private foundations, 1988private foundations, 1988 by margaret riley and alicia meckstroth* total...

Private Foundations, 1988

By Margaret Riley and Alicia Meckstroth*

Total assets of private foundations increased markedlybetween 1987 and 1988, while total revenues continuedto decline [1]. Total assets increased by 13 percent for1988, to $128.9 billion [2]. Total foundation revenues,however, fell at a rate of 5 percent, to $16.3 billion.Foundation net investment income fell by a greater rate,8 percent, to $10.4 billion. Despite failing revenues andinvestment income, the amount of charitable grants madeby foundations increased by 9 percent f rom 1987 to 1988,to $7.4 billion. In comparison, between 1986 and 1987,private foundations, while continuing to increase the totalamount of grants distributed, experienced a decline intotal revenues and only a 1 percent increase in totalassets.

CHANGES IN FOUNDATION REVENUE, ASSETS,AND GRANTS, 1987 TO 1988

A sizable decrease in net gain (less loss) from sales ofassets, 34 percent, and a smaller decrease in the amountof contributions, gifts, and grants received by founda-tions, 0.3 percent, both contributed largely to the contin-ued decline in total foundation revenue from 1987 to1988. Although net gain from sales of assets andcontributions received both declined, the combined totalof interest and dividend income increased by 16 percentover the same time period [3].

While revenues declined, total foundation expensescontinued to increase at a relatively constant rate incomparison to past years, 8 percent, from $9.1 billionfor1987 to $9.8 billion for 1988. Increasing amounts ofcharitable grants distributed by foundations largely ex-plain the growth in total expenses. Declining revenuesand increasing expenses led to an overall decline of 19percent in net revenue or "excess of revenue (less loss)over expenses." Figure A depicts percentage changesfor various revenue items as well as for other selecteddata for the periods 1986 to 1987 and 1987 to 1988.

Foundations continued to react to the October 1987stock market decline that contributed to the decreasingnet gains from sales of assets and the drop in both totalrevenue and net investment income. The low marketvalues of many stocks through much of 1988 may haveled to the lower gains from sales of assets and may alsohave discouraged foundations from selling stocks andinstead encouraged them to defer sales of stock untilmarket values had risen. This reaction, in effect, mayhave contributed to the 34-percent decrease in the netgain from sales of assets from 1987 to 1988, from $5.6billion to $3.7 billion. A closer examination of changes inthe net gain (less loss) from sales of assets reveals thattotal gains from sales of assets fell by 33 percent, from$5.7 billion for 1987to $3.8 billion for 1988. Likewise,totallosses from sales of assets grew by 8 percent, from$147.9 million to $159.5 million. Examining the 1986 to1988 period shows that the net gain from sales of assetsfell by 48 percent.

The amount of contributions, gifts, and grants receivedby foundations dropped by 26 percent from 1986 to 1987,but only by 0.3 percent from 1987 to 1988. During the1986 to 1988 period, total contributions fell from $7.2billion to $5.3 billion. Declines in the amount of contribu-tions received were most prominent in the very small andthe very large foundations. The smallest foundations-the group holding less than $1 million in fair market valueof total assets-received $910 million in total contribu-

Figure A.--Percentage Changes in Selected FinancialItems, 1986 to 1988

1986 to

1987

Fair market value of total assets..................................... 1.0% 12.8%Investments in securities ............................................. 0.4 14.0

Total revenue.................................................................. -14.5 -4.9Not gain (loss loss) from sales of assets ..................... -20.4 -34.4Contributions, gifts. and grants received ..................... -26.1 -0.3

Total expenses ................................................................ 9.6 7.5Contributions, gifts. and grants paid ........................... 9.1 9.0

Excess of revenue (loss loss) over expenses ................. -31.6 -18.9

*Foreign Special Projects Section. Prepared under the direction of Michael Alexander, Chief.

21

22 Private Foundations, 1988

tions, 15 percent less than in 1987. Likewise, the largestfoundations-the group holding $100 million or more infair market value of total assets-received $704 million intotal contributions, 12 percent less than in 1987. Contri-butions received typically comprise a much greaterpercentage of total revenue for the smallest foundationscompared to the largest foundations, for instance, 65percent for the small compared to 11 percentforthe largefor 1988. While the larger foundations, in order to fundcharitable giving, tend to rely extensively on the growthof their endowments, the smaller foundations dependlargely on contributions that they receive in a given yearor in prior years.

Changes in the Tax Reform Act of 1986 (TRA86)relating to contributions of appreciated property mayhave discouraged donors from making contributions ofstock or other appreciated property to foundations. Afterimplementation of TRA86, donations of appreciatedstock to "nonoperating foundations" (defined below)could still be deducted at fair market value, althoughdonors could be subjected to the revised "alternativeminimum tax" (as a "tax preference item") on the differ-ence between the fair market value and the actual cost (orbook value) of the donated stock or property. Further-more, the lower values of stock after the October 1987market decline potentially limited both the size of adonor's charitable gift and the value of the tax deductionfor the charitable gift. These same factors may also haveaffected corporate giving, which continued to declinefrom 1987 to 1988, by 2 percent [4]. To further explainthe drop in contributions from 1986 to 1988, donors, inanticipation of the TRA86 changes, may have contrib-uted relatively large amounts in 1985 and 1986, therebymakingthe 1987and 1988 contributions small incompari-son.

Although revenues and net investment income de-clined, at the end of the 1988 tax year foundation assetshad rebounded from the minimal 1987 gain by increasing13 percent from 1987, to $128.9 billion. The largestfoundations-those holding $100 million or more in as-sets-realized an increase in assets of 15 percentcompared to only 4 percent for the smallest founda-tions-those holding less than $1 million in assets. The14 percent gain from 1986 to 1988 in the value of totalfoundation investments in securities, to $99.6 billion,explains much of the growth in total assets. "Rates of totalreturn" on assets (defined in the Rate of Total Returnsection) increased markedly from 1987 to 1988, therebyexplaining much of this growth.

Despite the revenue losses, the amount of grants thatfoundations distributed increased by 9 percent from 1987

to 1988, to $7.4 billion. Increases in grants wereparticularly prominent in the larger asset-size groups.For instance, forthe largest foundations, grants increasedby 9 percent from 1987 to 1988, to $2.7 billion, while forthe smallest group, grants increased by only slightly lessthan 1 percent, to $912 million. (For explanations of thedisparity between the large and small foundations seeThe Distribution Requirement and the Payout Ratesection and the Asset Growth, Distribution Goals, andDecision-Making section.)

OVERVIEW AND EXPLANATION OF PRIVATEFOUNDATIONS

Statistics of Income Studies

The statistics presented in this article are based on datafrom Form 990-PF, Return of Private Foundation, theannual information return filed by private foundations [5].Statistical studies on private foundations have previouslybeen conducted for tax years 1974, 1979, 1982, 1983,and 1985 through 1987. A study for tax year 1989 iscurrently in progress and will cover both private founda-tions and nonexempt charitable trusts treated as privatefoundations under the Internal Revenue Code [6].

Data for 1987 and earlier years have been published inthe Statistics of Income Compendium of Studies of Tax-Exempt Organizations, 1974-87 [7]. Except for tax year1974, data for the above-cited years have also beenpublished in the Statistics of Income Bulletin [8]. Some ofthe data discussed in this article are based on previouslyunpublished statistical tabulations.

Organizations and Activities

A private foundation is a nonprofit, tax-exempt corpora-tion, association or trust which is narrowly supported andcontrolled, usually by an individual, family, or corporation,as opposed to an organization receiving broad supportfrom a large number of sources within the general public.It is this narrow base of support and control whichdifferentiates a private foundation from a publicly sup-ported tax-exempt charitable organization, although bothreceive tax exemption under Internal Revenue Codesection 501 (c)(3) [9]. Because of the centralized supportand control, private foundations are more strictly regu-lated than other section 501 (c)(3) organizations.

The two types of private foundations, "operating" and"nonoperating," are distinguished by the form of chari-table support they provide. Nonoperating foundations


generally provide indirect charitable support by makinggrants to other section 501 (c)(3) organizations thatactually conduct charitable programs [10]. Nonoperatingfoundations are required each year to expend or distrib-ute (normally through grants or related expenses), by theend of the following year, a minimum amount for chari-table purposes, based on the value of their net invest-ment assets (also known as net noncharitable-use as-sets). Individual income tax deductions for contributionsto nonoperating foundations are generally more restric-tive than deductions for contributions made to operatingfoundations or other section 501 (c)(3) organizations.

If an organization can show that the level of its directinvolvement in charitable activities is sufficiently highthen it qualifies as an operating foundation and isexcepted from the income distribution requirement andrelated excise taxes that would otherwise be applicable.Operating foundations are required to provide directcharitable support by expending substantially all (85percent) of the lesser of their "adjusted net income" or 5percent of "net investment assets" to actively carry on tax-exempt charitable programs (as opposed to the payoutof grants in support of such programs). In addition tosatisfying this "income" test, they also must meet one ofthree tests based on assets, endowment, or sources ofsupport, to continue to qualify as operating foundations[11]. Although operating foundations are not subject tothe annual payout requirement, many choose to makegrants in addition to carrying on charitable programs oftheir own.

Passage of the Tax Reform Act of 1969 forthe first timesubjected foundations to an excise tax on net investmentincome. The tax was imposed so that private foundationswould share the cost of more extensive and vigorous IRSenforcement of tax laws relating to exempt organizations.Most private foundations pay the excise tax on netinvestment income, while some operating foundationsare exempt from this tax (see the section, Excise Tax onNet Investment Income). The 1969 Act also imposed atwo-tier system of penalty taxes on foundations thatengaged in prohibited activities (deemed not to be in thepublic interest); e.g., failure by nonoperating foundationsto distribute the required minimum payout after a one-year grace period, attempts to influence legislation, suchas lobbying or participating in the campaign of a candidatefor public office, or engaging in certain financial transac-tions with persons having a relationship with the founda-tion, such as substantial contributors to the foundationand officers, directors or trustees of the foundation.

