What is an Endowment Fund?
Many people think about universities when they hear news about endowment funds. That’s not surprising, as the market value of college endowment funds is more than $598 billion, with Harvard University topping the list with over $35 billion in its endowment.
Much of this has to do with a growing number of university alumni contributing to endowment funds as years pass, as well as prudent investments.
However, such funds are not restricted to educational institutions. Universities, churches, hospitals, nonprofit charities and community foundations also have this type of charitable fund.
An endowment fund, quite simply, is money set aside (invested) to earn revenue to fund some type of charitable activity. Unlike a typical investment fund, the beneficiary of an endowment fund is a nonprofit organization instead of individual investors.
The principal value of the endowment fund is kept intact, while the investment earnings can be distributable dollars used for charitable grants to nonprofits. Thus, an endowment fund can be held permanently, allowing donors to support causes they care about in perpetuity.
How Endowment Funds Work
Endowment funds are initially invested by donors for certain charitable purposes. They are usually established as trusts, which keep them independent of the organizations that they support. Endowment funds consist of cash, equities, bonds, and other types of securities that can generate investment income.
The major difference between an endowment fund and a typical investment fund – such as a mutual fund – is that the beneficiary of an endowment fund is a non-profit organization instead of individual investors. Typically, the principal value of an endowment fund is kept intact, while the investment income can be used for certain purposes.
Thus, an endowment fund can be held permanently. The donors restrict the purposes an endowment fund can be used for. For example, a donor may provide capital to a fund with an intent to save animals exclusively.
Features of Endowment Funds
- The endowment fund is held by non-profit organizations such as hospitals, schools, etc.
- It is funded by way of donations. The donations can either be specific or general.
- There are policies regarding the withdrawal of the principal amount, usage of funds, and investments in the fund.
- The fund consists of the principal amount and the income earned on such principal.
Types of Endowment Funds
1. Term Endowment
As mentioned above, many endowment funds are structured with their principals reserved and not available for the daily use of the organizations. A term endowment is a type of fund that all or a part of the principal can only be used after a certain time or the occurrence of a certain event.
The term or the triggering event is pre-determined in the fund policy according to the donor’s intent. However, the principal can be invested to generate investment income, which is available for the use of an organization.
2. Restricted Endowment
There are limitations to the use of capital in a restricted endowment fund. It can only be used for certain purposes determined by the donor. For example, a restricted university endowment fund may only serve to pay scholarships to students with certain academic achievements.
3. Unrestricted Endowment
In contrast to a restricted endowment, the donor of an unrestricted endowment fund does not limit the purpose of the usage. The recipient is allowed to spend the money for any purpose. This type of funds is much less common than the restricted ones.
The typical type of endowment fund is permanent funds, which are established to exist in perpetuity. In contrast, a quasi-endowment fund is not required by any legal restriction to exist permanently, which means the principal of a quasi-endowment is allowed to be spent at some point.
A quasi-endowment is also known as a “board designated” endowment fund. It works as a typical endowment does, except the use of funds can be determined by the governing board of the organization that the fund serves, instead of the donors.
Usage and withdrawal restrictions may exist in a quasi-endowment fund, but the board can end the restrictions for any reason and use the money for any purpose at any time. Compared with typical endowment funds, a quasi-endowment offers more flexibility to an organization in funding special projects in the future.
Advantages of Endowment Funds
- The fund helps the organization attain its objectives by acting as financial support.
- The fund is managed by professional managers who undertake due care in the management of the fund.
- It acts as a regular source of income for the organization.
- The fund provides additional support to the annual fund of the organization.
- The organization can utilize the proceeds of the funds for various programs.
Disadvantages of Endowment Funds
- The contributions made through specific donations can be used for limited purposes only.
- There may exist restrictions for the withdrawal of the funds, which may sometimes hamper operations.
Non-profit organizations hold these, and there may be different policies concerning each such fund. However, each such fund contributes to the organization’s growth for which they are created