The Basics of Nonprofit Endowments

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Endowment funds are a form of investment vehicle used by many types of nonprofit organization to provide for structure and long-term management of the organization’s financial assets. Run by financial advisory firms, endowment funds are first and foremost about making the most of an organization’s money. But they also have important legal characteristics, driven by their contractual and governance limitations.

These are some of the important characteristics of endowments that nonprofit managers will want to know:

  • Endowments are built to provide long-term investment income.

Most endowment funds are set up to distribute only the profits made on invested principal, while the principal itself can only be withdrawn under certain very specific circumstances.  Typically an endowment fund is most attractive for nonprofits with substantial capital available to invest. In other words, an organization that lives donation-to-donation might not be ready to form an endowment fund.

  • Endowments are subject to governance restrictions.

An endowment fund can be thought of as quasi-independent from the nonprofit that owns it. That is because an endowment is set up with a variety of restrictions, including:

  • How its capital can be invested: The manager—usually a professional financial advisor—can be instructed to follow a particular investment strategy, such as only investing in certain asset classes. Many nonprofits also want to restrict investments in things that are antithetical to their organization’s mission.
    • Withdrawal and use restrictions. A typical endowment fund limits when and how withdrawals can be taken. Some also restrict how profits can be used. For example, a large donor may provide capital for an endowment to finance a specific recurring expense.
  • Donors can give directly to an endowment fund.

The restrictions placed on an endowment fund can give some donors extra peace of mind knowing that their gifts will be subject to a professional manager’s oversight and strict governance guidelines. Because a fund is also designed to build a long-term asset, donors may also like the feeling of supporting something that will last for many years to come.

Is an endowment the right approach for your nonprofit?

Endowments are largely financial in character, but the decision of whether to form one, and how a new fund should be organized, can require careful analysis of legal questions. The Church Law Center of California provides counsel to religious and secular nonprofits. We’re happy to answer your questions about endowments and how one might be of benefit to your organization. Call us at (949) 892-1221 or reach out to us through our contact page.

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