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New standards for managing charitable funds

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[Publisher’s note: The Philanthropy Journal does not necessarily endorse the opinions, products or services offered or cited in this paid advertorial.]

By Robin R. Ganzert

The National Conference of Commissioners on Uniform State Laws approved the Uniform Prudent Management of Institutional Funds Act, or UPMIFA, in July 2006 and recommended its enactment by state legislatures.

UPMIFA was drafted to replace and update the Uniform Management of Institutional Funds Act, or UMIFA, which was approved in 1972 and enacted in 47 jurisdictions and the District of Columbia.

UMIFA was revolutionary in its day, and provided parameters for the management, investment and expenditures of endowment funds held by nonprofit organizations.

UMIFA was drafted when there was a great deal of uncertainty around the standards that governed directors of charities operating as nonprofit corporations, and provided for the fundamental rules of the investments of charitable funds donated as endowments.

UMIFA created regulations that allowed nonprofits to utilize total-return investing and pooling of endowment funds, required that assets be prudently invested in a diversified allocation, permitted the delegation of investment management to other persons, and permitted the release of restrictions on the use and management of charitable funds.

As the new model legislation, UPMIFA provides for a modernization of UMIFA, including strengthening prudence standards based on language in the Uniform Prudent Investor Act, or UPIA, and the Revised Model Nonprofit Corporation Act, or RMNCA.

In March 2007, the Board of Directors of the National Association of College and University Business Officers, or NACUBO, adopted a resolution calling for the immediate adoption of UPIFMA across state jurisdictions, and the proposed law is now being sent to state legislatures for approval.

States that have enacted UPIFMA as of April 2007 include Idaho, Nebraska, South Dakota and Utah.

States that have pending legislation include Connecticut, District of Columbia, Indiana, Kentucky, Minnesota, Nevada, Oklahoma, Oregon, Tennessee, and Texas.

UPMIFA offers more precise standards for nonprofit organizations regarding the management, investment and expenditure of endowment funds.

The act imposes duties for those who manage and invest charitable funds, while protecting donor restrictions and intent.

It also modernizes the rules governing expenditures from endowment funds, permitting nonprofit institutions to cope with the fluctuation in the market value and the purchasing power of the endowment.

While UMIFA brought modern portfolio theory to the investment of charitable assets, UPMIFA brings clarity in standards and guidelines for nonprofit institutions, investment agents, governing boards, and the court system.

Prudent management, investment

UPMIFA outlines factors that a nonprofit should consider in making investment decisions.

Requirements for those who manage and invest a nonprofit’s funds as stated in the act’s prefatory note include:

  • Give primary consideration to donor intent as expressed in a gift instrument.
  • Act in good faith, with the care an ordinarily prudent person would exercise.
  • Incur only reasonable costs in investing and managing charitable funds.
  • Make a reasonable effort to verify relevant facts.
  • Make decisions about each asset in the context of the portfolio of investments, as part of an overall investment strategy.
  • Diversify investments unless, due to special circumstances, the purposes of the fund are better served without diversification.
  • Dispose of unsuitable assets.
  • In general, develop an investment strategy appropriate for the fund and the charity.

The prudence standard requires investment managers to meet the following fiduciary duties:

  • Duty of care
  • Duty to minimize costs
  • Duty to investigate with respect to investment decision-making

Nonprofit institutions may pool two or more institutional funds for investment management and may invest in any kind of property or type of investment.

A person with special skills or expertise has the duty to use those skills in managing and investing institutional funds.

Donor intent

UPMIFA improves the protection of donative intent by requiring the nonprofit to follow the donor’s written instructions regarding endowment expenditures.

As stated in the Act’s prefatory note, when the donor’s instructions are not available, the nonprofit is required to spend a prudent amount “consistent with the purposes of the fund, relevant economic factors, and the donor’s intent that the fund continues into perpetuity.”
If a donor created an endowment fund with written instructions that the endowment spending rate was 6%, and if the nonprofit agreed to the restriction, then the restriction must be observed.

