Recommended Charitable Gift Annuity Best Practices
The vast majority of organizations offering charitable gift annuities are doing so in a responsible manner that protects the interests of their annuitants. However, certain practices of some charities that offer gift annuities have been challenged in recent years. ACGA’s efforts in state and federal government relations have, for the most part, been successful in preserving gift annuities as a viable gift option free from overly restrictive regulatory limitations. From its founding in 1927, ACGA has developed and promoted a voluntary system of “best practices” for gift annuity programs. State regulators look very favorably on ACGA’s efforts to ensure charities are aware of these practices. ACGA provides assistance to charitable organizations in the form of training opportunities, online resources, and individual consultation to help charities understand the importance of these “best practices” for risk management and donor protection.
This is being done within the context of our mission:
The American Council on Gift Annuities actively promotes responsible philanthropy through actuarially sound gift annuity rate recommendations, quality training opportunities, and the advocacy of appropriate consumer protections.
In furtherance of those efforts and ACGA’s mission, ACGA recommends the following best practices and encourages charitable organizations to utilize as many of them as possible.
ESTABLISH THE PROGRAM PROPERLY
- Meet State Regulations
Charities should identify and comply with the state regulatory requirements of their state of incorporation and of all other states where they intend to issue gift annuities. In general, state regulators assert their legal responsibility to protect the interests of residents of their state. ACGA believes that a charity issuing gift annuities is subject to the laws and regulations of the state that is the donor’s legal residence.
The Philanthropy Protection Act of 1995 requires that a disclosure statement containing information about gift annuities and the issuing charity be provided to a prospective donor in advance of the establishment of an annuity (click here for ACGA’s sample disclosure statement). ACGA recommends that the donor be asked to sign the disclosure statement indicating that he or she has received the document. Some states require specific content in the disclosure statement, and many states require disclosure language in gift annuity agreements.
Annual reporting requirements are also to be completed on an ongoing basis with the states that require such reporting. The ACGA website contains current information on state requirements.
- Specify the type of assets that will be accepted for a gift annuity.
Cash and appreciated securities are the most usual assets accepted for funding charitable gift annuities. Some organizations have chosen to accept real estate, tangible personal property, and other property interests under special situations. Special care must be taken with such “hard-to-sell” assets as they may create liquidity issues in the annuity reserve. Also, certain states, such as California, may not permit a charity to count such assets toward reserve requirements. Situations will arise in which the organization will be asked to consider an exception to their policies. Therefore it is appropriate to have a procedure for making exceptions in advance of the request for an exception. This can save the organization and its donors unnecessary embarrassment.
- Establish minimum ages for immediate and deferred annuities
The average age of annuitants receiving an immediate payment, according to the 2009 CGA Survey, is 79. 81.6% of immediate payment annuitants are 75 years of age or older. A gift annuity may not be appropriate for younger donors because payments, being fixed, offer no inflation protection. Also, there could be only a minimal benefit to the charity because of the expense and staff time required over a longer period of time to maintain and steward the gift. Therefore, higher age limits are in the best interest of both charities and annuitants.
Even so, some younger people want to make gifts through charitable annuities. Your charity should have a written policy on the minimum age acceptable to you. 56.7% of charities responding to the 2009 CGA Survey require a minimum age of 60 or older for an immediate payment annuity. 28.7% require an age of 65 or older, and 3.1% require that an annuitant be 70 years of age or older. In the case of a two-life annuity, the minimum age would apply to the younger of the two annuitants. If the annuity is deferred, it is recommended that the minimum age of the annuitant at the time payments begin be the same as the minimum age of an annuitant of an immediate gift annuity.
- Establish a minimum amounts for a gift annuity
Charitable organizations considering a gift annuity program are well advised to establish a minimum gift amount. The 2009 CGA Survey indicates that 62.1% of charities issuing annuities have a minimum required gift of $10,000 or higher. The minimum selected should ensure that the amount realized by the charity will justify its effort in setting up the gift plus incurring stewardship and administrative expenses during the life of the annuity.
- Follow the ACGA Suggested Rates
97.3% of the organizations responding to the 2009 survey reported that they always or usually follow the ACGA suggested rates. Using the ACGA’s recommended rates minimizes and usually relieves the risk to the charity of the need to obtain its own actuarial verification in support of its rate schedule, when registering in certain states. The rates are designed to result in a residuum of at least 50 percent. According to the 2009 survey, the average (mean) residuum realized by charities over the years 2004-2009 was 81.6% of the contribution. Use of the ACGA rates also allows the individual organization to focus on the gift instead of the administrative support of a different rate structure. The rates are viewed by many as the industry standard and therefore add credibility to donor relationships and the organization’s gift annuity program.
