Ethics & Standards

Competence & Professionalism: Gift Planning Compensation

This column examines the National Committee on Planned Giving’s Model Standards of Practice for the Charitable Gift Planner and its practical application to the daily work of gift planners. It is prepared by PPP’s Ethics Committee, which is comprised of the organization’s past presidents. The committee encourages and welcomes any comments and suggestions, which may be directed to the Ethics Committee, Partnership for Philanthropic Planning, 233 McCrea Street, Suite 400, Indianapolis, IN 46225.

"Compensation paid to Gift Planners shall be reasonable and proportionate to the services provided. Payment of finder’s fees, commissions or other fees by a donee organization to an independent Gift Planner as a condition for the delivery of a gift is never appropriate. Such payments lead to abusive practices and may violate certain state and federal regulations. Likewise, commission-based compensation for Gift Planners who are employed by a charitable institution is never appropriate."

The Model Standards of Practice for the Charitable Gift Planner, Article IV

When the Model Standards were first adopted, financial institutions and financial service professionals had already discovered planned giving. During the intervening 11 years, they have become even more prominent in the field of philanthropy. Some mutual fund companies have started charity funds, both to retain the investments of their philanthropic clients and to garner new money to invest. Other mutual fund and brokerage companies have entered into relationships with charities, whereby charities agree to invest with them the contributions received from clients referred by representatives of the companies. Financial advisors regularly initiate charitable gifts, particularly charitable remainder trusts. All of this activity has contributed to the growth of charitable giving.

Recognizing that financial professionals have access to wealth and are in a position to refer gifts to them, charities are trying to forge productive relationships with these professionals and the companies with which they are affiliated. In so doing, they have to grapple with difficult compensation issues. Charities are also concerned about retaining staff and stimulating productivity, and to accomplish these objectives some are experimenting with incentive compensation plans.

Some of the current compensation arrangements between charities and financial institutions, and between charities and financial services professionals did not exist when the Model Standards were adopted. Just as the United States Constitution has to be reinterpreted in terms of sociological and technological issues that didn’t exist in the late eighteenth century, so it is necessary to apply the Model Standards to new developments in gift planning. Nowhere is this truer than in the area of compensation of gift planners.

Compensation of Professional Advisors

Many professionals are involved in the completion and management of planned gifts, and they are compensated for their services in a variety of ways. Lawyers, accountants, consultants and certain financial advisors typically receive fees from their clients, or from the charities that retain them, based on time invested. Stockbrokers and real estate agents receive commissions when they sell donated securities and real estate on behalf of charities. Insurance agents receive commissions when they sell a policy to a client who subsequently donates it to a charity, or when a charity purchases a commercial annuity from them in order to reinsure a gift annuity obligation. Financial institutions receive fees, usually calculated as a percentage of the endowment, trust assets, or gift annuity reserve funds they invest and/or administer. Licensed securities dealers receive commissions and trailer fees when charities or individual trustees purchase mutual funds or other securities through them.

None of these well-established methods of compensating professional advisors is opposed by the Model Standards , provided they are “reasonable and proportionate to the services provided.” What the Model Standards identify as inappropriate is payment of finder’s fees, commissions or any other fees “as a condition for the delivery of a gift.” Specifically, this means a payment by a charity to a professional advisor based on the size of the gift that the advisor “sells” or causes to be directed to the charity.

There are certain compensation arrangements between charities and professional advisors that do not technically constitute payment of finder’s fees and commissions but might be considered an indirect payment of such fees and commissions. It is also possible in the aggressive pursuit of fees and commissions, which are inherently appropriate, to design gifts that are not in the best interests of donors and charities.

The following are brief analyses of five methods of compensating professional advisors. The first two are clearly opposed by the Model Standards . The next three are not explicitly opposed by the Model Standards , but they could be inappropriate if not properly structured.

Finder's fee paid by a charity.