Endowment spending

UPMIFA builds on UMIFA’s rule on appreciation, while eliminating the historic dollar value concept.

Section 4 of UPMIFA states that, “subject to the intent of a donor expressed in the gift instrument, an institution may deem appropriate for expenditure or accumulate so much of an endowment fund as the institution determines is prudent for the uses, benefits, purposes, and duration for which the endowment fund is established.”

The nonprofit’s governing board must act prudently and in good faith, and should consider the following factors when making a decision on endowment spending:

* Duration and preservation of the endowment fund

* Purposes of the endowment fund and the institution

* Economic conditions

* Effect of inflation or deflation

* Expected total return from income and appreciation

* Investment policy statement

* Availability of other resources

UPMIFA defines an endowment fund in Subsection 2 as “an institutional fund or part of an institutional fund that is not wholly expendable by the institution on a current basis.
A restriction that makes a fund an endowment fund arises from the terms of the gift agreement.”

UPMIFA clearly states that board-designated funds and program related funds are not endowment funds, and while they are subject to internal and fiduciary duties, they are not subject to the provisions of UPMIFA.

UPMIFA eliminates the concept of historic dollar value for endowment spending, and applies a new standard of prudence unless the gift instrument has specific restrictions.

Under UMIFA, the nonprofit could spend amounts above historic dollar value that was deemed prudent.

As the UPMIFA prefatory note states, the historic dollar value is essentially meaningless over a passage of time, and does not represent the purchasing power of the gift.
The intent is that the nonprofit’s governing board have the ability to preserve the purchasing power of the endowment while responding to the institution’s needs during short-term market fluctuations.

An institution may apply its spending rate regardless of whether the fund value falls below the historic d
ollar value.

While UPMIFA does not encourage the governing board to convert an endowment to an expendable fund, the assumption is that the institution will act to “preserve ‘principal’, or to maintain the purchasing power of the amounts contributed to the fund, while spending ‘income’, or making a distribution each year that represents a reasonable spending rate, given investment performance and general economic conditions” (Section 4).

UPMIFA has optional provisions that allow states to enact safeguards against excessive expenditures, including a provision that creates a rebuttable presumption of imprudence if an institution expends great than 7 percent of a fund’s fair market value, averaged over a three year period.

Delegating management, investment functions

UPMIFA presupposes that the nonprofit institution may delegate the investment functions to an external agent.

In Section 5 of the act, the investment agent “owes a duty to the institution to exercise reasonable care to comply with the scope and terms of delegation.”
Reasonable care must be exercised in the selection of the agent, and the agent’s actions must be reviewed on a periodic basis.
Clearly, UPMIFA reinforces that the fiduciary is responsible for procedural prudence rather than desired outcomes.

Modification of restrictions
UPMIFA states that a donor consent permits the nonprofit institution to release or modify a restriction in a gift instrument.

The court may also modify a restriction if the restriction has become “impracticable or wasteful, if it impairs the management or investment of the fund or if, because of circumstances not anticipated by the donor, a modification of a restriction will further the purposes of the fund” (Section 6).

There is an additional provision that allows for the modification of smaller, older funds.
UPMIFA applies retroactively to institutional funds created prior to the act. Stay tuned to the activity in your state to track the progress of the adoption of UPMIFA.
For the complete text of the Uniform Prudent Management of Institutional Funds Act, go to www.law.upenn.edu/bll/ulc/umoifa/2006final_act.htm.

This communication is not a covered opinion as defined by Circular 230 and is not intended or written to be used, and cannot be used, or relied on, by the taxpayer, for the purpose of avoiding federal tax.  This communication was written to support the promotion or marketing of the transaction(s) or matter(s) addressed in the written communication; and the taxpayer should seek advice based on the taxpayer’s particular circumstances from an independent tax advisor.


Robin R. Ganzert, is senior vice president, national director, of Wachovia Nonprofit and Philanthropic Services.

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