What Is The Endowment Fund?
An endowment fund is a kind of investment fund that a non-profit organization holds, and amounts are frequently withdrawn from the fund to meet general and specific needs. The fund consists of the number of investments made and income earned on such investments.
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. The returns earned from investing such funds are used to operations and the development and expansion programs of the organization.
Table of contents
- An endowment fund is an investment fund held by a nonprofit organization, with funds often taken to support general and specialized requirements. The fund is made up of the number of investments made as well as the revenue produced from those investments.
- Endowment funds rely on donations as their primary funding source. They have policies for investments, withdrawals, and usage. The initial investment remains untouched, and only investment income is used for activities.
- Nonprofit organizations hold endowment funds funded by donations for withdrawing and investing in the principal amount and the income earned.
How Does Endowment Fund Work?
The endowment funds are funded mainly by way of donations. The funds have specific policies concerning investments, withdrawal as well as usage of the funds. Normally the policies allow that the initial investment, known as the principal, shall remain untouched, and only the investment income can be withdrawn for use in the operations of the non-profit organization.
In the case of most large funds, a part of the principal amount is allowed to be withdrawn after a particular period. In such a case, donations remain invested in the fund for a longer time and hence increase the value of the fund. Portfolio managers mostly manage portfolio managersPortfolio ManagersA portfolio manager is a financial market expert who strategically designs investment portfolios..
Contributions are made to the fund by way of donations. Non-profit organizations hold these to meet their day-to-day operations and specific needs, and such funds work as financial support for such organizations. Such contributions thus form part of the fund and are invested as per the endowment fund rules.
The fund generates income, which is used for the operations and objectives of the organization. There exist different policies for subsequent withdrawal from the fund. Some funds may allow the principal amount to be withdrawn after a certain time. On the other hand, some non profit endowment fund may not allow the withdrawal of the principal amount at all. Thus, one must look at the fund policy to understand the withdrawal terms
Some essential features of the fund are as follows:
- The endowment fund is held by non-profit organizationsNon-profit OrganizationsA not-for-profit organization refers to a legal entity that isn't created to generate profits or revenue for its owners but aims at social, educational, religious or public welfare and service. Such an organization is tax-exempted and run through donations or any other income it makes. such as hospitals, schools, etc.
- The fund is managed by a board of trustees or investment committee. They need to keep track of the spending rate, meet the legal requirements and ensure that the objective of the entity is aligned with the operation process. The donor can decide whether they want to donate for the general development of working of the organization or for specific purposes like scholarship or research.
- 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.
- These funds are designed such that they will exist forever or in perpetuity. A part of the return is spent on the operations of the entity, and the rest is allowed to grow over time.
Thus, the above are some common as per the endowment fund rules.
Here is an example that will provide a suitable explanation of the concept.
One may consider the real-life example of Harvard, the University of Texas, Princeton, and Stanford, which held endowment funds of more than $25 million in 2017. The fund was being criticized since, although such huge amounts were lying in the funds, the tuition fees were increasing.
Given below are some of the components of non profit endowment fund.
#1 – Investment Policy
It contains policies for investments that can be made by a manager and his expected approach to making such investments.
#2 – Withdrawal Policy
This part contains details on the amount allowed to be withdrawn from the fund and the time interval at which such withdrawals can be made.
#3 – Usage Policy
It provides guidelines for the fund’s use and aims to ensure that no deviation is made for such purposes.
#1 – Restricted Funds
In such funds, limitations are placed by the donor for the usage of the proceeds of the donation for a specific purpose. Thus, the funds for such donation can be utilized for the purpose specified by the donor only.
#2 – Unrestricted Funds
In these charitable endowment fund, there exists no limitation or restriction for usage of the fund. As a result, the organization is free to utilize the proceeds per its policies to meet its objectives.
#3 – Quasi-Endowment Funds
Such endowment fund trust face restrictions, not from the donors but from the governing head of the organization, and are intended to generate income for a long time. There exist restrictions regarding the utilization of principal and income portions of the fund, and the same can be accessed only as per the instructions of the governing body.
#4 – Term Endowment Funds
These funds contain a condition that the principal amount or part of it can be used only after the expiry of a certain time or the happening of a certain event, as decided by the donor. After the time limitation imposed by the donor is over, the organization is free to utilize the fund amounts at its discretion.
This charitable endowment fund has its advantages and disadvantages. Let us first analyze the benefits of the same.
- 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.
Let us also go through the disadvantages of the endowment fund trust.
- 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.
Frequently Asked Questions (FAQs)
For setting up an endowment fund for a nonprofit, one must create investment, spending, and gift acceptance policies. Whatever choice you make, the next step is to create an investment policy statement, a spending policy, and a gift acceptance policy. Next, create and fund an investment account, then monitor it continuously.
This fund is a reliable source of income for the organization and supplements its annual fund. In addition, the organization can use the funds to support various programs.
Endowments are generally funds that are limited indefinitely. In most situations, their principal cannot be spent, and only a certain percentage of the interest earned may be paid yearly. Furthermore, there are limitations on how the claim can be used
This has been a guide to what is Endowment Fund. We explain it with example, types, features, components, advantages & disadvantages. You can learn more about it from the following articles –