Ofthe37,141 active organizations filing private founda-tion information returns for 1988, 91 percent werenonoperating foundations and the remaining 9 percent

23

were operating foundations, virtually the same percent-agesasfor 1987. Approximately31,300 were grantmakingfoundations. About 88 percent of the nonoperatingfoundations and 47 percent of the operating foundationsmade grants for 1988.

About 29 percent of the 5,833 nongrantmaking founda-tions were operating foundations. Another 17 percentwere nonoperating foundations that had no "distributableamount" and, therefore, were not required to make aminimum distribution (see the Explanation of SelectedTerms section for a definition of the distributable amount).An additional 28 percent of the nongrantmakers werenonoperating foundations that made other types of chari-table distributions to satisfy the minimum distributionrequirement (for a further explanation of these othertypes of "qualifying distributions," see the section, Chari-table Distributions). The remaining nonoperating,nongrantmaking foundations that did not fully make therequired distribution for 1988 had, by law, until the end oftheir 1989 accounting periods to do so without any taxpenalty. Some nongrantmaking foundations were "failedpubliccharities" thathad been reclassifiedas nonoperatingfoundations. Many failed public charities continued tooperate direct charitable programs rather than makegrants to other tax-exempt organizations [1 2].

The largest foundations-those having assets with fairmarket value of $100 million or more-numbered lessthan 0.5 percent of all foundations for 1988, but heldslightly more than half of all foundation assets. Only 4percent of all private foundations had assets worth $10million or more, but they accounted for 80 percent of allassets. The group of foundations considered to be smallin size-with less than $1 million in assets-accountedfor79 percent of all foundations, but only 4 percent of totalassets.

Top Ten Domestic Foundations

The assets of the 10 largest domestic foundationstotaled $27.5 billion, or 21 percent of all foundation assets(Figure B). These foundations accounted for 10 percentof the total $7.4 billion in grants paid out by all foundations.

The J. Paul Getty Trust is the only organization listedthat is an operating foundation. It actively operatesprograms that are mainly related to the arts and humani-ties (most notable is the J. Paul Getty Museum, an artmuseum located in California). Therefore, it is not surpris-ing that the Getty Trust made the smallest amount ofgrants of the organizations listed.

24

Figure BTop Ten Domestic Private FoundationsRanked by Size of Fair Market Value of TotalAssets, 19MI[Money amounts are in millions of dollars]

TotalName Total assets grants

paid


grants accounted for 3 percent of all grants made byfoundations for 1988.

Distribution of Larger Foundations by State

Table 4, at the end of this article, depicts foundationdata by State for all those foundations with $10 million ormore in book value of total assets [13]. The data indicatethat of the largest foundations-those with fair marketvalue of assets of $100 million or more-22 percent werebased in New York, and 14, 9 and 8 percent in California,Pennsylvania, and Texas, respectively. The largerfoundations in these four states (as included in the table)accounted for 43 percent of total foundation assets.

1. Ford Foundation $5,882 $218

2. J. Paul Getty Trus? 4,520 6

3. W. K. Kellogg FoundationTrust/W.K KelloggFoundation3

4. John D. and Catherine T.

3,875 104

MacArthur Foundation 3,135 95

5. Robert Wood JohnsonFoundation 2,056 44

6. Lilly Endowment, Inc. 1,934 80

7. Rockefeller Foundation 1,829 56

8. Andrew W. MellonFoundation 1,641 60

9. Pew Memorial Trust 1,562 88

10. Kresge Foundation 1,097 9

Total $27,532 $760I A foundation is considered "domestic' if it is organized in the United States;

however, this does not necessarily imply that all of its activities or grantrecipients are domestic.

2 J. Paul Getty Trust is an operating foundation. Al other foundations listedare nonoperating foundations.

3 The W. K. Kellogg Foundation Trust, located in New York, has a.pass-through" relationship with the W. K. Kellogg Foundation, located inMichigan. Typically, the entire amount of the annual "qualifying distributions" ofthe W. K. Kellogg Foundation Trust are made in the form of a grant to theW. K. Kellogg Foundation, which redistributes the grant for charitable purposes

(arid does not count the redistribution as a qualifying distribution of its own). Thecombined total assets of the two organizations are shown in the 'Total assets"column, but the *pass-through" grant of the W. K. Kellogg Foundation Trust isexcluded from the 'Total grants paid" column.

Note: Detail may not add to totals because of rounding.

While the grants of the Kresge Foundation may appearto be relatively low compared to those of the othernonoperating foundations shown in Figure B, that foun-dation set aside over $43.4 million to use for futurecharitable funding or projects. This type of "set-aside"can be counted toward satisfying the annual minimumdistribution requirement.

The assets of The Ford Foundation by far exceededthose of any other organization in the top ten. FordFoundation's $5.9 billion in total assets accounted for 5percent of all foundation assets, and its $217.7 million in

COMPOSITION OF REVENUE

Dividend and interest income, contributions (received),and net gain (less loss) from sales of assets are the threeprimary components of revenue for private foundations(Figure C). Together, these components accounted for94 percent of total revenue for 1988.

Throughout the period 1985-1988, contributions as apercentage of total revenue were relatively constant,ranging between 31 and 36 percent. For 1985 and 1986,net gain (less loss) from sales of assets was a largersource of foundation revenue than was the combinedtotal of interest and dividend income. Revenue fromthese two sources, e.g., gains from sales of assets andthe combination of interest and dividends, was just aboutequal for 1987, with each accounting for one-third of thetotal. However, for 1988 the proportion of revenueattributed to net gain (less loss) from sales of assetsdecreased while that attributed to interest and dividendincome increased.

Net gain (less loss) from sales of assets sharply de-clined for both 1987 and 1988 (in comparison to thepreceding years), by 20 percent and 34 percent, respec-tively, a net drop of 48 percent between 1986 and 1988.As indicated earlier, the stock market crash of October1987 explains much of thedropthat occurredduring 1987and continued into 1988. The lower market value of manyfoundations' stocks may have either induced these orga-nizationsto postpone selling certain securities or resultedin smallergains (or larger losses) on sales that they chose(or had) to make.

Another factor could be that in the years following 1981,when nonoperating foundations were no longer requiredto distribute their adjusted net income if it was larger than


Figure CComposition of Total Revenue, 1985-1988

TotalYear revenue

1985 $16.4 billion

1986 $20.0 billion

1987 $17.1 billion

1988 $16.3 billion

0 25 50

Percentage of revenue

Contributions L_ Interest andreceived dividend

income

ME=

EE.MEMM

35%

75

6%

4%

4%

25

6%

100

Net gain (less Other incomeloss) fromsales ofassets

Note: Component percentages may not add to 100 percent because of rounding.

5 percent of their net investment assets, sales of assetsincreased appreciably as many foundations restructuredtheir investment portfolios to change the mix of high-income-yield and high-appreciation securities. Between1982 and 1986, sales of foundation assets increasedalmost 300 percent.

The percentage distribution of major revenue sourcesvaries extensively when the size of the foundation isconsidered. As already mentioned, smaller organiza-tions rely more heavily on charitable contributions forrevenue than do larger foundations. For example, for1988, contributions reported by foundations with assetsunder $1 million accounted for 66 percent of their totalrevenue, while a combined total of interest, dividends,and net gain (less loss) from sales of assets accountedfor 31 percent. Organizations with assets of $1 millionunder $25 million reported nearly equal portions of con-tributions and a combined total of interest, dividends, andnet gain (less loss) from sales of assets. As a proportionof total revenue, each represented a 47-percent share.Receipts of charitable contributions played a much lessimportant role in the revenue of foundations with assetsof $25 million or more, equaling only 19 percent of the

total. By comparison, a combined total of interest, divi-dends and net gain (less loss) from sales of assetsaccounted for 76 percent.

EXCISE TAX ON NET INVESTMENT INCOME

The excise tax on net investment income is a type of"audit" tax originally levied on private foundations by theTax Reform Act of 1969 to provide funds for InternalRevenue Service (IRS) oversight of foundation activitiesand the enforcement of laws governing their exemptstatus. Domestic foundations generally paid a tax equalto 2 percent of their net investment income and foreignfoundations paid a tax equal to 4 percent of their grossinvestment income. Domestic organizations computedthe excise tax based on investment income from allsources, while foreign organizations computed the taxbased on investment income from U.S. sources only.

Effective with tax years beginning in 1985, a provisionof the Deficit Reduction Act of 1 984 altered the excise taxpayment requirements. Under these 1985 rules, theexcise tax was waived for certain operating foundations


which had been publicly supported for at least 10 years(or which were classified as operating foundations as ofJanuary 1, 1983); had a governing body broadly repre-sentative of the general public, as opposed to substantialcontributors to the foundation or members of their family(called "disqualified persons"); and had no disqualifiedpersons as officers of the foundation.

Since 1985, the annual 2-percent excise tax could bereduced to I percent for any domestic operating ornonoperating foundations that had current qualifyingdistributions that exceeded a 5-yearaverage of charitabledistributions plus 1 percent of the current tax year's netinvestment income. The 4-percent excise tax levied onthe gross investment income of foreign foundations hasremained unchanged. For 1988, foreign foundationsaccounted for only 1 percent of the organizations report-ing the tax and only 1 percent of the total amount of taxreported.

Figure D presents excise tax information for 1985-1988. Foundations reported less total excise tax for 1988than for each of the three preceding years. One contrib-uting factor to the drop in the tax reported was the rise inthe number of organizations qualifying for the 1 -percenttax reduction over the 1985-1988 period. Another factorwas the relatively low amount of net investment incomebase on which the 2-percent tax was computed for 1988.The decreases in net gain from sales of assets for both1987 and 1988 contributed to the decline in net invest-ment income for those two years.