- Establish Procedures to Ensure that Gift Designations are Honored
The procedures should ensure that the residuum of a gift annuity can be determined and that it will used for the purpose designated by the donor. While the charity may agree to use the residuum for a particular purpose, it should encourage donors either to establish gift annuities for the unrestricted purpose of the charity or at least not subject them to overly-specific restrictions.
Once these guidelines have been developed, under the guidance of competent legal counsel, and then implemented, an organization will be in a better position to meet the needs of its donative public, internal administrators and state regulatory bodies. With the program established, or fine tuned, as the case may be, it is time to move forward to meeting donors and closing gifts.
PROSPECT RELATIONS, DISCLOSURE AND CLOSING THE GIFT
Best practices in a charitable gift annuity program do not end with the development of appropriate policies and procedures, and compliance with state regulations. The most important part of any planned giving program is the work with prospects and donors. The ACGA offers the following guidelines for prospect and donor relationships.
- Meet with the donor in person.
The process of planned giving is best done through face-to-face meetings. Many of the processes discussed with prospects, their families, and their advisors are complex and subject to misunderstanding. A personal visit with the prospect for a significant gift is a best practice for both the prospect and the organization.
It may seem that a gift annuity should be easily understood. However, it must be remembered that the term “annuity” is a very generic term and is applied to many financial arrangements. The prospect may ask for an annuity without understanding the difference between a commercial insurance annuity and a charitable gift annuity. In that case, the two must be clearly distinguished. A prospect may need a good deal of education before he or she makes an irrevocable transfer to a charity.
After ascertaining that a prospect is interested in considering a gift annuity, the next step is usually the preparation of a financial illustration. The illustration should show the amount of the payments, how they are taxed, the charitable deduction, other tax implications, and pertinent information about the uses of the gift. The accuracy and completeness of this illustration is essential to a full understanding of a gift’s implications. Care must be taken to ensure that this early modeling is presented for illustration purposes only, and that prospects are encouraged to consult with their own legal and financial advisors. The final calculations will be done at the time the gift is completed based on facts as of the gift date.
One of the major things often misunderstood by prospects is that charitable gift annuities are irrevocable, and that many elections available for commercial annuities are not available for charitable gift annuities. A charitable gift annuity is non-assignable except to the charity. While charitable gift annuities are not technically guaranteed, they are backed by all the unencumbered assets of the issuing charity. Marketing, correspondence, and verbal communication to prospects and donors should make these distinctions clear.
Before the execution of a gift annuity agreement and the transfer of the donated property, it is important to review a specimen agreement line by line with the prospect and explain the contract in detail. If practical, this should be done in person with all the parties to the agreement. This personal interaction will lead to satisfied donors, repeat gifts, long term relationships, and referrals.
- Marketing Your Gift Annuity Program
Meetings with donors and prospects and the marketing materials you create and disseminate through direct mail, advertising in your publications and other print media, and on your website are often the first time donors and prospects have the opportunity to learn about gift annuities as a way of making a gift to your organization. How you explain charitable gift annuities and the materials you use should be clear and accurate and emphasize the charitable nature of the gift annuity.
Gift annuities are first and foremost a way of making a gift to your organization. You should exercise caution when comparing gift annuity rates with returns from other financial instruments, and avoid using terms like "product," "purchase," “yield," “rate of return,” and “effective rate of return” when describing gift annuities and the percentage payout from a gift annuity. Your marketing materials should clearly explain that the gift annuity agreement is irrevocable, that donors irrevocably part with the assets they use to make their gift, and that part of the annuity payment received will consist of a return of original principal. Do not use the phrase “guaranteed income” because though the annuity's payments are backed by the general assets of your organization, the annuity payment is not "guaranteed" in the legal sense of the term, and a return of principal is not “income.”
Be careful how you discuss the treatment of capital gain if appreciated securities or other assets are used for the gift - capital gains taxes are reduced because gains attributable to the gift portion of the annuity are not taxed and the remaining gain is prorated over the gift annuitant's life time with some variations depending on the ownership of the donated assets and of the relationship of the annuitant to the donor, and the number and sequence of the annuitants.
Use marketing examples specific to your organization or develop your own generic examples. A donor that is willing to share his or her story in a profile makes an ideal and compelling example of how others can set up similar arrangement. Generic examples can also be effectively employed to show how different gift scenarios occur and can be useful to others considering making a similar type of gift - make sure these examples are identified as such.
Make sure you are not providing legal and financial advice in your materials and encourage donors to consult with their advisors before proceeding. It can be helpful to have your marketing and legal staff review your marketing materials and can often make the materials more compelling and clearer.