When the Model Standards were adopted, there were a number of promoters offering to deliver charitable remainder trusts to charities in exchange for finder’s fees. The 1986 Tax Reform Act had shut down many of the traditional tax shelters, so these promoters latched onto the unitrust. Mostly, they sold it as a tax-avoidance mechanism, which is why the donors would allow the promoter to shop for a charitable recipient willing to pay the finder's fee. They ran full-page advertisements heralding the unitrust as "the last tax shelter." The National Committee on Planned Giving and the American Council on Gift Annuities went public with a statement opposing these practices after Forbes magazine published an article on charitable remainder trusts called, "The Loophole Congress Forgot to Close."

Payment of finder’s fees caused the following concerns.

The amount paid by a charity, often 5% to 7% of the face value of the gift, could be out of proportion to the services rendered.
Payment of a finder’s fee from charitable remainder trust assets could disqualify the trust or, at least, reduce the charitable deduction.
Payment of a finder’s fee from a charity’s general funds might result in the charity losing money, especially when income beneficiaries were relatively young.
Payment of a finder’s fee could subject the trust to regulation by the Securities and Exchange Commission (SEC).
The future of charitable remainder trusts could be threatened if they were viewed primarily as business transactions.
For all of these reasons the Model Standards stated that payment of finder’s fees was never appropriate.

Commission paid by a charity. While commissions can be paid on any type of planned gift, they are most commonly paid for the "sale" of gift annuities. An insurance agent or financial planner will enter into an agreement with a charity, comparable to the sales agreement executed between an insurance company and a broker, whereby the professional is authorized to sell gift annuities to clients and will be paid a commission on every completed contract. The commission is typically 6% to 8% of the face amount contributed for the gift annuity.

Charities marketing gift annuities in this manner contend that it is cheaper to pay commissions to professionals who actually close gift annuities than to hire staff who may or may not be productive. They also note that these professionals have access to many people who would not otherwise show up on a charity’s prospect list and that, consequently, they greatly increase the dollars available for charitable purposes. Finally, they maintain that commissions are not illegal, and that they are fair because they reward effort.

However, the following reasons for not paying commissions on gift annuities are far more persuasive.

A charity that pays commissions on gift annuities, or, indeed, on any type of planned gift may forfeit its exemption from securities regulation. The Philanthropy Protection Act exempts a charity’s gift annuity reserve fund and other investments from federal securities regulations, and also from state securities regulations, unless a state enacts other provisions, on condition that no commissions are paid to solicitors of charitable gifts.
The execution of sales agreements with professional advisors and payment of commissions to them could prompt state insurance departments to impose on charities licensing requirements identical to those they impose on insurance companies. Compliance with such requirements could make the issuance of gift annuities prohibitively expensive.
There is a risk that professionals who are accustomed to selling commercial annuities as investments will de-emphasize the charitable component of gift annuities. They may also be unfamiliar with some of the tax implications of gift annuities that are inapplicable to commercial annuities.
If a charity pays relatively high commissions to those who sell gift annuities, it could weaken its financial situation and increase the risk of defaulting on its annuity obligations.
Charities that rely on commissioned professionals to sell gift annuities may not be in compliance with local solicitation laws.

Commissions and fees earned in connection with charitable remainder trusts. In recent years, a large number of charitable remainder trusts have been initiated by professional advisors, most of whom hold a license to sell certain types of securities as well as life insurance. Some advisors are compensated on an hourly basis by a client for whom they design a charitable remainder trust. However, many advisors are compensated either solely or partially through commissions and investment fees. When they initiate a charitable remainder trust, they are often compensated in one or both of the following ways.

Commission on sales and purchases of securities, if the donor is trustee and chooses to invest trust assets through the advisor.
Commission on a life insurance policy sold to replace the value of the assets contributed to the trust.

Unlike finder’s fees and commission sales of gift annuities, these two methods of compensation do not violate the Model Standards . However, they can bias a transaction. For instance, the prospect of a significant commission may cause the advisor to propose a wealth-replacement life insurance trust when one isn’t really necessary. Commissions can also cloud judgment when it comes to recommending a trustee. It is appropriate for the donor to be trustee when investment control is important and arrangements for competent trust administration have been made. It is not advisable when the donor wants to simplify life or does not have the skills to act as a proper fiduciary.