About 10,300 foundations (about a third of all organiza-tions reporting the excise tax) were able to take advan-

Figure D.-Exclse Tax on Net Investment Income,1985-1988[Money amounts are In millions of dollars)

Item 1985 1986 1987 1988

(1) (2) (3) (4)FOUNDATIONS REPORTING

EXCISE TAX

Number of returns............... 25,806 28,051 29.823 31,058

Net Investment income $9.437.7 $11,507.4 $10,706.7 $9,893.6

Excise tax............................ 169.5 145.8 174.3 141.6

1 -percent taxNumber of returns............... 5,270 6,429 8,177 10,301

Not investment Income 2,018.3 3,481.4 4,030.7 5,667.2

Excise tax............................ 20.2 34.8 40.3 56.8

2-perceat taxNumber of returns ............... 20.489 21,552 21.600 20.719

Not Investment Income 7,371.4 8,001.4 6,654.8 4,198.0

Excise tax............................ 147.4 160.0 133.1 84.0

4-parceint taxNumber of returns ............... 46 70 46 38

Not Investment Income 48.0 24.6 21.2 18.3

Excise tax ............................ 1.9 1.0 0.8 0.7

FOUNDATIOIRS REPORTING

AN EXEMPTION FROMEXCISE TAX

Number of returns ............... 283 830 532 494

Not Investment income 602.7 765.6 546.6 472.1

tage of the 1 -percent tax reduction, totaling $56.8 millionfor 1988. The number of organizations qualifying for thereduction has nearly doubled between 1985 and -1988.An examination of the various asset-size classes offoundations shows that the proportion of foundationsqualifying to use the 1 -percent excise tax rate increasedas the fair marketvalue of assets increased, ranging from26 percent of foundations with assets under $1 million upto 54 percent of foundations with assets of $100 millionor more. Approximately 20,700 domestic foundationstogether reported an aggregate total of $84 million underthe 2-percent excise tax. This amount was lower than the2-percent tax reported for each of the 3 preceding years.

The number of operating foundations reporting anexemption from the excise tax on net investment incomehas fluctuated over the 1985-1988 period. The 494organizations claiming the exemption for 1988 were 20percent of all operating foundations reporting net invest-ment income.

The remaining 5,600 foundations which reported noexcise tax on net investment income, and therefore wereexcluded from Figure D, mostly were organizations thathad no investment income for 1988. However, a smallnumber (3 percent) of these organizations did haveinvestment income but did not report the excise tax, anda few organizations were Canadian foundations which,under a trecity with the United States, did not have to paythe excise tax.

COMPOSITION OF ASSETS

Investments form the largest portion of the total assetsof private foundations, with securities being the mostfrequently used investing option of these organizations(Figure Q. Between 1987 and 1988, total assets of allfoundations increased 13 percent, from $114.3 billion to$128.9 billion, and investments in securities rose 14percent, from $87.4 billion to $99.6 billion. While invest-ments play an important role in the operations of mostfoundations, their importance is less for smaller-sizefoundations.

Investments in securities ranged from 56 percent oftotal assets for the smaller-size foundations (less than $1million in total assets) to 82 percent of total assets for thelarger-size foundations (total assets of $100 million ormore). Assets held in the form of non-interest-bearingcash and also savings and temporary cash investrn

.ents

(interest-bearing accounts) played a more prominent rolein the balance sheets of the smaller-size organizations.The larger-size organizations are more likely to maintainhigher-risk investment portfolios with a higher proportion


Figure E.-Percentage Distribution of Asset Components, by Size of Fair Market Value of Total Assets, 1988[Money amounts are in billions of dollars]

Item

Fair market value Of assets, total ...................................Cash. non-interest-bearing accounts.....................................

Receivables' .........................................................................

Investments, total...................................................................Securities ...........................................................................Savings and temporary cash investments..........................Land. buildings, and equipment (less accumulated

depreciation) ..............................................................Other investments..............................................................

Charitable-purpose land. buildings. and equipment(less accumulated depreciation).........................................

Other assets...........................................................................

All foundations

(9$128.9

0.9%1.3

93.477.38.6

2.45.1

2.02.3

Size of fair market value of total assetsUnder $1.000.000 $25.000.000

$1,000,000 under $25,000.000 1 under $100.000,000

(2) (3) (4)

$5.76.6%3.0

85.355.721.9

2.15.6

3.11.9

$100.000,000or rnore

(5)

$68.00.2%0.9

95.982.25.9

2.45.3

0.8

2.2

27

S32.11.4%1.5

90.970.712.4

2.15.7

3.6

2.6

$23.10.7%

1.691.277.28.0

2.63.4

3.13.3

Receivables include accounts receivable. pledges receivable, grants receivable, receivables due from disqualified persons, and other notes and loans receivable (excluding mortgages).Note: Percentages may not add to 100 percent because of rounding.

of long-term investments compared to the relative safetyand liquidity of non-interest-bearing cash, savings, ortemporary cash investments.

The $3.2 billion in securities owned by the smaller-sizefoundations and the $56.0 billion in securities owned bythe larger-size foundations represented respective in-creases of 5 percent and 15 percent between 1987 and1988. Savings and temporary cash investments of thesmaller-size foundations increased 2 percent from 1987,to $1.2 billion; for the larger-size foundations, savingsand temporary cash investments decreased 2 percent, to$4.0 billion. After total investments, non-interest-bearingcash was the second largest asset component in theportfolios of the smaller-size foundations, but a muchsmaller part of the assets of the larger-size foundations.As shown in Figure E, the ratio of non-interest-bearingcash to total assets decreases as each asset-size groupincreases, from 7 percent down to less than 1 percent.

Asset components other than investments and non-interest-bearing cash that were reported by foundationsincluded charitable-use land, buildings and equipment,various receivables, and "other assets" (which includeditems not reported elsewhere in the balance sheets, suchas deferred income, interest-free or low-interest loansmade for charitable purposes, and escrow deposits).These assets collectively accounted for 6 percent ofaggregate foundation assets, and comprised 8 percent orless of the total assets within each of the asset-sizegroups shown in Figure E.

CHARITABLE DISTRIBUTIONS

Components of Qualifying Distributions

In addition to the $7.4 billion in grants made for 1988,foundations disbursed or "set aside" (for future distribu-tion) $1.6 billion in support of charitable activities. All of

these disbursements and set-asides made up the total$9.0 billion that foundations reported as "qualifying distri-butions," $0.9 billion of which were reported by operatingfoundations and $8.1 billion of which were reported bynonoperating foundations. The qualifying distributions ofnonoperating foundations could be counted toward meet-ing the required annual payout for charitable purposes,called the "distributable amount" (see The DistributionRequirement and the Payout Rate, below) [1 4].

As illustrated in Figure F, qualifying distributions spe-cifically consisted of grants (82 percent); operating andadministrative expenses (which included amounts paidfor direct charitable activities, such as operating a mu-seum or nursing home, plus both charitable operations-related and allowable grantmaking-related administra-tive expenses) (12 percent); amounts paid to acquireassets used for charitable purposes (4 percent); amountsset aside to fund future charitable projects (2 percent);and amounts used for charitable program-related invest-ments (such as low-interest loans to tax-exempt commu-nity organizations) (1 percent).

The percentage distribution of these components ofqualifying distributions changes significantly when thetwo classifications of foundations, operating andnonoperating, are considered. As mentioned previously,and as would be expected by the nature of their classifi-cations, nonoperating foundations fulfill their exemptpurpose in an indirect manner, primarily by making grantsto other charitable organizations, while operating founda-tions generally expend their income for direct, activeinvolvement in charitable activities and operations.

As discussed in the Overview and Explanation of Pri-vate Foundations section, nonoperating foundations havea legal requirement to distribute a minimum amount forcharitable purposes each year. Operating foundationsare not subject to the same minimum payout require-


Figure F

Composition of Qualifying Distributions, 1988

Type of foundation

All ($9.0 billion)

Nonoperating ($8.1 billion)

Operating ($0.9 billion) M100/0E3

0 20

65%

40 60 80

Percentage of qualifying distributions

Grants paid I

Set-asides

4% 2%

2%

6%

I

Operating /administrativeexpenses

Program-relatedinvestments

Note: Component percentages may not add to 100 percent because of rounding.

ment, but they must still expend a minimum amount eachyear (under rules different from those governingnonoperating foundations) on direct support by activelyconducting charitable programs. Although the two typesof organizations usually operate according to their re-spective distribution requirements, some nonoperatingfoundations are actively involved in charitable programs,in addition to making grants, and some operating founda-tions make grants, in addition to operating charitableprograms.

It is notsurprising, then, that Figure F shows that grantsas a percentage of qualifying distributions were 90 per-centfor nonoperating foundations, but only 10 percent foroperating foundations. In contrast, operating expensesplus allowable administrative expenses were 65 percentof qualifying distributions for operating foundations, butonly 6 percent for nonoperating foundations. Becauseoperating foundations generally conduct their own chari-table programs (as opposed to making grants to otherorganizations), it is typical for them to include in theirqualifying distributions relatively large amounts forassets

Amounts paidto acquireassets

100

used in conducting their activities. Amounts paid to ac-quire charitable-use assets (such as equipment, suppliesor buildings, to the extent that they are used for thefoundation's tax-exempt purpose) were 24 percent ofoperating foundations' qualifying distributions; fornonoperating foundations, the corresponding proportionwas only 1 percent.

The Distribution Requirement and the Payout Rate

The following discussion of the distribution requirementand the payout rate excludes operating foundations be-cause they are not subject to the same distribution(payout) requirementas nonoperating foundations. There-fore, all references to foundations in this section, and infollowing sections, are to nonoperating foundations, un-less otherwise indicated.

