifically to the asset disbursement quota, it’s worth mentioning both to get a sense of how the system began.

Starting in 1950, charitable corporations and trusts had to disburse 90 percent of all the income they received each year for the public good. This changed in 1976, when private foundations were required to give away 5 percent of the value of any investments not subject to taxes and that weren’t being traded in the open market – like securities – as well as 90 percent of all the income those investments generated. Public foundations and charitable organizations were also required to give 80 percent of their previous year’s receipted donations, a rule that ensured most of the funds given to charities was actually used for the public good.

Ottawa tweaked the rules again in 1984, lowering the income disbursement quota to 80 percent for all charities and reducing the asset disbursement quota – the one Give5 and others within the charitable sector focus on today – from 5 percent to 4.5 percent of all assets not used by a foundation itself. In other words, if a foundation was actually using an investment as part of its charitable activities or administration, it didn’t count.  

Why did this matter? The federal government calculated the disbursement quota for assets based on the average amount an investor could expect to earn on their returns, says Malcolm Burrows, head of philanthropic advisory services at Scotiatrust – Scotia Wealth Management.

In other words, the government expected a 4.5 percent quota would allow foundations to earn a little extra on their investments, but not enough for them to stockpile wealth in any great amount. That started to change in the early 2000s, Burrows says, when the rate of return on interest and dividend payments dropped across the board.

Knut Nordlie, the former vice-president and chief operating officer of the B.C. Children’s Hospital Foundation, says charities in the early 2000s were finding it more difficult to pay out the disbursement quota. “If you have an endowment that’s worth a million dollars, for example, and you’re required to pay out 5 percent based on the disbursement quota, but the investment market has declined to the point where you’re only earning 4 percent on a conservative portfolio – you’re now in a bit of a bind,” he explains.

2004 then saw the federal government pare back the asset disbursement quota from 4.5 percent to 3.5 percent. This change was welcomed by the Canadian Bar Association, who called it “a step in the right direction” in a 2004 submission to a CRA and Finance Canada meeting, saying it would help charities who find themselves unable to meet the quota. 

What isn’t clear is who asked for that change in the first place. Independent Ontario Senator Ratna Omidvar says she believes several groups made presentations to the Finance Department and other officials calling for the changes but isn’t entirely sure. Others within the foundation sector suspected major public foundations called for changes. “You also have to appreciate the fact the foundations represent wealth and big money,” Omidvar says. 

According to the 2004 federal budget, the new 3.5 percent disbursement quota better aligned with historic real rates of return on a charity’s typical investment portfolio – but it was also supposed to be regularly reviewed to ensure it remained relevant in changing market conditions. (Curiously, the budget itself does not spell out the conditions that should prompt a review, nor does it say who should conduct it).The quota hasn’t been adjusted since that time. 

Robert Frost, executive director of the Winnipeg Community Foundation, says his organization is well-equipped to handle major market variations. But most of Canada’s smaller community foundations aren’t. “Some of them really need the [quota to be] 3.5 percent to cover their admin costs,” he says. And 2008 turned out to be a spectacularly bad year. The University of Toronto’s massive endowment lost $545 million – nearly a third of its previous year-end value – according to a 2010 paper by Burrows in The Philanthropist.

Frost says his organization was happy to see the quota lowered to 3.5 percent. Many of the community foundations he works with are run out of small towns across Manitoba. On average, he estimates they hold about $2 million each in capital. “It’s certainly allowed community foundations to develop more sophisticated policies to deal with the fact that markets go up and down,” he says.

The last revision by the Canadian government in 2010 maintained the 3.5 percent disbursement quota, but dropped the 80 percent income disbursement rule for public foundations and charities completely. Imagine Canada and other sector organizations had been asking for this change for years, mainly to lend flexibility to small or rural charities who felt the old 80 percent income disbursement quota and other such rules were incredibly complicated. 

Indeed, a CBA submission called the 2004 rules “confusing.” David Bourgeois, the former editor of The Philanthropist, wrote in 2010 that charities often ended up spending money on expensive legal advice simply to make sure they didn’t fall afoul of the rules. “People were hugely relieved because it simplified everything,” says Hilary Pearson, who was the CEO of Philanthropic Foundations Canada at the time. “The only requirement we have is that 3.5 percent minimum, per year. That’s it. That’s all we had to deal with.”

Nonetheless, disbursement quota changes weren’t universally endorsed by the charitable sector at large. Pearson recalls hearing from organizations who believed the new rules would make life more difficult for them because they expected a corresponding drop in grants. Some charities, too, were concerned the drop in mandatory asset disbursements would mean less money for their operations. But Pearson says the disbursement quota’s drop to 3.5 percent doesn’t constrain foundations. “There is no reason why foundations cannot give more,” she says.

Before becoming a senator, Omidvar worked at a foundation. She says regardless of the legal minimum, these organizations take their roles seriously, and do try to give as much as possible. “Many foundations go way beyond the disbursement quota of 3.5 percent,” Omidvar says.

Still, the Canadian government could readjust the asset disbursement quota, unlocking way more philanthropic money consistently – if it received legislative approval – and to better match the troughs and whitecaps of global markets, as the 2004 federal budget promised. The total economic damage of the COVID-19 pandemic has yet to be fully tallied, but it is clear that foundations have had a good run over the past decade. Since 2010, the value of assets held by private and public Canadian foundations jumped from just over $35 billion to just under $85 billion in 2017. Meanwhile, the total grant payouts from Canadian foundations nearly doubled from $3.4 billion to $6.6 billion.

Since 2010, the value of assets held by private and public Canadian foundations jumped from just over $35 billion to just under $85 billion in 2017. Meanwhile, the total grant payouts from Canadian foundations nearly doubled from $3.4 billion to $6.6 billion.

Fast-forward to 2020, and foundations are wondering – yet again – what the COVID-19 pandemic’s impact on global markets will mean for their investments, and therefore, their ability to give.

The question of how much a foundation should give every year is a fundamental tension within the sector. And the Canadian legal requirements aren’t much help: no law prohibits a foundation from giving more than 3.5 percent in assets every year. There is nothing stopping a foundation from accepting millions in endowments and then spending them down – capital and all – within a decade. But what is lost with such a venture, Pearson says, is the concept of enduring foundations such as the Rockefeller Brothers’ Fund that benefits charitable causes for generations. “The idea is to create this amount of capital that is going to be available, year after year, generating returns that we can then keep on dispersing year after year,” she says.

Still, the future for foundations who invest heavily in the market is uncertain. Carolynn Beaty, director of granting at the Sitka Foundation, says she isn’t too concerned about the impact of 2020’s looming economic downturn just yet, but wonders what it will mean down the road. The disbursement quota is calculated based on the 2 year rolling average before the fiscal year when the quota is spent, she says, so a single year won’t necessarily affect an organization.

It’ll be in 2021 and beyond, when the disbursement quota calculations factor in not only 2020 – a pandemic year – but also the inevitable economic crash the pandemic will bring to global markets. “We’re not talking enough about those years,” she says.

Burrows doesn’t believe a one-size-fits-all outcome is necessarily the answer here, but he wants to see a more robust conversation within the philanthropic community about giving. “I think that having debate, particularly in a moment of crisis, is essential,” he says, “because this is a system that’s there for public good. And if we’re not providing that public good – if we’re just putting up the drawbridge and saying it’s our job to protect the dragon’s hoard – then we need to be doing some soul searching on that.”

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