Finally, commissions may drive recommendations regarding trust investments. Many net income charitable remainder unitrust with makeup provisions (NIMCRUT) have been invested in deferred variable annuities at the recommendation of the professional advisor who handles investments for the trustee. Under ideal conditions, these trusts may enable the trustee to turn income on when it is desired, like a water spigot. However, unless the underlying assets in the variable annuity appreciate, the income available to the income beneficiary is quite limited, and it is all taxed as ordinary income. In spite of these major disadvantages, the variable annuity may have been recommended in some instances because it pays a higher commission than alternative investments.

Commissions on reinsured gift annuities. Some charities reinsure gift annuities in order to minimize their financial risk. Others reinsure them in order to stimulate advisors, who hold a life insurance license, to present the gift annuity option to their charitably minded clients. Whenever an advisor persuades a client to contribute for a gift annuity, the charity purchases, through that advisor, a fixed annuity to cover the payment obligation. The advisor receives the normal commissions paid on annuity sales from the insurance company.

The obvious advantage of a policy to reinsure through the referring advisor is that the charity potentially has a large sales force looking for gift annuity donors. There is a risk that the referring advisor may not select the highly rated insurance company with the best annuity rates, but the charity can avoid this problem by establishing some guidelines for advisors, most of whom have access to the same markets.

It is not a violation of the Model Standards for an advisor to earn a commission on a reinsured gift annuity, for the charity itself does not pay a commission. Presumably, the charity will pay, directly or indirectly, fees or commissions to a company and/or representative of a company, however it invests gift annuity contributions. The commercial annuity, purchased from an insurance company, is simply one of the possible ways of investing gift annuity assets.

However, if the charity is under an obligation, stated or implied, to reinsure every gift annuity through the advisor who initiated it, the arrangement appears to be the equivalent of commission sales of gift annuities. This may be sufficient to subject the charity and the advisor to state charitable solicitation laws. Also, the advisor should ascertain whether "selling" a gift annuity, which is secured only by the charity’s assets, is authorized under his or her insurance license.

To avoid crossing the line into indirect commission sales and possibly invite such problems, the charity might inform advisors that its policy is to reinsure all gift annuities, and that if a gift annuity is established as a result of an advisor’s recommending it to a client, the charity will consider reinsuring it through that advisor. There must be no obligation to do so, and the charity must be free to surrender the commercial annuity or exchange it for an annuity with another company, if warranted by investment performance.

Commissions resulting from the investment of contributed assets. Within the past few years, a number of financial firms have established charities with an Internal Revenue Code (IRC) § 501(c)(3) status. When a gift is made to the affiliated charity out of a client’s account at the financial firm, the charity invests the funds back with the parent financial firm in an institutional account maintained for the charity. Thereby, the financial firm retains the donated assets. Additional funds are attracted to the charity by providing financial incentives to professional advisors. They may receive “front end” and trailer fees when one of their clients contributes for an advised fund or pooled income fund maintained by the charity. Generally, these arrangements are structured so that investment and other fees are not paid by the charity, but rather by the financial firm or by a for-profit administrative firm. Thus, the arrangements are not technically in violation of the Model Standards .

However, the arrangements raise certain concerns. One is whether a charity established by a financial firm is involved in a conflict of interest if it invests donated assets only through that firm. Another is whether the charity is properly discharging its fiduciary responsibilities. Still another is the possibility that the financial incentives could influence the professional advisor’s judgment about the best way to meet a client’s philanthropic objectives.

To capture some of the money that might otherwise flow to charities established by financial firms, and to provide incentives for referring gifts to them, many charities are now entering into investment arrangements that reward professional advisors who bring gifts to them. One approach is to purchase mutual funds pursuant to an arrangement whereby the financial advisor or broker who initiated the gift will receive fees so long as the charity continues to invest in those mutual funds. The mutual funds would mirror the asset allocation of the endowment, and the internal costs supposedly would approximate the fees paid to managers of other funds. Another approach is to invest on a case-by-case basis through the professional who arranged the gift. To stimulate referrals, the charity might promise that, if a planned gift is established as a result of a professional’s introducing or directing a client to the charity, the charity will offer the professional an opportunity to manage the gift assets under the direction of the charity.