- Invest the entire gift amount in the gift annuity reserve fund
The most prudent course is for the organization to invest the entire face amount of the annuity contract in its gift annuity reserve. If any significant amount is expended “up front,” reserves might become insufficient to meet payment obligations, particularly in a down market. The 50-percent residuum assumption underlying the ACGA rates presupposes that nothing will be used for charitable purposes until the payment obligation terminates.
The practice of investing the entire gift in the reserve also self insures the income liability, which should protect the institution from being required to set aside other institutional assets either to create or to subsidize the reserve to meet state regulatory requirements.
Announcing this practice can be one of a charity’s strongest marketing tools. The strength of the gift annuity reserve will add significantly to the credibility and financial integrity of the organization’s gift annuity program. When the donor knows that the entire gift is being invested to back lifetime annuity payments, the donor has much more confidence in making the gift and in making additional gifts in the future.
- Have the donor sign the contract
While a donor is not required to sign the gift annuity agreement, except in a few states, it is recommended that it be signed by the donor as well as an officer of the charity. If practical, meet the donor in person, review the contract with the donor and the donor’s advisor, if they are present, then have the donor sign. A national charity without a field force may have to do this by correspondence. In that case, offer to walk the donor through the agreement by telephone or include a detailed written explanation.
This will be reassuring to the donor, and it will protect the charity in the event that the donor or a relative subsequently questions whether the irrevocability and terms of the annuity were clearly explained.
The donor should receive a copy of the fully-executed gift annuity agreement.
- Tax Information
Make sure tax information is provided in a timely manner. According to I.R.S. Regulations, 1099-Rs, which gift annuity income beneficiaries use to report their payments to the I.R.S., must be provided to those beneficiaries by January 31st for the previous tax-year. Donors frequently want this information earlier, so sending it sooner than the end of January would be appreciated.
A gift planner may also want to provide tax information to the donor following the gift. This package would include a detailed copy of the tax calculation, an extra copy of the contract, and verification of the asset transferred to the agreement. This information should be provided as soon after the gift is completed. The charity might send another copy of the information in January at the time it is needed for tax filing. Often donors misplace what was sent earlier, and they appreciate another copy when they start work on tax returns.
The care of donors is paramount in running a successful gift annuity program. The goal with every gift should be satisfied donors, long term relationships, repeat gifts, and referrals. Every gift will either lead closer to that goal or move away from it. ACGA believes that following these best practices will lead to long-term success in a gift annuity program.
INVESTING, REPORTING AND STEWARDSHIP
A charitable gift annuity could be in force for many years. Therefore, best practices in a charitable gift annuity program do not end with the development of appropriate policies and procedures, compliance with state regulations, and the marketing and closing of the gift. Best practices must also be applied to the investment and care of the assets and the stewardship of the donor relationship for many years to come. The ACGA offers the following guidelines for investing, reporting and stewarding the donated assets and the donor of the assets.
- Invest the assets appropriately
Prudent investing of gift annuity assets must follow generally accepted procedures. This would begin with the selection of an appropriate, experienced custodian of the assets. Ideally, for economies of scale, this might be the custodian of the charity’s other invested assets if it has the ability to administer a gift annuity program and to invest the program’s assets.
If a new custodian is going to be chosen to administer and to invest gift annuity reserves, it is a generally accepted practice to issue a Request For Proposal (RFP) that asks several (3-5) institutions to respond and to answer questions about their administrative, investment, consulting, and compliance expertise. The questions should cover how many programs the custodian currently administers, how long it has been doing so, how would payments be made and tax work prepared, how would it invest the assets, how would it mitigate risk, and how would it help ensure compliance with State rules and regulations with respect to filing requirements and reserve requirements, plus other matters of concern to the charity.
Investing the assets appropriately starts with the development of a comprehensive investment policy statement. Reserve assets should generally be invested more conservatively than the general endowment and should remain more liquid than the general endowment. While it may be appropriate for institutions with larger endowments to invest more aggressively, this should be undertaken with great care and extensive consultation with trusted fund managers. The ACGA rate recommendations are based on a conservative and relatively low-risk portfolio.
With the above elements in place, the custodian should guide the selection of appropriate money managers. Here again, care must be taken to assure conformity with applicable state investment requirements and the institution’s own Investment Policy Statement. Once the gift annuity assets are properly invested, the investment performance should be monitored on a quarterly basis. The formal rebalancing of the fund on an annual basis is usually sufficient. Care must be taken not to overreact to short term market volatility. Informal rebalancing can take place as needed to raise cash to make distributions. How the cash is raised to make quarterly distributions may vary from institution to institution. If the investment philosophy is to be as fully invested as possible at all times, then cash can be raised as needed. If not, then more of the assets can be held in cash and used to make the payments as they come due.