Each tax year, nonoperating foundations must calcu-late a "distributable amount" which is the minimumamount that they must distribute for charitable purposesby the end of the next full tax year. The distributable

"24%

1%

1% 20/6L____

_1%_Z

1%

- 1%

9

Private Foundations, 1988 29

amount is 5 percent of the fair market value of netinvestment assets (called the "minimum investment re-turn"), plus or minus certain adjustments, either allowedor required [15]. (See "distributable amount," "net invest-ment assets," "minimum investment return," and "netadjustments to distributable amount" in the Explanationof Selected Terms section.)

undistributed income of the previous year (or previousyears), some of which was considered "excess distribu-tions" carried forward to use within the next 5 years (ifneeded), and some of which was considered pass-through redistributions (amounts received from, andclaimed as qualifying distributions by, another privatefoundation and therefore subtracted out of the recipientfoundation's current-year qualifying distributions).

To fulfill the payout requirement, foundations can applytheir current year's qualifying distributions and anycarryovers of qualifying distributions (amounts paid out inexcess of the minimum amount required) from the last 5previous years. Collectively, nonoperating foundationspaid out $8.1 billion in qualifying distributions and had anannual payout requirement (distributable amount) of $5.3billion for 1988. Of the 33,913 nonoperating foundations,95 percent were required to make a distribution for 1988.About four out of every five organizations required tomake a distribution met or exceeded the required amountfor 1988, while one out of every five did not, althoughthese latter organizations had until the end of their 1989reporting periods to satisfy the requirement. (Afterapplying current-year qualifying distributions and anycarryovers from previous years, the amount by whichfoundations fell short of meeting the annual payout re-quirement is called "undistributed income.")

Given that the annual required payout is not calculateduntil the end ofan organization's reporting period and thatit is based on the current period's monthly average ofinvestment assets, many foundations choose to takeadvantage of the 1-year tax- and penalty-free "graceperiod" for making required distributions. This lag timegives foundations an opportunity to consider the result ofthe current year's required payout calculation when pre-paring their grantmaking budgets for the following year.

Foundations that had no undistributed income (mean-ing that they met or exceeded the required amount) for1988 had a distributable amount of $3.0 billion and madequalifying distributions of $5.8 billion. In aggregate, thesefoundations applied $2.9 billion of the current year'squalifying distributions and $0.1 billion in carryovers fromprevious years to satisfy the payout requirement. (insome cases, carryovers were used in total; in othercases,they were used in combination with current-year qualify-ing distributions to meet the requirement.)

In addition to the $3.0 billion (i.e., the $2.9 billiondistributedfor 1988 plus the $0.9 billion carried over fromprevious years) that was applied toward the 1988 distrib-utable amount, foundations that had no undistributedincome reported another $2.9 billion ofcurrent-year (1988)qualifying distributions, some of which was applied to

The foundations that reported undistributed income for1988 applied, in aggregate, $865.2 million of qualifyingdistributions plus $32.8 million of carryovers againstdistributable amounts totaling $2.3 billion, resulting in$1.4 billion of undistributed income. These organizationshad an additional $1.3 billion of qualifying distributionsthat they were unable to apply toward meeting the currentyear's requirement because they either were applied tothe previous year's (or years') undistributed income orwere considered pass-throughs.

Five percent of all nonoperating foundations had nopayout requirement for 1988, primarily because they hadno investment assets on which the computation of thepayout requirement was based. Nonetheless, theseorganizations made qualifying distributions totaling al-most $1 billion.

Figure G shows foundation median payout rates for1986 to 1988 [16]. While the payout rates of the small-size foundations fluctuated during the 1986-88 period,rates for the medium- and large-size foundations re-mained the same or increased. Except for the group offoundations with assets of $100,000 under $1 million,median payout rates increased between 1987 and 1988.Partially responsible might be the incentive offered by the1 -percent reduction in the excise tax for those organiza-tions which had current-year qualifying distributions thatequaled or exceeded the sum of a 5-year average payoutamount plus the 1 -percent reduced tax amount (see theExcise Tax on Net Investment Income section, includingFigure D). The data shown in Figure D are consistent with

Figure G.--Nonoperating Foundation Median Payout Rates,by Size of Fair Market Value of Total Assets, 1986-1988

Size of fair market value

of total assets

All foundations ................................

Small foundat oneu$1 under $100,000 ...............................

$100,000 under $1.000.000..................

Medium foundations$1.000,000 under $10.000,000 .............$10,000,000 under $50.000,000 ...........

Large foundations$50,000.000 under $100,000,000$100.000.000 or more...........................

986

-0)6.".

10.26.5

5.65.4

5.15.0

0)7.2%

10.76.6

5.95.5

5.35.3

Median payout rates

IL2)

7.0%

9.66.7

5.75.4

5.25.0

1987 1 1988

30 Private Foundations,1988

this proposition; the number of foundations claiming the1 -percent excise tax reduction increased between 1987and 1988 by 26 percent.

of 5 percentor more, 7 percent realized payout rates of 10percent or more, and less than 1 percent realized payoutrates of 50 percent or more.

Payout rates for the largest foundations were very closeto the required rate, in contrast to those of the smallerfoundations, which were much higher than the requiredrate. This is not unexpected because of changes in thegrantmaking strategies that seem to occur as the assetsize ofa foundation grows. Small organizations generallymake qualifying distributions which are much larger thanthose required. They focus more on distributing chari-table dollars currently than on long-term endowmentgrowth. Many of these small foundations traditionallydistribute virtually all of the contributions they receive,which comprise the largest part of their income, and theypay out income from other sources as well.

Contributions received are a much less important rev-enue source for the large foundations. The principalsource of income for these foundations is the yield oninvestments. Since the required payout amount is 5percent of investment assets, it is not surprising thatlarger foundations make qualifying distributions that arerelatively close to the required 5-percent payout amountand, generally, reinvest any remaining portion of thereturn on their investments to ensure endowment growth.(A further discussion of the different investing goals anddistribution patterns of large and small foundations ap-pears in the se

'ctions, Investing Behavior and -Asset

Growth, Distribution Goals, and Decision-making.)

It may prove to be significant that the median payoutrate for the largest foundations shown in Figure Gincreased to5.3 percent, the highest level on record since1982, which was the first year of a legislated change in thepayout requirement [17]. An examination of data fromfuture years will be necessary to form any conclusionsregarding actual causes for the increase, or to see if, infact, a trend becomes apparent.

Seventy-seven percent of the 32,330 nonoperatingfoundations which reported a distributable amount for1988 had actual payout rates of 5 percent or more; 36percent had actual payout rates of 10 percent or more;and 14 percent had payout rates of 50 percent or more.As would be expected, small foundations more oftenexceeded the payout requirement than did larger founda-tions. For example, 77 percent of foundations with assetsof $1 under $1 million realized payout rates of 5 percentor more, 40 percent realized payout rates of 10 percentor more, and 17 percent realized payout rates of 50percent or more. In contrast, 68 percent of foundationswith assets of $50 million or more realized payout rates

INVESTING BEHAVIOR

Since many foundations rely extensively on the man-agement and growth of their investments as a means bywhich to fund long-run charitable giving, a discussion offoundation investing behavior follows naturally from thediscussion of the payout rate. Private foundations repre-sent a unique entity within the American market economy.Grantmaking, the primary function of (nonoperating)foundations, distinguishes this type of organization fromother nonprofit organizations and from profit-makingfirms. Foundations possess a great deal of latitude in themanner in which they distribute and manage their money.In order to fund charitable activity and to maximize thesize of their endowments, it is optimal for foundations torealize a rate of total return on assets that equals at least5 percent plus investment costs and the rate of inflation.This makes it possible for them to fulfill the charitablepayout requirement without eroding their endowments.

Different sizes of foundations seem to have differentcharitable distribution and investment objectives anddifferent methods by which to attain these objectives [18].For example, the larger foundations may tend to operatewith more of a long-term focus. They seem to invest andmanage their assets in order to maintain or increase thesize of their endowments. Many of these foundationsinvest in orderto earn income and a return (after account-ingfor inflation) that will allow them to meet the annual 5-percent payout requirement. The larger foundations holda greater proportion of assets as investments in securi-ties, aswell asa greater proportion of lower-income yield,.higher-risk, and higher growth common stock that hasgreater appreciation potential [191. They also may tendto possess the resources needed to utilize the expertiseof investment managers. For these reasons, the largerfoundations typically earn higher rates of total return(defined below) than do the smaller foundations. In fact,the rate of return tends to increase as the size of thefoundation increases.

Many of the smaller foundations, conversely, may tendto operate with more of a short-term focus and with theintention of distributing large contributions currently.Oftentimes many of the smaller foundations act as con-duit or "pass-th rough" organizations. In this role, theyoften receive contributions in 1 year and then distributethem as qualifying distributions in that same year or in thenext year. These smaller foundations, compared to thelarger ones, often do not possess the resources neces-


sary to devote to sophisticated investment and riskmanagement and may not have the same incentives toperpetuate the endowment of the foundation. Moreover,certain foundations, typically the smaller ones, operatewith the intention of existing for only a short-term periodand distributing all assets within a pre-determinedtimeframe. In terms of investment assets, the smallerfoundations tend to hold fewer assets as securities. Oftheir investment holdings, they tend to hold lower risk andhigher fixed-income yield assets that do not appreciate asrapidly, thereby resulting in lower returns compared tothe larger foundations [20].

Rate of Total Return

A comparison of the payout rate and the rate of totalreturn helps to explain differences in the behavior of thedifferent sizes of private foundations. The rate of totalreturn is a measurement of the total capital appreciationof the endowment of a foundation. The rate of returnformula used here measures the change in the value ofthe entire asset base with considerations for inflows andoutflows of money [21 ]. The formula adjusts for inflationand measures the realized income from assets, invest-ment and otherwise, as well as the unrealized apprecia-tion or depreciation in the fair market value of assets.

