Beyond the 5%: Impact Investing and the Future of Foundations
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Beyond the 5%: Impact Investing and the Future of Foundations

Potentially transformative news appeared in The Chronicle of Philanthropy today in the article, "IRS Issues Rules Favorable to Foundations on Program-Related Investments."

"The Internal Revenue Service has issued new regulations designed to encourage private foundations to make investments in areas such as education, health, and the environment that can result in societal benefits and simultaneously generate income."

The article links to The White House's own release on the topic, "Steps to Catalyze Private Foundation Impact Investing" (written by David Wilkinson, Director of the White House Office of Social Innovation and Civic Participation). The genesis for this change, according to Mr. Wilkinson, was:

"Traditionally, a foundation has viewed its financial resources as two distinct pots of capital: funds set aside for grants that further charitable purposes, but are not repaid; and funds dedicated to investments, which provide a financial return and maintain the value of the endowment as an ongoing source for future philanthropic activity. Increasingly, foundations are realizing the benefits of tools for funding charitable projects that do not neatly fall in one category or the other."

LINK: More from White House: What are PRIs & Why this Decision was Needed

The White House's article offers much more detail on the real impact of this decision, including this robust offering (a PDF) of several examples of what the IRS considers "Program-Related Investments." The examples start on page 16, and are also included here.

  • Investing in vaccines with a low financial ROI but high impact on the poor
  • Investing in high-risk venture to combat environmental deterioration
  • Loan to high-risk venture to combat environmental deterioration
  • Loan to company providing jobs to poor people in distressed area
  • Loans to micro-entrepreneurs who cannot otherwise access capital
  • Loan to for-profit LLC that uses the loan's proceeds to fund education for poor farmers
  • Loan to purchase art exhibition space
  • Bank deposit agreement to convince a bank to make a loan to a non-profit for construction of a new childcare facility"
  • Guarantee and reimbursement arrangement for scenario above

For full details on these examples, click here.

Why This Matters

"Foundations can deploy a wide array of financial tools to achieve their charitable goals."
- Dave Wilkinson

Foundations are only required to donate 5% of their assets per year. The remaining 95% is focused on for-profit investments ... some of which actually go against the purposes of the foundation's grantmaking, as was the case for MacArthur Foundation in 2014 (article) and the Gates Foundation in 2007 (article).

In other words, for every $1 that a foundation donates ... it invests $19 in the market.

So why does this announcement from the IRS matter? Simply put: it has the potential to exponentially multiply the amount of capital available for social impact.

How Much Capital are We Talking About?

According to the latest information from the Foundation Center:


The column on the far right is particularly intriguing. For all of the money that foundations are donating each year, even more money is being put into foundations by their wealthy benefactors.

What Could this Capital Do?

Let's imagine that only 1% of the $798B+ in combined foundation assets was invested in microloans for the poor. In other words, into the portfolios of companies like Kiva, Accion, PeopleFund (DISCLOSURE: where I used to work), and others.

That would be another $7.9 BILLION dollars in capital available for poor people to lift themselves out of poverty. In fact, it would increase the total global portfolio of such funds by nearly 10%, according Citi's 2014 Microfinance Barometer (which reports that "A growing and solid base of microfinance providers ... (own) a global loan portfolio amounting to USD 81.5 billion.").

These loans would be repaid to the foundations, who could then re-invest the capital in more loans, donate it as grants to charities, or invest it in other vehicles. And along the way, it would provide critical financial access to many of the estimated 2.5 billion people who still do not have a formal account in a financial institution.

All WHILE generating a profit for the foundation, unlike a traditional grant!

Beyond the 5%

We are entering a new era in the world of institutional philanthropy, where traditional grantmaking is only one tool for foundations to advance social good.

I see few things that could more significantly impact our sector than having donors -- particularly institutional grantmakers -- transition their self-identity from that of "donor" to "financier." The former too easily falls into short-term charity; the latter leads to long-term impact.

If donors, nonprofiteers, and social entrepreneurs could see themselves as partners in a shared mission to advance society, t'would be a merrier world!

This blog was originally published at Gregg Partners:
https://greggpartners.com/2016/04/future-foundations-impact-investing/

Roman Herrington

Executive Director for Principal Gifts at The University of Texas at Arlington

7y

PRI's have been around for a very long time and have been routinely been a part of many of the "larger" charitable foundations. The challenge has always been integrating these types of investments within the financial portfolio - there's always been an inherent tension between the grantmaking and financial sides of the foundation world. The other issue is that of donor intent and whether the donor provided for this type of provision, whether it advances the legacy aspects of their gift and whether there are any programmatic restrictions on grantmaking from the foundation for human services-type investments. I agree 100% in the use of this leveraged-type of impact investing. It's a tool that many foundations are aware of, but not all use.

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