A Conversation about UPMIFA

By William J. (Bill) Longan, Jr., Senior Investment Advisor, SunTrust Foundations & Endowments Specialty Practice

A Conversation about UPMIFA

Many individuals who serve in leadership roles with charitable organizations are not fully aware of important regulations that address their responsibilities as fiduciary stewards. The following is an excerpt from a recent discussion between William J. (Bill) Longan, Jr., Investment Advisor with SunTrust Bank’s Foundations and Endowments Specialty Practice and Thomas W. “TJ” Aldous, Jr., Attorney with Williams Mullen. Their topic is the Uniform Prudent Management of Institutional Funds Act (UPMIFA).

Bill – TJ, perhaps it would be helpful to first define the Uniform Prudent Management of Institutional Funds Act (UPMIFA).

TJ – UPMIFA is a law that gives charitable organizations guidance and authority to manage and invest charitable funds. It also imposes duties on those who manage and invest these funds.

Bill – Can you provide us with some background? Why was UPMIFA enacted? How is it different from prior laws that addressed investment management for charitable entities?

TJ – The National Conference of Commissioners on Uniform State Laws developed UPMIFA in 2007. It has now been adopted in every state but Pennsylvania. Before UPMIFA, most states had implemented the Uniform Management of Institutional Funds Act which the Commissioners released in 1972. Individual states often modify some provisions of a uniform model act. Therefore, when we talk about UPMIFA, we are talking in generalities. Each state’s specific law needs to be considered.

UPMIFA modernizes the prior law. It clarifies the duties of those who manage and invest charitable funds. It applies modern portfolio investment theory. It eliminates the concept of historic dollar value. It updates the requirements for releasing and modifying donor imposed restrictions on charitable funds.

Bill – SunTrust Bank’s Foundations and Endowments Specialty Practice works with many different types of tax exempt/charitable organizations. Does UPMIFA apply to all of them?

TJ – UPMIFA applies to all organizations that are operated solely for charitable purposes. It will apply to a nonprofit corporation, a trust wholly devoted to charitable purposes and a government entity holding funds exclusively for charitable purposes. It does not apply to a trust if the trustee itself is a for-profit corporation or individual.

Bill – If an organization has funds that existed before UPMIFA, does UPMIFA now apply to them?

TJ – Yes. UPMIFA applies to investment and management decisions made for any institutional fund that is held by the organization after the state adopted the act.

Bill – Please give us some examples of the duties UPMIFA defines for those who are responsible for managing and investing charitable funds?

TJ – While it’s certainly not a complete list, here are a few important ones to keep in mind. The organization needs to consider the charitable purposes of the institution and the purposes of the fund. If a donor has restricted the use of the fund, the donor’s intent is paramount.

Each person, including a director or manager, managing and investing the fund needs to act in good faith and with the care of an ordinarily prudent person. If a person has special skills or expertise, he or she is expected to use those skills or that expertise in carrying out his or her management or investment duties.

Each person has a duty to minimize costs. This duty does not preclude the hiring of an investment advisor as long as the costs incurred are appropriate under the circumstances. In some cases, it may be appropriate to pool funds for investment and management.

Each person also has a duty to investigate the accuracy of information before making a decision. If something seems questionable, the organization should postpone the decision until facts can be verified. For example, a charitable organization has a responsibility to be assured of the accuracy of all information associated with grant request.

Management and investment decisions should be made in the context of the investment portfolio as a whole and as part of an overall investment strategy. Generally, the organization must diversify its assets. A lack of diversification is appropriate only under exceptional circumstances. It may be necessary to dispose of unsuitable assets.

Even though there is flexibility in the type of investments in which an organization can invest under UPMIFA, charitable organizations that are private foundations should keep in mind the restrictions Congress imposes on private foundations. For example, a private foundation cannot make an investment that jeopardizes the carrying out of any of the private foundation’s exempt purposes. A qualified investment professional can provide invaluable assistance in determining what investments are reasonable in the marketplace and whether a charitable organization may want to avoid certain investments.

Bill – How much of an endowment’s value is a charitable organization allowed to spend?

TJ – Under UPMIFA, an endowment fund is defined as a fund that cannot be spent in its entirety all at once. We sometimes think of an endowment as a fund that is expected to last in perpetuity. But an endowment can be much shorter. For example, an endowment could be expected to last for thirty days, two years, fifty years or some other length of time. Some endowments last until an objective is met, without specifying a time. The time horizon will depend on the intent of the donor.