Foundations realized increases in the value of bothtotal assets and investments in securities from 1987 to1988, 13 percent and 14 percent, respectively. Alongwith these increases, rates of total return increasedacross size classes from the unusually low 1987 returns.For 1987, largelydue to the Octoberstock market declinethat lowered the end-of-year asset values, the medianfoundation realized a real rate of return that fell below thedesired 5 percent needed to fulfill the payout requirementwithout a decline in asset value. For instance, for 1987,the largest foundations -those holding $100 million ormore in total assets-realized only a 1.4 percent realreturn. For 1988, however, median returns ranged from7.4 percent for those foundations holding f rom $1 millionto under $10 million in total assets, to 9.6 percent for thelargest foundations. Median figures for real rates of totalreturn for nonoperating foundations during the years1986 to 1988 are shown in Figure H.

Foundations tend to realize higher total returns as theasset size of the foundation increases. Since the totalreturn figures account for inflation, it is apparent thatfoundations (at least those holding $1 million or more inassets) realized a degree of asset appreciation for 1988that enabled them to exceed the 5-percent charitablepayout requirement. The distribution of the rate of returndata is positively skewed since the mean returns are

Figure H.-Nonoperating Foundation Rates of TotalReturn on Assets, by Size of Fair Market Value of TotalAssets, 1986-1988


of total assets 1986

Median rates of retu

I 1988

3)n.s.All foundations....................................

Small foundations$1 under $1,000.000 .................................

Medium foundations$ 1.000.000 under $10.000,000 .................$

10.000.000 under $50,000,000...............

Large foundations$50.000,000 under $100,000.000.............$100.000.000 or more ...............................

(1)n.a.

n.a.

9.0%11.4

11.813.9

n.a.-not availableI The GNP implicit price deflator was used to adjust for inflation.

1987

(2)

n.s.

n.a.

M,

n.a.

7.4%

8.5

8.99.6

31

higher than the medians for all of the foundation sizegroups for each of the years studied. The considerableincrease in total returns from 1987 to 1988 helps toexplain the increase in the value of foundation assets for1988.

Income Yield

Whilethe rateof total return measures the change inthevalue of the entire endowment of a foundation, theincome yield measures only realized investment incomeearned by a foundation each year. Due to the nature ofthe data that are collected, the most appropriate way inwhich to calculate the net investment income yield, or theNII yield, is by dividing net investment income by the end-of-year fair market value of investment assets. Invest-ment assets include savings and temporary cash invest-ments; securities (such as corporate stock, corporatebonds, Government bonds, and Treasury bills); land,buildings and equipment; mortgage loans; and "otherinvestments". Net investment income is comprised ofincome not considered to be related to a foundation'scharitable purpose, such as interest, dividends, and capi-tal gain net income. Figure I displays the median NIIyields for nonoperating foundations for the years 1986 to1988.

Figure I.-Nonoperating Foundation Net Investment IncomeYields, by Size of Fair Market Value of Total Assets,1986-1988


of total assets

Median net investment income yields

____T1986 1987

All foundations..............................

Small foundations$1 under $100.000 ............................$100.0130 under $1,000.000 ..............

Medium foundations$1.000,000 under $10,000.ODO$10,

010.. under $50.000,000.......

Large foundations$50.000.000 under $100.000,000$100,000.000 or more.......................

-0)7.5%

6.37.8

L2)

7.2%

6.47.4

8.19.4

9.08.9

1988

L3)

7.2%

6.67.3

7.67.6

7.47.3


As in the case of the rate of total return, the largefoundations typically tend to earn higher Nil yields thanthe smaller foundations. For the small foundations, Nilyields remained relatively constantover the entire 1986to1988 period. However, for both the large and mediumfoundations, all those holding $1 million or more in totalassets, Nil yields declined in both years following 1986.For instance, the median Nil yields for the largest foun-dations fell from 9.9 percent for 1986 to 7.3 percent for1988. The distribution of the Nil yield data is positivelyskewed since the mean yields are higher than themedians for all of the foundation size groups for each ofthe years studied. The smaller the size of the foundationthe greater the difference tends to be between the meanyield and the median yield.

The declining NI I yields for the large- and medium-sizegroups most likely resulted, in part, from declining foun-dation revenue and increasing investment assets. Real-ized nonoperating foundation income, in the form of netinvestment income, declined by 7 percent from 1987 to1988. The significant decrease in net gain (less loss)from sales of assets helps to explain much of the declinein net investment income. The large and medium-sizefoundations, as a combined group, realized a somewhatgreater decline in net investment income for 1988 com-pared to the small foundations, 8 percent compared to 7percent. More importantly, investment assets for thelarge- and medium-size foundations, as a combinedgroup, increased significantly faster than for the smallfoundations, 14 percent compared to 3 percent. Thesefactors both help to explain the difference in yields for thedifferent sizes of foundations from 1987 to 1988. Theconsiderable growth in the rates of total return for 1988compared to the declines in the Nil yields (for manyfoundations), shows that foundations attained greatergrowth from unrealized appreciation of assets than fromrealized income.

ASSET GROWTH, DISTRIBUTION GOALS, ANDDECISION-MAKING

During the early-to-mid 1980's, foundations benefitedfrom favorable stock market conditions that, coupled withlow inflation and interest rates, allowed many of them torealize rates of return and income yields high enough toeasily meet the 5-percent charitable payout requirement.This favorable environment, for instance, during the 1982to 1986 period, enabled many foundations to increasetheir charitable grants and distributions and at the sametime expand the size of their endowments. As the valueof foundation assets increased, so did the requireddistributable amounts, thereby leading to increased grantspaid out by foundations. In the case of the smaller

foundations, growth in the amount of contributions thatthey received was steady and significant. This factorhelped contribute largely to the increases in the charitabledistributions made by this group.

Foundations realized growth in asset value and distrib-uted charitable dollars during the years 1986 to 1988 inpatterns that differed from those evident during the 1982to 1986 period. From 1982 to 1986 the large- andmedium-size foundations realized asset growth that ex-ceeded the increases in their qualifying (charitable)distributions. The smallest foundations, on the otherhand, paid out more charitable distributions during theseyears than the amount of growth in their total assets.

During the years 1986 to 1988, however, the large- andmedium-size foundations paid out charitable dollars at arate that exceeded their increase in assets. Largely dueto the October 1987 stock market decline, the largest(nonoperating) foundations, for instance, realized unusu-ally low total returns for 1987 and a relatively slow rate ofasset growth during the entire 1986 to 1988 period, 18percent. Despite this slower rate of asset growth and a 20percent decline in revenue, charitable distributions madeby the largest foundations increased by 30 percent from1986 to 1988. Conversely, the smallest foundations,which had slower rates of growth for both assets anddistributions, realized a higher rate of asset growth from1986 to 1988 than the rate at which they distributedcharitable dollars, 11 percent compared to only 6 per-cent. At the same time, however, they realized decliningrevenue of over 25 percent. It seems that the decreasesin revenue may have influenced the grantmaking behav-ior of the small foundations much more than the largefoundations.

Larger foundations historically have realized greaterreturns on total assets than smaller foundations. Thelarger foundations typically rely heavily on the apprecia-tion of theirendowments to fund charitable programs and,therefore, have distributed dollars in such a way as topromote long-run asset growth. For instance, the signifi-cant asset growth of the largest foundations during the1980s allowed them to increase distributions through1988 at a rate faster than any of the other size groups [22].These foundations typically pay out qualifying distribu-tions at a rate very near the 5-percent requirement.During the entire 1982 to 1988 period, foundation endow-ments, especially those of the largest foundations, in-creased significantly in value, thereby leading to higherrequired payout amounts, and then, increased distribu-tions. A growing endowment will fund charitable grantsat the same or at an increased value in the future.


Smaller foundations, on the other hand, typically realizelower income yields and lower returns and tend to payouta greater percentage of their assets than the largerfoundations. From 1986 to 1988 the smaller foundationsdistributed charitable dollars at slower rates of increasethan in prior years. In planning charitable distributions,the smaller foundations tend to depend largely on theamount of contributions that they receive. It seems thatthe large drop in the amount of contributions received bythese foundations during the 1986 to 1988 period helpedto reduce the growth of their grantmaking during thisperiod.

The differences in foundation total returns, incomeyields, contributions received, and charitable payoutpractices raise questions regarding the investment anddistribution behavior of the different sizes of foundations.For instance: how does the rate of total return (andpossibly the N I I yield) in one year affect the grantmakingbudgets and the payout rates of the following year oryears? In otherwords, do certain foundations respond torelatively low returns with low payout rates or to highreturns with high payout rates? And, do these patternsdiffer with the size of the foundation? Data from 1989, arelatively strong year in terms of growth of the stockmarket and the economy, may provide fu rther insight intothe interplay of all of these factors.

SUMMARY

Total private foundation revenue continued to declinefrom 1987 to 1988, by 5 percent, or $837 million. Duringthe entire 1986 to 1988 period, total foundation revenuefell by 19 percent, to $16.3 billion. The two largestcomponents of revenue, contributions received and netgain (less loss) from sales of assets, declined from 1987to 1988 by 0.3 percent and 34 percent, respectively, to$5.3 billion and $3.7 billion. Likewise, net investmentincome fell by 8 percent, to $10.4 billion, from 1987 to1988.

