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As need rises, so does call for private foundations to up payouts - Crain's Detroit Business

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Rising demand for support for nonprofits and the people they serve and the push for social justice reform over the last year have translated to calls — both from within philanthropy and outside of it — for increased payouts from private foundations.

The conversation sparked early on during the pandemic with a long list of national philanthropy groups calling for grant makers to be flexible about grants already made and increase their grants during the crisis.

Last week, Aaron Dorfman, president and CEO of the National Committee for Responsive Philanthropy, and Ellen Dorsey, executive director of the Wallace Global Fund, called out the issue again in a column in The Chronicle of Philanthropy.

Early research suggests philanthropy's immediate response to the pandemic was unprecedented, with nearly $11 billion flowing to U.S. groups to address the compounding effects of COVID-19 at the community, state and national levels, Dorfman and Dorsey said.

However, fewer than a third of foundations pledged to increase the share of assets they distributed to meet COVID needs, and some that gave more did so by diverting money from other causes.

The pair voiced yet-to-be-substantiated projections of significant endowment growth for many foundations over the last year and concerns that many foundations would consider returning to the minimum distribution required by law.

"... At a time when wealth inequality is greater than it has been at any point over the last 100 years, it is simply unjustifiable to give priority to endowment growth over dealing with the critical needs of the communities that foundations exist to serve," Dorfman and Dorsey said.

Last June, five foundations, including the New York-based Ford Foundation and Battle Creek-based W.K. Kellogg Foundation, heeded calls, pledging to increase their annual payouts by a collective $1.7 billion within the next two years.

At least two, the Ford and Kellogg foundations, are doing so by issuing social bonds rather than spending down greater percentages of their endowments as they seek to balance short-term needs with the ability to support communities long term.

Others, like the Troy-based Kresge Foundation, say they are already paying out more than the 5 percent annual requirement as part of a long-term view and need to shepherd strategically to ensure ongoing support for communities and responsiveness to future crises.

The idea of increasing payouts has been a conversation among the members of the Washington, D.C.-based Council of Foundations, and it's a conversation locally as well, said Kyle Caldwell, president of the Council of Michigan Foundations.

"This is a healthy debate, but we're saying ... let's have it data-informed," he said.

CMF commissioned a newly released study, "An Evaluation of Private Foundation Model Portfolios, Investment Returns, & Payout Rates." The Dorothy A. Johnson Center for Philanthropy at Grand Valley State University completed the study with Plante Moran Financial Partners.

The study builds on 20 years of research on payout rates commissioned by the Council of Michigan Foundations through earlier, limited-scope studies. The new report is the most comprehensive snapshot of foundation payout data available to date, Caldwell said.

It's the first of three payout studies the Johnson Center is conducting for the CMF, with the public release of similar looks at the payouts of community foundations and, separately, the donor-advised funds they administer, expected this spring.

"In the pandemic, there is a clear increase in need and increased pressures on philanthropy to do more," Caldwell said.

Many funders want to focus on an area, and a great way to do it is by increasing payouts, he said.

But given historical market returns that are typically below the current payout levels for many foundations, the study finds increased payouts are not sustainable for those set up to operate in perpetuity.

The study provides scenarios of how long it would take foundations to recover from increased payouts even over the short term as a way to aid them in balancing grantmaking priorities with long-term strategies.

"If your goal is … to preserve endowed resources for the long run to be impactful over many decades, you have to look at investment and payout and (strike) a balance," Caldwell said.

"No other study before has gone before and said, 'What are the consequences for increasing payout?' This gives them the tool to have that conversation."

To arrive at the annual payout rates of foundations and compare them with investment returns, Johnson Center analyzed numbers for private foundations that file electronic 990-PF annual forms with the Internal Revenue Service. The study encompassed about 80 percent or 1,450 private foundations in Michigan, and 84 percent or 50,000 private foundations across the U.S. It analyzed five years worth of filings, from 2014-18.

Working with Plante Moran, the Johnson Center calculated the payout rates and investment returns for both groups.

It found that in terms of annual percentage payouts, as a group, Michigan's private foundations are almost identical to private foundations across the U.S., said Jeff Williams, director of the community data and research lab at the Johnson Center, who shared the findings with legislators and other foundation leaders during annual "Foundation on the Hill" events in Washington, D.C., recently.

"A general complaint against private foundations is that most pay out 5 percent and not a penny more," he said.

"But the study when we looked at tens of thousands of foundations, most pay out well over 5 percent, and in fact, half pay out 6 percent or more. That's the national finding and also the same in Michigan."

According to the study, 69 percent of Michigan foundations paid out 5 percent or more in 2018, and 49 percent paid out 6 percent or more. More than a third or 35 percent paid out 9 percent or more of their assets that year.

Nationally, a quarter of U.S. foundation paid out 15 percent or more of their corpus every year between 2013-2018, according to the study, one of the first to show that most foundations pay well over the required minimum, Williams said.