These arrangements were not in existence when the Model Standards were adopted, and the language of the Model Standards does not prohibit them. However, a charity must be exceedingly careful. In order to exercise its fiduciary responsibility, the charity should maintain control of the donated assets at all times. This would preclude entering into any binding agreement to invest donated funds in a certain way. It would also mean moving the money away from investments that are not performing well, even if so doing would terminate the professional advisor’s fees. Management of funds will certainly become more complex because they will be more dispersed. Notwithstanding the greater complexity and potential fiduciary concerns, many charities may conclude that compensation arrangements with professional advisors are essential because these persons have access to centers of wealth and can direct enormous amounts of money to them.

Compensation of Charity Staff

The staff of a charity are usually paid salaries largely based on the positions they hold, on their years of service, and, of course, on the financial resources of the charity. Sometimes, their salaries or other compensation are also based on job performance and productivity. These incentive compensation plans may or may not be in accord with the Model Standards .

Commission paid to a development officer or consultant. Certain charities have paid commissions to the following persons.

The development officer who solicits and closes a gift.
The consultant who runs a fundraising campaign, especially a direct mail and telemarketing campaign.
The telephone solicitor, often a student caller, who works part time in a charity’s telemarketing program.

Payment of commissions to a development officer can lead to three unfortunate consequences. First, it encourages high-pressure solicitations. Out of eagerness to earn a commission, the development officer may rush the decision-making process, not encourage the donor to consult professional advisors, and fail to make full disclosure of all of the implications. Second, payment of commissions to one person in the development office is inherently unfair and destroys collegiality. Rarely does a gift result from the efforts of one person. The researcher who uncovered critical information about the prospect, the staff writer who drafted a proposal and the professor who inspired the prospect all played a role. Thus, why should the financial reward go solely to the out-front person? The behind-the-scenes people who also played a role are likely to feel resentment against their colleague who walks away with the commission. Third, payment of commissions to development staff, like payment of them to financial services professionals, can cause charities to lose the exemption afforded by the Philanthropy Protection Act of 1995. In that case, endowment, trust and annuity funds invested by the charity could be subject to regulation by the SEC.

Payment of commissions to consultants has been sharply criticized when a high percentage of contributions are skimmed off for fundraising costs. In some cases where a small percentage of dollars raised was used for charitable purposes, the participating charity has lost its tax exemption. The incentives typically offered to paid student callers at colleges and universities have been of little concern, for compensation is generally low, and there seems little potential for abuse. These types of commissions are not specifically addressed in the Model Standards , which are more concerned with planned gifts. It should be noted, however, that the “Code of Ethical Principles” of the Association of Fundraising Professionals (AFP), which addresses all types of fundraising, says, "Members shall work for a salary or fee, not percentage-based compensation or a commission."

Merit salary increases paid to a staff member. A merit salary increase based on overall job performance is definitely permitted by the Model Standards . Arriving at the amount of the increase is likely to be a subjective judgment limited by the amount budgeted for all merit increases. Presumably, the salary adjustment will take into consideration the totality of the employee’s work rather than only the number of dollars raised. A merit increase that is a pre-announced percentage of the amount by which total dollars raised this year exceed total dollars raised last year comes very close to commission-based fundraising, which is opposed by the Model Standards .

Bonus paid to a staff member. A bonus, unlike most merit increases, is often tied to measurable performance levels. For example, a planned giving officer might be promised a $4,000 bonus if the volume of planned gifts he or she completed exceeds the previous year’s total by $500,000, an $8,000 bonus if the volume beats last year’s total by $1 million, and so on until the maximum bonus attainable is earned. Of course, a formula for determining the relative value of planned gifts would have to be devised. A $100,000 outright gift, a $100,000 gift annuity by a 75-year old, and a $100,000 confirmed bequest expectancy by a 60-year old, would have quite different real values to the charity.

Bonuses are common in the business world, and they obviously are awarded because they stimulate productivity. Board members, who are accustomed to bonus plans in their companies, may be strong advocates of such a system at the charity. The AFP “Code of Ethical Principles” gives a qualified approval of bonuses with the statement, “Members may accept performance-based compensation such as bonuses provided that such bonuses are in accord with prevailing practices within the members’ own organizations and are not based on a percentage of philanthropic funds raised.” In the bonus system illustrated above, the amount of the bonus is not “a percentage of philanthropic funds raised.” Thus, strictly speaking, it would be allowable under the AFP principles.