Despite decreases in total revenue, foundation end-of-year fair market value of total assets increased by 13percent from 1987 to 1988, to $128.9 billion. The largestfoundations realized the greatest gains in assets. Byyear's end, foundations seemed to have recovered frommuch of the effect of the October 1987 stock marketdecline. As an indication of recovery, foundation rates oftotal return increased markedly from the unusually low1987returns. Rates of total return ranged from 7.4to 9.6percent. Forinstance,the largest foundations-thoseholding assets with fair market value of $100 million ormore-realized a real rate of total return of 9.6 percent for1988, compared to only 1.4 percent for 1987.

Despite the decline in total revenue and the unusuallylow rates of total return for 1987, foundation grantpayments increased by 9 percent from 1987 to 1988, to$7.4 billion. Similarly, qualifying distributions for all foun-dations increased by 10 percent, to $9.0 billion, andcharitable payout rates tended to increase slightly aswell. While the largest nonoperating foundations-thoseholding $100 million or more in assets-increased distri-butions by 13 percent from 1987 to 1988, the smallestfoundations-those holding less than $1 million in as-sets-increased their distributions by only 1 percent.Approximately one-third of all foundations were able totake advantage of the 1 -percent excise tax reduction for1988 since they distributed charitable dollars forthatyearat a rate that exceeded their most recent 5-year averagecharitable payout amount plus 1 percent of their current-year net investment income.

These changes in revenues, assets, and charitablegiving for 1988 help to further depict variations in theinvestment and distribution behavior of the various sizesof foundations. The largest foundations, which typicallyrely more heavily on the appreciation of their endow-ments in order to fund charitable programs, increasedboth assets and charitable distributions at the greatestrate from 1982 to 1988. In order to fund charitable givingat an increased rate in both the present and the future,many foundations rely heavily on the growth of theirendowments, while others rely largely on the amount ofcontributions that they receive currently.

DATA SOURCES AND LIMITATIONS

The statistics in this article are based on a sample ofTax Year 1988 private foundation returns, Forms 990-PF, filed with the IRS. IRS required organizations havingaccounting periods beginning in that year (and thereforeending, in general, in December 1988 through November1989) tofile a 1988 Form 990-PF. Some part-year returnswere included in the sample for organizations thatchanged their accounting periods, or filed initial or finalreturns. Approximately 60 percent of the foundations'accounting periods cover CalendarYear 1988 or, in somecases, part-year periods that ended December 1988.The remaining 11 noncalendar-year accounting periods,when grouped together, include a period of time thatranges from February of 1988 to November of 1989 (andmay also include some part-year periods). While themajority of the 1988 data are for Calendar Year 1988,approximately 40 percent of the data were reported fornoncalendar-year periods that go beyond the end ofCalendar Year 1988. In total, however, most of thefinancial activity is associated with Calendar Year 1988.

34 Private Foundations. 1988

The 1988 sample was stratified based on size of bookvalue of total assets and was selected at rates that rangedfrom 7.1 percent (for the more numerous but very smallasset-size returns) to 100 percent (for the relatively fewreturns with large amounts of assets) [23]. The 5,111returns in the 1988 sample were drawn from an estimatedpopulation of 37,141. Returns filed by nonexemptcharitable trusts and certain taxable foundations wereexcludedfrom the statistics for 1988. Beginning with TaxYear 1989, however, SOI will provide data on Codesection 4947(a)(1) charitable trusts that filed Form 990-PF.

The 1988 study was designed to provide reliable esti-mates of total assets and total revenues based on asample of returns. To accomplish this, 100 percent ofreturns with assets (book value) of $10 million or morewere included in the sample, since these were the returnsthat, dollar-wise, accounted for the majority of foundationactivity. For example, the 1,262 returns in this samplewith $10 million or more in assets accounted for approxi7mately 25 percent of all sample returns and 77 percent ofthe estimated (book value of) total assets of all founda-tions. The remaining 3,849 returns in the 1988 samplewere randomly selected at various rates depending onthe asset size, 7.1 percent for those returns with assetsunder $100,000; 9.1 percent for those returns with assetsof $100,000 under $1,000,000; and 23.8 percent forthose returns with assets of $1,000,000 under$10,000,000.

dress: I'nternal Revenue Service, Statistics of Income

Division (R:S:F), P.O. Box2608, Washington, DC 20013-2608.

EXPLANATION OF SELECTED TERMS

The following explanations describe terms as theyapplied to private foundations for 1988.

Adjusted NetIncome.-In general, this wasthe amountby which a private foundation's gross income exceededthe expenses associated with earning the income. In-cluded were all amounts derived from, or connected with,property held by the foundation, such as net short-termcapital gain, ordinary investment income (dividends andinterest, rents and royalties), and income from amountsset aside for future charitable use, from all charitablefunctions, or from unrelated trade or business activities.Excluded were contributions received and long-termcapital gains. Long-term capital losses could be reportedas "other expenses." This item was reported on Form990-PF, Part 1, line 27c, column (c).

AssetsZeroorUnreported.-Included in this asset sizecategory were: (1) final returns of liquidating ordissolvingfoundations which had disposed of all assets; and (2)returns of foundations not reporting end-wof-year assetsthat had apparently distributed (or disposed of) all assetsand income received during the year.

The population from which the 1988 sample was drawnconsisted of private foundation records posted to the I RSBusiness Master File during 1988 and 1989. Some of therecords designated were for organizations that weredeemed inactive or terminated. Inactive and terminatedprivate foundations are not reflected in the estimates. Forthe small number of large private foundations for whichthe return for the 1988 Tax Year had not yet been f iled orwas otherwise unavailable for inclusion in the study, datawere estimated using other returns having similar char-acteristics.

The data presented were obtained from returns asoriginally filed. In most cases, changes made to theoriginal return as a result of eitheradministrative process-ing or a taxpayer amendment were not incorporated intothe data base. A discussion of the reliability of estimatesbased on samples and methods for evaluating both themagnitude of sampling and non-sampling error and theprecision of sample estimates can be found in the generalAppendix to this report. Estimates of the coefficients ofvariation (CV's) or other sampling information can beobtained by writing to the authors at the following ad-

Capital Gain Net Income.-This was the amount of netgain from the sale or disposition of property used forinvestment purposes (property used for exempt pur-poses was excluded). Capital losses from the sale orother disposition of property could be subtracted fromcapital gains only to the extent of such gains. Capital gainnet income was used to compute "net investment income"(on which an excise tax generally must be paid). This itemwas reported on Form 990-PF, Part 1, line 7, column (b).

Disbursements for Charitable Purposes.-These de-ductions comprised the largest component of qualifyingdistributions and were represented by grants paid, oper-ating expenses, and necessary and reasonable adminis-trative expenditures for activities that were directly re-lated to the tax-exempt purposes of the foundation.These amounts were determined solely on the cashreceipts and disbursements method of accounting, asrequired by law and regulations. This item was reportedon Form 990-PF, Part 1, line 26, column (d).

Disqualified Persons.-With respect to engaging inprohibited transactions with a private foundation, such as


"self-dealing," the following were considered disqualifiedpersons: (1) all substantial contributors to the foundation(generally, those who contributed an amount over $5,000which was more than 2 percent of total contributionsreceived by the foundation); (2) foundation officers,directors, trustees, or managers; (3) an owner of morethan a 20 percent interest (voting power, profits interest,or beneficial interest) in an organization which was asubstantial contributor to the foundation; (4) a member ofthe family of any individual described above (includingspouse, ancestors, children, grandchildren, great-grand-children, and spouses of children, grandchildren andgreat-grandchildren, but not brothers or sisters); (5)organizations in which persons described above heldmore than a 35-percent interest; (6) another privatefoundation, for purposes of the tax on excess businessholdings, which was effectively controlled by a person orpersons in control of the foundation in question; and (7) agovernment official, for purposes of the tax on "self-dealing."

Distributable (Payout) Amount.-This was the mini-mum payout amount which was required to be distributedby the end of the year following the year for which thereturn was filed in order to avoid an excise tax for failureto distribute income currently. The distributable amountwas computed as 5 percent of net investment assets,called the "minimum investment return," minus taxes onboth net investment income and unrelated businessincome, plus or minus other adjustments, either allowedor required (see "Net Adjustments to DistributableAmount"). This item was reported on Form 990-PF, PartX, line 7.

distributions. Any grant administrative expenses inexcess of the 0.65 percent calculation could not betreated as qualifying distributions. This temporary limita-tion on grantmaking expenses expired on December 31,1990. Beginning with the 1991 taxyear, foundations wereno longer subject to this requirement. This item wasreported on Form 990-PF, Part XIII, line 5.

Inventories.-The value of materials, goods, and sup-plies purchased or manufactured by the organization andheld for sale or use in some future period. This item wasreported on Form 990-PF, Part 11, line 8, columns (a)(beginning-of-year book value), (b) (end-of-year bookvalue), and (c) (end-of-year fair market value).

Land, Buildings, and Equipment, Charitable-use.-Thebook value or fair market value (less accumulateddepreciation) of all land, buildings and equipment notheld for investment purposes. Included was any property,plant or equipment owned and used by the organizationin conducting its charitable activities. This item wasreported on Form 990-PF, Part 11, line 14, columns (a)(beginning-of-year book value), (b) (end-of-year bookvalue), and (c) (end-of-year fair market value).

Land, Buildings, and Equipment, Investment-use.-The book value or fair market value (less accumulateddepreciation) of all land, buildings and equipment held forinvestment purposes, such as rental properties. This itemwas reported on Form 990-PF, Part 11, line 11, columns (a)(beginning-of-year book value), (b) (end-of-year bookvalue), and (c) (end-of-year fair market value).

Excess Distributions Carryover.-This was the amountdistributed, after fulfilling the charitable payout require-ment, that equaled the excess of qualifying distributionsover the distributable amount. Amountsfromthe currentyear and the 4 prior years could be carried forward inorder to be applied to the distributable amount forfollowing years. This item was reported on Form 990-PF,Part XIV, line 9.