- Establish a method for determining the balance of each gift annuity (the “residuum”), for purposes of determining the assets available to the charity from the annuity at the end of the income beneficiary’s lifetime
At the death of the sole or surviving annuitant, the annuity contract terminates, the issuing charity is entitled to, and if a specific designation has been made, must withdraw funds from the annuity pool attributable to the annuity’s residuum. The residua of gift annuities should be tracked so that the appropriate amount may be severed from the pool when a specific contract terminates. This is especially important if the donor has designated his or her residuum for a particular purpose. It is also useful for the charity to determine if any annuities are going to fully deplete the original funding assets and to develop a strategy for dealing with those under-water contracts.
- Develop a good working relationship with finance and administrative staff
A gift annuity program will be successful only if the development department and the finance office have a good working relationship in which each department understands its roles and responsibilities, and in which both communicate openly and honestly with one another. The development department should maintain the primary relationship with the donor, see that the donor has the information needed to make an informed decision, prepare the gift annuity agreement, provide instructions for transferring assets, and obtain the necessary information to close and administer the annuity (names of annuitants, birthdates, addresses, funding asset and cost basis, social security numbers, purpose, etc.). The financial office, or the financial institution selected for this purpose, should invest the assets, make the distributions, and do the required tax reporting. The Gift Acceptance Committee, which could be the financial office, should also have the final decision making authority, albeit in consultation with the development department, on whether a funding asset other than cash or securities is acceptable.
Questions coming from donors and annuitants should be forwarded to the planned giving office for a response. Should they require a financial or administrative response, the planned giving office should obtain the necessary information from the business office and communicate it to the donor or annuitant.
This process will help the gift process go more smoothly by keeping the planned giving office in the responsible position of communicating all information to the donor or annuitants. It also ensures that needed information and illustrations are understandable to elderly participants. When issues arise regarding payments or tax reporting, they will be easier to resolve because the staff with knowledge of the donors’ goals and objectives will be personally involved. Exceptions, when necessary, will be easier to obtain, again, because of the involvement of staff with a personal knowledge of the donor and their desires and because there is a good working relationship with the finance office.
- Communicate regularly with gift annuity donors and annuitants
Regular communication with both gift annuity donors and annuitants is an obligation and a privilege. When a voluntary contribution of any size is accepted from an individual, it is the gift planner’s obligation to stay in touch with that person appropriately. Newsletters, invitations to special events, and birthday and holiday cards are all effective manners of staying connected.
Such communications also honor the charity, as it is included in the long term plans of donors in meeting their personal and family goals and objectives. Having entered that circle, it is the charity’s privilege to continue to maintain that role of trust in the life of that person. When the gift transaction entails personal contact, as suggested earlier, the gift planner and the charity he or she represents, are in the unique position to be an important part of that donor’s life for years to come.
It is critical that in all correspondence names be spelled correctly and go to the correct address the first time. There should be a clear understanding of how and when the annuity payments will be made, and ensure that all tax reporting is timely, accurate and goes with a letter that explains all the boxes on the 1099-R. Communication must be clear and understandable to a person 75 to 80 years of age. Review the communication of tax information with legal counsel.
- Educate colleagues about the benefits and liabilities of gift annuities.
The education of internal colleagues and constituencies is essential to the effective involvement of the entire institution in the promotion of gift annuities. Colleagues in the development department and elsewhere in the organization should be able to speak intelligently with prospective donors about gift annuities and other planned gifts, and know when to come to the planned giving office for more information. An internal department should not be surprised to learn it will not be receiving an immediate addition to its budget from a recently completed charitable gift annuity. Board members should understand the benefits and liabilities of a gift annuity program. The education for all constituencies should include the organization’s allocation policies, the reasons for issuing life income agreements and the potential benefit that can be expected. While a surprise is not a friend, volume can be an ally. When everybody in the organization understands the planned giving program, they can all be involved in the business of prospecting and of effectively stewarding donor relationships. The more well-managed gift annuities the organization has in place, the more value accrues to donors and to the entire organization.
The ACGA is committed to promoting responsible philanthropy in every way that it can, and this information on best practices is intended to be helpful and supportive of a charity’s efforts. Additional assistance is available on our web site and we encourage you to visit us at www.acga-web.org.
The ACGA’s credibility in matters of regulatory and legislative issues is derived in large part from our member institutions. Thus, we encourage you to consider membership of the ACGA as we work to contribute to an atmosphere of “responsible consumer protection” in each of the states.
The Council’s volunteer board of directors is comprised of professionals active in the field of planned giving with some of America’s most well-respected charities. These individuals give unselfishly of their time and energy to assist others in their gift annuity programs. ACGA wishes to thank the following individuals for their contributions to this publication:
David Wheeler Newman