Before UPMIFA, a charitable organization was expected to preserve an endowment by maintaining the fund’s historic dollar value. A charitable organization could spend amounts above historic dollar value. Historic dollar value was the aggregate value of the contributions to the fund, valued at the time of contribution. For example, if one spouse established an endowed fund with $1 million, the historic dollar value would be $1 million. If the other spouse then added $500,000 to the fund at his or her death, then the historic dollar value would be $1.5 million. If the fund was underwater, meaning its current value was less than the historic dollar value, the organization’s investment options and spending from the fund were hampered. It was probably limited to spending only income. If the fund’s current value was significantly greater than its historic dollar value, the restriction to spend only amounts in excess of historic dollar value essentially became meaningless.

UPMIFA takes a different approach. The organization is expected to maintain the endowment fund’s purchasing power. Spending decisions should aim to preserve the purchasing power of the fund for the expected life of the fund. Of course, a donor can provide specific instructions that may modify these obligations. UPMIFA emphasizes the endowment aspect of the fund, rather than the overall purposes and needs of the organization. A competent investment advisor should be able to help a charity come up with a plan that will sustain the purchasing power of the fund and that will help the charity achieve the purposes of the fund. I would expect to see regular discussions between the charity and the investment advisor.

Bill – Do any states limit how much can be spent from an endowment?

TJ – Most states do not specify a cap, but the organization’s spending must still be prudent. Some states do restrict how much should be prudently spent. They presume that spending in excess of a specified cap is not prudent. Depending on the state, that cap may be 5 percent to 9 percent of a three year rolling average of value.

Bill – Some charitable organizations prefer to retain investment responsibility in-house because they fear liability if they delegate the responsibility. Should investment decisions be delegated to persons outside of the organization?

TJ – Delegating investment decisions to a competent and professional investment advisor is a good idea. The advisor should be familiar with UPMIFA. When selecting the advisor, the charity must act in good faith and with the care of an ordinarily prudent person in identifying the advisor’s duties, and in reviewing the advisor’s actions. Only management and investment decisions can be delegated. The charity cannot delegate expenditure decisions. It’s important to note that if the charity has properly delegated investment or management decisions, the charity is not liable for the decisions or actions of the advisor.

Bill – Who enforces UPMIFA?

TJ – As mentioned, UPMIFA is a state law. A state’s attorney general is usually charged with enforcement. Although it is possible, most donors do not have standing to enforce UPMIFA violations. A co-trustee, a co-director or a member may be able to bring a suit to enforce a remedy for violation.

Bill – Can you give us a few recent examples of individual organizations that have encountered difficulty due to a failure to follow fiduciary best practices as now defined in UPMIFA?

TJ – There are some states that actively audit charities. Those states that don’t may rely on insiders or members of the public to bring forward questions about a charity’s activities. Some states publicize their activities.

In 2009, New Jersey filed suit against an organization alleging financial mismanagement and excessive spending of an educational institution’s endowment investments. The attorney general and the organization eventually settled, with the charity agreeing to make changes to its governing practices. It appears that the president was forced to resign after 22 years of service.

More recently, in 2012 New York filed suit against a charitable organization to force the removal of its directors and charging the organization with fiscal mismanagement. The attorney general alleged that the organization improperly borrowed against an endowment to cover expenses. The case settled late last year. The organization was required to make changes to its board, reduce its expenses and find a new president.

The attorney general’s office in Virginia receives complaints from donors and others who believe that charities are mismanaging funds. They generally resolve these matters through negotiation.

Bill – TJ, thank you very much for your generous assistance with these important questions. Since we’re not able to cover this entire topic during this discussion, do you have any final thoughts you feel would be helpful to mention to anyone who has fiduciary responsibility for a charitable organization’s investment assets?

TJ – These were great questions. You’re correct. There’s more to cover at a later time. I would stress that whether mismanagement is real or perceived, bad relations can harm a charity’s fundraising efforts. A charity is best served by having a thoughtful investment policy that is reviewed frequently. It should memorialize in writing the reasons for its decisions. When it has questions, it should counsel with the attorney general’s office. It is best to be proactive in the planning stages.

About William Mullen

Williams Mullen is an AMLAW 200 law firm with 225 attorneys in ten offices in Virginia, North Carolina and Washington,
D.C. The firm provides an array of sophisticated tax and estate planning services for the disposition of family wealth and the sheltering of assets from income, gift, estate and generation-skipping transfer taxes. Our experienced team of attorneys and paralegals also help individual and institutional fiduciaries and charitable organizations handle the legal and tax complexities of ongoing administration, including litigation.

Thomas W. "TJ" Aldous Jr. is a partner with Williams Mullen's Private Client & Fiduciary Services Team. His practice
concentrates on estate, gift, generation-skipping and fiduciary income taxation, estate planning, estate and trust
administration, preparation and administration of conservation easements and the establishment and administration of
foundations and charitable organizations. Mr. Aldous can be reached at Williams Mullen, 200 S. Tenth Street, Richmond, VA 23219; (804) 420-6600; taldous@williamsmullen.com

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