Excess GrantAdministrative Expenses.-This was theamount of grantmaking administrative expenses, in-curred by a foundation in the charitable grantmakingprocess, that exceeded the amount which could be ap-plied to either the charitable payout requirement (im-posed on nonoperating foundations) or the income test(imposed on operating foundations, defined below). The1984 Deficit Reduction Act required that only the portionof grant a~ministrative expenses incurred by a founda-tion that did not exceed 0.65 percent of a 3-year averageof net investment assets could be treated as qualifying

Minimum Investment Retum.-This was the aggregatefair market value of assets not used for charitablepurposes, less both the indebtedness incurred to acquirethem and cash held for charitable activities, multiplied by5 percent. The minimum investment return was used asthe base for calculating the "distributable amount." Thisitem was reported on Form 990-PF, Part IX, line 6.

NetAdjustments to Distributable Amount-Adjustmentsthat increased the "distributable amount" consisted ofincreases attributable to the income portion (as distinctfrom the principal portion) of distributions from split-interest trusts on amounts placed in trust after May 26,1969. (A split-interest trust is a trust which is not exemptfrom tax; not all of whose interests are devoted to chari-table, religious, educational, and like purposes; but whichhas amounts in trust for which a charitable contributiondeduction is allowed.) Recoveries of amounts previouslytreated as qualifying distributions also had to be addedback to the distributable amount.

36 Private Foundations, 1988:

Adjustments that decreased the distributable amountwere the result of income required to be accumulated aspart of an organization's governing instrument. Theseadjustments were allowed only for foundations organizedbefore May 27, 1969, whose governing instrument con-tinued to require the accumulation, since State Courtswould not allow the organization to change its governinginstrument. These items were reported on Form 990-PF,Part X, lines 4a, 4b, and 6.

Net Gain (drLoss) from Sale ofAssets.-Included wasprofit or loss from sales of items such as securities, land,buildings, or equipment. Gain or loss reflected theamount shown on the books of the foundation and in-cluded any amountfrom the sale of property used forbothinvestment and tax-exempt purposes. Most of the gainor loss was f rom sales of stocks and bonds. Profit or lossfrom the sale of inventory items was included in grossprofit (loss) from business activities. This item wasreported on Form 990-PF, Part 1, line 6, column (a).

Net Investment Assets (Noncharitable-use Assets).-For purposes of calculating "minimum investment re-turn," only the average, rather than end-of-year, fairmarket value of assets that were not used or held for usefor tax-exempt purposes entered into the computation.An asset was not used directly in carrying out thefoundation's exempt purpose if it was not used in carryingout a charitable, educational, or other similar functionwhich gave rise to the exempt status of the foundation.Examples include the fair market value of securities andrental property owned by the foundation for investmentpurposes. This item was reported on Form 990-PF, PartIX, line 5.

Net Investment Income.-This was the amount bywhich gross investment income, including capital gain netincome, exceeded allowable deductions. Included ininvestment income were interest, dividends, rents, pay-ments with respect to securities loans, and royalties.Excluded were tax-exempt interest on governmentalobligations and any investment income derived fromunrelated trade or business activities that were subject tothe unrelated business income tax reported on Form 990-T. This item was reported on Form 990-PF, Part 1, line27b, column (b).

Net Short-term Capital Gain.-This was the amount ofnet gain from the sale or disposition of property (used forboth investment and charitable purposes) that was heldnot more than 12 months. Short-term capital losses fromthe sale or disposition of property could be subtractedfrom short-term capital gains only to the extent of suchgains. Net short-term capital gain was used to compute

.adjusted net income". This item was reported on Form990-PF, Part 1, line 8, column (c).

Nonoperating Foundations.-Thesewere organizationsthat generally carried on their charitable activities in anindirect manner by making grants to other organizationsthat were directly engaged in charitable activities, incontrast to those (operating foundations) engaged incharitable activities themselves. However, somenonoperating foundations were actively involved in chari-table programs, in additionto making grants. Nonoperatingfoundations were subject to an excise tax (and possibleadditional penalties) for failure to distribute an annualminimum amount for charitable purposes within a re-quired time period.

Operating Foundations.-These foundations generallyexpended their income for direct, active involvement in atax-exempt activity, such as operating a library or mu-seum, or conducting scientific research. To qualify as anoperating foundation for a particular taxable year, aprivate foundation had to spend at least 85 percent of thelesser of its adjusted net income or minimum investmentreturn on the direct, active conduct of exempt-purposeactivities (the "income test") and.satisfy one of three othertests termed the "assets test," the "endowment test," andthe "support test." Operating foundations were exceptedfrom the income distribution requirement and relatedexcise taxes that were applicable to nonoperating foun-dations.

Distributions made by a private nonoperating founda-tion to an operating foundation qualified toward meetingthe nonoperating foundation's distribution requirement.(Distributions made by one nonoperating foundation toanother were subject to a number of conditions andrestrictions requiring a "pass-through" of the distribution,whereby the donor foundation received credit for aqualifying distribution but the donee foundation did not.)Additionally, contributions to operating foundations weredeductible on individuals' income tax returns, up to 50percent of their adjusted gross income (as opposed to 30percent for contributions to nonoperating foundations).

OtherAssets.-Assets reported as "Other"included (1)those assets not allocable to a specific asset item on theForm 990-PF balance sheetornot included elsewhere onthe return; and (2) certain amounts given special treat-ment in the course of statistical processing. The firstcategory included such items as construction reserveland, deferred income, dividends receivable, escrowdeposits, income tax refunds, interest discounts, interest-free loans, overdraft protection, and program-relatedinvestments. The second category included amounts


reported by the return filer as negative liabilities. Thisitem was reported on Form 990-PF, Part 11, line 15,columns (a) (beginning-of-year book value), (b) (end-of-year book value), and (c) (end-of-year fair market value).

Other Investments.-Investments reported as "Other'included such items as advances, bank certificates, cashvalues of life insurance, certificates of investment, invest-ments in art, coins, gold, gems, and paintings, miscella-neous loan income, and patronage dividends. This itemwas reported on Form 990-PF, Part 11, line 13, columns(a) (beginning-of-year book value), (b) (end-of-year bookvalue), and (c) (end-of-year fair market value).

Private Foundation.-This type of organization wasdefined under the Internal Revenue Code as a nonprofitcorporation, association, or trust with a narrow source offunds which operated or supported social, educational,scientific, charitable, religious, and other programs dedi-cated to improving the general welfare of society. Aprivate foundation was an organization which qualifiedfor tax-exempt status under Code section 501 (c)(3) andwas not a church, school, hospital, medical researcorganization, an organization with broad public supportin the form of contributions or income from tax-exemptactivities, an organization which was operated by, or inconnection with, any of the above described organiza-tions, or an organization which conducted tests for publicsafety. The primary difference between a private founda-tion and a public charity lay in the sources of each typeof organization's funding. A foundation usually receivedits funds from an individual, a family, or a corporation,while, as the name implies, a public charity received itsfunds mainly from a large number of sources within thegeneral public.

QualifyingDistributions.-Included were disbursementsfor charitable purposes (grants, direct expenditures toaccomplish charitable purposes, and charitable-purposeoperating and administrative expenses); amounts paid toacquire assets used directly to accomplish tax-exemptfunctions; charitable program-related investments; andamounts set aside for future charitable projects. Qualify-ing distributions could becredited againstthe foundation'sobligation to pay out its "distributable amount." This itemwas reported on Form 990-PF, Part XIII, line 6.

TotalAssets.-This was the sum of all assets reportedin the foundation's end-of-year balance sheet, shown atboth book value and fair market value. This item wasreported on Form 990-PF, Part 11, line 16, columns (a)(beginning-of-year book value), (b) (end-of-year bookvalue), and (c) (end-of-year fair market value).

Total Expenses.-This was the sum of contributions,gifts, and grants paid plus various operating and admin-istrative expenses related to both investment and chari-table-purpose activities. Total expense items were re-ported as shown on the books and records of thefoundation and were based on either the cash receipts orthe accrual method of accounting. This item was reportedon Form 990-PF, Part 1, line 26, column (a).

Total Revenue.-This was the sum of gross contribu-tions, gifts and grants received; interest and dividendsfrom securities, savings, and temporary cash invest-ments; net gain (less loss) from sales of assets (mostlyinvestment assets, but also charitable-use assets); grossrents and royalties; gross profit (or loss) from businessactivities; and other miscellaneous income. Total rev-enue items were reported as shown on the books andrecords of the foundation and were based on either thecash receipts or the accrual method of accounting. Thisitem was reported on Form 990-PF, Part 1, line 12, column(a)-

Undistributed Income.-The portion of the required"distributable amount" still undistributed after applyingagainst it the sum of current-year qualifying distributionsand any excess distributions carryover from prior years.Sanctions were imposed in the form of penalty taxes onprivate foundations that did not pay out an amount equalto the "distributable amount" by the end of the followingtax year. This item was reported on Form 990-PF, PartXIV, line 6f, column (d).

NOTES AND REFERENCES

[1 ] The Explanation of Selected Terms section at theend of this article defines total assets, total revenueand other selected items reported on the IRS Form990-PF, Return of Private Foundation.

[2] Unless otherwise indicated, dollar amounts andpercentages are not adjusted for inflation. Inflation-adjusted real values were calculated using theimplicit price deflators for the Gross National Prod-uct contained in the Council of Economic Advisors,Economic Report of the President, February 1990,Table C-3. Also, all references to assets are statedat fair market values unless book value is specifi-cally noted.

[31 Dividend and interest income is reported on theForm 990-PF as two items: "interest on savingsand temporary cash investments," and "dividendsand interest from securities."

38 Private Foundationsi 1988

[4] Source Book Statistics of Income-1988, Corpo-ration Income Tax Returns, U.S. Department of theTreasury,, Internal Revenue Service, Pub. 1053,1991.