The Model Standards do not pass judgment on bonuses per se. However, if the bonus paid to a staff member is a stated percentage of the dollars raised by that person, it appears to be one form of the commission-based fundraising that is considered “never appropriate” by the Model Standards .

If only those persons actually engaged in closing gifts qualify for bonuses, the question of fairness again rears its head. A more attractive alternative is to award bonuses to the entire department that was involved in the success of the program. Payments of bonuses to such a group of people seems fair, does not violate the letter or spirit of the Model Standards , and should not cause a charity or its fundraisers to lose the exemption from securities regulation granted under the Philanthropy Protection Act.

Reasonable Compensation

The Model Standards not only state that certain forms of compensation are never appropriate, but they also disclose that the level of compensation should be "reasonable and appropriate."

What constitutes unreasonable compensation by a nonprofit institution is a judgment call. Nevertheless, in enacting the intermediate sanctions legislation designed, in part, to curb abuses regarding benefits to executives and insiders of IRC § 501(c)(3) organizations, Congress presumed that there was a point beyond which compensation to persons employed by, or associated with, charities was excessive. Based on such legislation, the IRS concluded that the salary, commissions and perks received by the former trustee of the Bishop Trust in Hawaii were excessive.

The reasonableness test has to be applied to all types of compensation, such as salaries, consulting fees, speaker’s fees, commissions and bonuses. By almost anyone’s standards, salaries paid to gift planners employed by charities are seldom unreasonably high, though in some instances they may be unreasonably low. Questions have recently been raised about the compensation of Chief Executive Officers (CEO) of some nonprofit organizations. For instance, an article in the October 3, 2002 issue of The Chronicle of Philanthropy reported that the median increase in compensation paid to the heads of the biggest charities and foundations last year was 7.5%. This was significantly more than the inflation rate and double the average increase received by corporate chief executives.

Arguably, these hefty increases are necessary to make salaries of nonprofit CEOs commensurate with their responsibilities. Still, to maintain their credibility with donors, all gift planners should be particularly sensitive to keeping fees and salaries at a reasonable level so that more dollars are preserved for charitable work. Perhaps, those who serve charities are less likely to cross the boundary if they view their work as a mission as well as a profession.

Summary

The foregoing analysis of Article IV of the Model Standards pertaining to compensation of gift planners can be distilled into the following guidelines.

A charity should not pay a finder’s fee as a condition for the delivery of a gift.
A charity should not pay a commission computed as a percentage of a completed gift.
Commissions and fees paid to professional advisors who manage trust assets for a donor/trustee, or who sell a wealth-replacement life insurance policy, are appropriate provided these fees and commissions are never allowed to cloud objectivity.
Commissions earned on reinsured gift annuities are appropriate provided that the charity is under no obligation to reinsure any gift annuity through the professional advisor who may have suggested the gift to a client.
Investment management fees paid to a professional advisor involved in the investment of donated assets are appropriate, provided the charity maintains total control of the assets and faithfully fulfills its fiduciary duties.
A charity should not pay staff or consultants a commission that is a percentage of the funds that person is instrumental in raising.
A charity may pay bonuses and award merit increases to staff provided that they are fairly distributed and are based on overall performance, and provided they are not calculated as a percentage of funds raised, which is actually a commission in disguise.
Compensation paid to all gift planners, including staff of charities and professional advisors, should be reasonable and determined with reference to the mission and image of the charity, and with regard to its fiduciary accountability.

The Journal of Gift Planning (ISSN: 10965297, USPS016596) is published quarterly by the National Committee on Planned Giving, 233 McCrea, Suite 400, Indianapolis, Indiana 46225, for $22.50 per year for individual members of NCPG (price included in membership dues); $45.00 for nonmembers. The publication is intended to facilitate and encourage the education and training of the many different professions in the gift planning community. Inquiries should be sent to the National Committee on Planned Giving, 233 McCrea, Suite 400, Indianapolis, Indiana 46225, phone: 317-269-6274. ©2002 NCPG