Nationally, the median payout was 5.9 percent in 2018. In Michigan, it was 6.25 percent.

"There is a tradition of charity in Southeast Michigan; I can see it in the data," Williams said. "We are blessed in Southeast Michigan with a number of large and historical foundations."

The study pegged the median endowment for private foundations in the U.S. at $645,000 and found that only a quarter of foundations have $2.2 million in assets. The Michigan numbers are very close, he said.

"For every Kellogg, Kresge or Skillman ... there are a hundred smaller, private foundations we've never heard of that are very community-focused."

If critics of foundations are worried about the 5 percent requirement being viewed as a cap, "proponents of it are saying we really can't go further," Williams said.

A second important finding in the study is that investment returns signal the 5 percent payout requirement for foundations is probably correct, he said.

"Raising the payout rate above 5 percent is not sustainable in the long run, because of the historical investment performance," Williams said.

From 2014 to 2018, the median investment return was less than the payout rate, meaning many foundations were eroding principal with their payouts those years, he said. The recent study and earlier reports commissioned by CMF show that a mandated payout rate above 5 percent would be difficult to sustain on an inflation adjusted basis.

"Foundations often make multiyear commitments, and then the stock market does what it wants to do," Williams said. "Multiyear commitments have an element of risk, and foundations shoulder that risk."

For foundations that may be considering increased payouts in the short term, the study provides data-informed scenarios for the length of time it would take to bring assets back to current levels, based on historic investment returns.

Will that decision impact a foundation for two years or 100 years? The answer is somewhere between, or roughly 20 years for a foundation doubling its annual payment for just three years for assets to return to their starting point, even if investment returns remain above post-World War II averages, Williams said.

Those scenarios and the study as a whole are giving Michigan foundations an "aha moment" about how to think about increasing payout and setting some goals, Caldwell said.

"Wouldn't it be interesting if they could say with certainty, 'Here's our commitment for x number of years, after which we'll have to do a reset or recalibration?'"

The Kellogg Foundation was among the first nationally to pledge an increased payout, with a commitment to increase its grants over the next two years. To avoid impact on its assets, it issued $300 million in social bonds in October.

Kellogg reported $8.23 billion in assets for fiscal 2020 ended August 31, up 5.51 percent from 2019 assets of $7.8 billion. The increase came following a 9.3 decrease from 2018 assets of $8.6 billion.

Historically, the foundation's payout has averaged 5 percent each year, said Carla Thompson Payton, vice president of program strategy, in an email.

"Our intent is to increase payout by 50 percent per year for this fiscal year (ended Aug. 31) and next fiscal year with proceeds from the social bond."

For fiscal 2021 and 2022, "we expect our payout percent to be closer to 7-7.5 percent," she said, with estimated grants of $435 million in fiscal 2021, up from about $301 million in fiscal 2020.

The social bond issue "was a one-time issue to increase our responsiveness given the scale of strain placed on nonprofits and people in our communities," Thompson Payton said.

"The funds are being used to double-down on our priorities in education, employment and economic equity and health equity, all crucial gaps in our communities further exposed by the pandemic."

As with everything the foundation funds, racial equity and healing, community engagement and leadership are embedded in its work, she said.

"Given the effect of the past year and the need for an equitable recovery and rebuilding, these features of our work are even more important."

The Troy-based Kresge Foundation is taking a long-term view and choosing to live within the spending plans it develops every five years, said Amy Robinson, vice president, CFO and chief administration officer.

Those spending plans give it flexibility to shift spending as needed, while also helping maintain its assets so it can continue to support the community long term, she said.

For the current five-year plan, which runs through 2021, the foundation increased its average payout from about 5.1 or 5.2 percent of its assets each year, or $163 million-$186 million, to a 5.5-percent payout or about $195 million each year, she said. The move came in response to concerns in 2017 of decreasing endowment returns and the potential for decreased investment in areas like human services, education and climate under the Trump administration.

The grants are in addition to other support provided by the foundation, including technical assistance and program-related investments like loans and loan guarantees, Robinson said.

To meet rising need over the past year, Kresge shifted spending within its grant priority areas to direct $19 million to COVID relief and $30 million to racial justice efforts, while staying within the approved spending plan, Robinson said.

If Kresge had drawn down further on its endowment in a previous crisis, like the Great Recession in 2008, that drawdown would have resulted in a lower endowment and related earnings, reducing its ability it would not have been able to be responsive to crises over the past year, she said.

Kresge's assets totaled a projected $3.9 billion at the end of 2020, Robinson said, up 4 percent from $3.84 billion in 2019, and up from $3.73 billion in 2018.

Other foundations have different approaches that meet their strategies, Robinson said.

"We have taken the position we want to be here long term to support our grantees and community, so we feel we have to steward the foundation's resources over time to preserve that ability to be there for the future and other crises."

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