[51 The data presented in this article are from the taxyear 1988 Form 990-PF, required to be filed byorganizations which had accounting periods begin-ning in 1988. Therefore, the statistics foe tax year1988 generally include organizations with account-ing periods that ended within the period December1988 to November 1989.

[6] A nonexempt charitable trust, described in InternalRevenue Code section 4947(a)(1,), is a trust (1) thatis not considered tax-exempt under Internal Rev-enue Code section 501 (a); (2) which has exclu-sively charitable interests; and (3) for which acharitable tax deduction is allowed for contributionsreceived. Nonexempt charitable trusts that are notpublicly supported are subject to the excise taxprovisions for private foundations and are requiredto file a Form 990-PF, Returnof Private Foundation.(Publicly supported nonexempt charitable. trustsare required to file Form 990, Return of Organiza-tion Exempt From Income Tax.) Nonexempt chari-table trusts must pay an annual tax on income(usually from investments) that is not distributed orset aside for charitable purposes, and they mustreport such income and tax on Form 1041, U.S.Fiduciaty Income Tax Return.

[7] Internal Revenue Service, Statistics of Income-Compendium of Studies of Tax-Exempt Organiza-tions, 1974-1987, U.S. Department of the Trea-sury, Internal Revenue Service, Pub. 1416, 1991.(Available from the Statistics of Income Division,Internal Revenue Service, Washington, DC.)

[8] Resultsof private foundation studies for 1982,1983,1985 and 1986-87 have been published in variousissues of the Statistics of Income Bulletin: Fall1985, Volume 5, Number 2 (1982 data); Winter1986-1987, Volume 6, Number 3 (1983 data);Summer 1989, Volume 9, Number 1 (1985 data);and Spring 1991, Volume 10, Number 4 (19816-87data).

191 For an in-depth discussion of organizations otherthan private foundations, which are tax-exemptunder Internal Revenue Code section 5011(c)(3),see Hilgert, Cecelia, and Mahler, Susan J., "Non-

profit Charitable Organizations, 1986 and 1987,"Statistics ofIncome Bulletin, Fall 1991, Volume 11,Number 2.

[10] Programs termed "charitable" refer to tax-exemptactivities which are charitable, educational, scien-tific, social, literary, or religious in nature.

[11) Generally, the assets test was met if 65 percent ormore of the foundation's assets were used directlyfor the active conduct of charitable activities. Theendowment test was met if the foundation normallymade distributions for the active conduct of chari-table activities in an amount not less than two-thirdsof its "minimum investment return." The supporttest was met if substantially all of its support (otherthan from gross investment income) was normallyreceived from the public or from five or morequalifying exempt organizations, and (a) no morethan 25percentof its support (other than from grossinvestment income) was normally received fromany one such qualifying exempt organization; and(b) no more than half of its support was normallyreceived from gross investment income.

[12] Someofthefoundations classified as "nonoperating"for 1988 were "failed public charities," organiza-tions that were originally classified as public chari-ties but could no longer qualify for that favoredstatus because they failed to maintain the requiredminimum of support from public sources. Mostoften, the reclassified nonoperating foundationscontinued to operate like public charities, conduct-ing programs or providing direct services, as op-posed to making grants to accomplish a charitablepurpose. Many of these organizations may havequalified as operating foundations, but did notrequest such status from the Internal RevenueService.

[13] Since only those foundations holding $10 million ormore in book value of total assets were sampled ata rate of 100 percent, only those foundations wereincluded in Table 4. Those foundations sampled atrates of less than 100 percent were not sampled tomatch the distribution of foundations by geographicregion. Therefore, State data for foundations hold-ing under $10 million in book value of assets werenot necessarily representative of State populationsand were not included in the table. However, inorder to remain consistent with Tables 1 and 3,assets in the table were presented in fair marketvalue.


[14] The item, "qualifying distributions," as defined in theInternal Revenue Code and as used on the Form990-PF, may be slightly misleading because itincludes not only amounts that were actuallydistrib-uted, but other amounts spent or set aside forcharitable purposes as well.

[15] In addition to reductions in the fair market value ofnet investment assets allowed for the excise tax onnet investment income and the unrelated businessincome tax imposed under Internal Revenue Codesection 511, reductions for "blockage" or othermarketability discounts are permitted. These dis-counts (limited to 10 percent in the case of securi-ties, but statutorily unlimited in other cases, such asland holdings) can effectively reduce the net invest-ment asset base and, thus, result in a minimumpayout level of less than 5 percent of full fair marketvalue in many cases. An example of this type ofdiscounting would be a foundation that owns 15percent of the stock of a publicly held corporation.This percentage represents a block of securities solarge in relation to the volume of actual sales on theexisting market that it could not be liquidated in areasonable time without depressing the market.Because of this situation, the foundation is allowedto discount the fair market value of the stock for thepurposes of reporting it on the Form 990-PF.

on both net investment income and unrelatedbusiness income, plus other relatively small netadjustments. Because of high inflation rates in theearly 1980's, it was thought that the requirement topay out all of a foundation's current income if it washigher than the minimum investment return wouldhave a gradual eroding effect on the real value ofinvestment assets. The change under ERTA wasintended to provide relief to foundations from sucha payout requirement. Beginning with 1982, thepayout requirement was limited to the minimuminvestment return without regard to adjusted netincome.

The payout rates of foundations remained relativelyhigh (well above the 5-percent level) for 1982 eitherbecause of previous grantmaking commitments orbecause it was a period of transition whereby foun-dations started to adjust to the new rule. For 1983,the median payout rates shown in the statistics forall foundation size classes dropped significantly,moving closerto the 5-percent required payout rate.An in-depth explanation of the effects of ERTA onthe payout rates of private foundations is containedin Meckstroth, Alicia and Riley, Margaret, "PrivateFoundation Returns, 1 986-87," Statistics of IncomeBulletin, Spring 1991, Volume 10, Number 4, pp.23-50.

[16] To calculate the payout rate, the amount of (ad-justed) qualifying distributions was divided by theamount of the monthly average of net investment(or noncharitable-use) assets. This payout formulaadjusts qualifying distributions with additions andsubtractions that are made to the required "distrib-utable amount" on the Form 990-PF, Return ofPrivate Foundation. The numerator of the formulaalso includes excess distributions made in the pastand applied to the requirement of the current filingyear.

[17] The median payout rate for these foundations was6.5 percent for 1982. It then dropped to 5.0 percentfor 1983, and ranged between 5.0 to 5.1 for theperiod 1983 to 1987 (except for 1984, for whichstatistics are unavailable). The Economic Recov-eryTax Act of 1981 (ERTA) changed the method ofcomputing the payout requirement, effective with1982 reporting periods. Prior to 1982, foundationshad to pay out the higher of "adjusted net income"(defined in the Explanation of Selected Terms) orthe minimum investment return (5 percent of the fairmarketvalue of net investment assets) minus taxes

[18] For more detailed information on the investing anddistributing behavior of foundations referto Salamon,Lester M. and Voytek, Kenneth P., ManagingFoundation Assets: An Analysis of Foundation In-vestmentand Payout ProceduresandPerformance,The Council on Foundations, 1989.

[19] Salamon and Voytek, ibid.

[20] Salamon and Voytek, ibid.

[21] The rate of total return formula is the same as thatdeveloped and used by Salamon and Voytek intheir studies on foundation assets. See: Salamonand Voytek, ibid., p.32. The formula is as follows:RATE OF TOTAL RETURN =

[(Ending Fair Market Value of AssetsBeginning Fair Market Value of Assets*)(Contributions Received by the Foundation)

+ (Grants Paid by the Foundation• Operating and Administrative Expenses• Excise Tax Paid on Net Investment Income)]

DIVIDED BY:

[Beginning Fair Market Value of Assets+ (Contributions Received / 2)]


*The beginning fair market value of assets for any givenyear equals the ending fair market value reported on theprior year's return. Thus, in order to provide a consistentform of measurement by which to compare rates of returnamong different years, the ending fair market value ofasset amounts (reported for both the year subject to thecomputation and the prioryear) were used to compute therate of total return. In order to obtain an inflation-adjusted,real rate of return, the figure equaling the beginning ofyearfair market value of assets was adjusted using the GNP

implicit price deflator.

To calcu late the rate of total retu rn shown i n FigureH, private foundation information returns f rom datasamples for consecutive years were matched inorder to analyze both the beginning- and end-of-year fair market value data. The returns in thesamples were matched by the employer identifica-tion number (EIN).

Due to the lower sampling rates for the smallerfoundations, the rate of matching the informationreturns for consecutive years was not high enoughto ensure a proper level of statistical confidence.Therefore, the rate of return was only calculated forthe medium- and large-size foundations, thoseholding $1 million or more in assets.

[22] The largest foundations-those holding $100 millionor more in assets-increased assets and qualifying

distributions at a rate faster than any other groupfrom 1982 to 1988. This result occurred whenstratifying the data using two different measures:current dollar assets (the standard method) andconstant dollar assets. Stratifying the asset sizegroups by constant dollars accounts for those foun-dations which moved to a larger size group due toan inflationary increase in the value of their assets.Using the method of constant dollar stratification ofassets (with 1982 dollars), the largest size groupstill achieved a greater rate of increase in bothdistributions and assets than any other size group.The increases equaled 84 percent and 95 percent,respectively.

[23] The sample was stratified based on book value ofassets, rather than fair market value, because oftesting methods employed by the Internal RevenueService in the development of its Business MasterFile data base, from which the SOI sample wasdrawn. The Master File contains an amount for fairmarket value of total assets that is not fullytested foraccuracy of input because other items necessaryfor mathematically checking it are not available onthe data base. Therefore, it is not reliable for sampleselection. Book value of total assets, on the otherhand, is fully tested for accuracy because the itemsnecessary to do so are available on the data base.

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