Analysis: Will The Chan Zuckerberg Pledge Change The Way Charity Is Done?

January 12, 2016       Jeffrey L. Hoopes and Brian Mittendorf      

The recent pledge by Priscilla Chan and Mark Zuckerberg to devote 99 percent of their Facebook holdings, valued at $45 billion, to philanthropic endeavors has been met with much fanfare but also much confusion.

The pledge’s form — establishing an LLC dedicated to holding assets as they are donated and a stated intention to devote the resources not only to traditional charity but also to lobbying and for-profit investments, all aimed at philanthropic objectives — has proven to be the linchpin for conspiracy theories and “game changer” hyperbole alike.

While the size of the Chan/Zuckerberg gift is certainly noteworthy, there are reasons to believe that the form of the pledge is a response to unique circumstances and not prone to be replicated widely as the new way of doing charity going forward.

Tax incentives cast a large shadow over large donations in general, and over the chosen formation of this philanthropic endeavor in particular. There seems to be some disapprobation associated with any large donations, with some suggesting large donations are made purely for tax purposes. However, if a donor places no personal value on the donation, the tax benefit alone will never make the donation worth doing. A donor will always have less wealth, even after tax benefits, if a donation is made than if it is not made. Put another way, no one pays a dollar solely for 39 cents of tax savings.

The Chan/Zuckerberg gift is a case in point. The formation of an LLC is hardly a “tax dodge” as some have conjectured. Though the details are hidden from public view, the mere act of transferring assets to an LLC will likely not trigger a charitable deduction. Rather, LLC is best viewed as just an extension of its founders. In contrast, donations made directly to public charities, a private foundation, or a donor-advised fund would trigger immediate tax savings, assuming the donors have taxable income against which to take the deduction.

Depending on the particulars of the LLC and its activities, those who have funded it may later receive deductions for its charitable activities, but only for those activities that would have triggered a deduction had they been done without the LLC. At a minimum, then, the LLC formation entails delayed tax benefits relative to traditional giving. Many of the lobbying and for-profit activities that the Chan Zuckerberg Initiative envisions would even entail sacrificing tax savings relative to traditional charitable giving.

So why are Chan and Zuckerberg willing to give up some charitable tax savings to venture in new directions? In their particular case, the sacrifice from such new directions is probably minimal.

The reason for this is that Chan and Zuckerberg are in the unique circumstance where most of their wealth and thus potential tax liability is in built-up capital gains in Facebook stock. Facebook pays Zuckerberg little as an employee. He drew a base salary of $1 in 2014. Facebook also does not pay a dividend to Chan and Zuckerberg as shareholders, meaning there is likely little (current) taxable income to speak of despite the couple’s vast wealth. Further, charitable donations made in the past may not have been fully used in the year of the donation, and those past deductions may be available to help offset current income even in the absence of the couple’s recent announcement. There are limits, in terms of percentage of income, on what deductions can be claimed in a given year and unused deductions are allowed to carry forward to future years.

The largest tax benefit Chan and Zuckerberg are likely to reap is the ability to avoid capital gains taxes altogether. This benefit is not unique to using an LLC. Donating appreciated securities has the special feature of permitting a deduction for their market value while also avoiding recognizing the built-up capital gain.

All of this taken together means that making a donation to charity today would give Chan and Zuckerberg a sizable potential deduction but little taxable income against which the donation could be an offset. Thus, forming an LLC today rather than a private foundation may cost them little in terms of immediate tax savings.

If the LLC isn’t entirely involved in funding charities going forward, but instead funds for-profit social enterprise or lobbying efforts, the LLC may provide other benefits. Using Facebook shares for such activities ineligible for a charitable deduction will mean missing a potential deduction and could also create taxable income (from the capital gains) if the investments are eventually sold. Provided the Chan Zuckerberg Initiative supplements this with some traditional charity, however, it is likely the potentially usable deductions will already be maxed out due to the couple’s relatively limited taxable income.

LLCs are not subject to the same disclosure requirements of other charitable giving vehicles, allowing Chan and Zuckerberg to donate to charities of their choosing, contribute to politicians, lobby, or invest in profitable businesses, all without onerous disclosure requirements. Controllers of LLCs also face no strict rules on the percentage of their assets that must be given away, used for charitable purposes, etc. The choice of an LLC might be more a statement about the limitations of traditional giving vehicles rather than the specific benefits of an LLC.

What does this mean for the average donor? Unless you are sitting on vast wealth tied to a stock that doesn’t pay dividends, the hybrid approach of Chan and Zuckerberg will come at a cost. This also means that for the average charity, unless you are seeking donations from individuals sitting on vast wealth tied to a stock that doesn’t pay dividends, the Chan and Zuckerberg approach is unlikely to compel a change in your approach. In short, the pledge to form the Chan Zuckerberg Initiative is a large and admirable philanthropic pledge, but that doesn’t mean it’s a game changer for others.  E

Jeffrey L. Hoopes. Ph.D., and Brian Mittendorf, Ph.D., are both professors at the Fisher College of Business, Department of Accounting and Management Information Systems, at The Ohio State University. Hoopes’ email is hoopes.16@osu.edu and Mittendorf’s is mittendorf.3@osu.edu