Philanthropic Capitalism: What the Successful Do Next

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“Surplus wealth is a sacred trust which its possessor is bound to administer in his lifetime for the good of the community.” Andrew Carnegie

Warren Buffett's recent announcement that he was giving away billions of dollars is the latest example of what is coming to be known as “philanthropic capitalism”. Philanthropic capitalism is not a new concept, it's been around in various forms since the 18th Century. What is new is the heights to which Buffett and fellow philanthropic capitalist Bill Gates are taking it.

It is not only the amount being given away, estimated to exceed $30 billion, that sets Buffett's actions apart. It is where and how he is doing it that is writing a new chapter in the wealth management book.

Buffett has earmarked a set number of Class B shares of Berkshire Hathaway stock to be given annually to five charitable foundations. Four of the foundations are run by Buffet's adult children. They are the Susan A. Buffett Foundation, named for and chaired by his adult daughter, which funds early education for children of low-income families; the Howard G. Buffett Foundation, set up by his eldest son, which focuses on environmental issues; NoVo Foundation, set up and run by son Peter and his wife Jennifer, which focuses on a variety of issues including education, human rights and the environment; and the Susan Thompson Buffett Foundation, formerly the Buffett Foundation but renamed after Buffett's late wife, which is chaired by daughter Susan and focuses on reproductive health issues. The largest sum, however, will be going to the Bill and Melinda Gates Foundation.

In gifting the largest number of shares to the Gates Foundation, Buffett heeds the first rules of philanthropic capitalism. He recognizes that the skills of giving money away are different from those used in acquiring wealth and since he does not possess those skills, he is trusting others, his children and the Gates', to do it for him. It is at this point that Buffet's version of philanthropic capitalism becomes somewhat unique.

Buffett is also becoming a trustee of the Gates Foundation. Bill Gates is already a member of the Berkshire Hathaway board. The gifts would seem to not only cement the friendship between America's two richest men, but also to ensure that at least one member of both boards will be less likely to dispute the actions of the head of each of the respective boards. Put more simply, Buffett is unlikely to publicly disagree with Gates philanthropic decisions and potentially anger a member of the Berkshire Hathaway board. Conversely, Gates is unlikely to question Buffett's investment decisions and risk the annual gifts promised to the Gates Foundation.

Since Buffett is the largest single shareholder in Berkshire Hathaway, and is gifting the largest portion of the shares earmarked for donation to charity to the Gates Foundation, it is likely that the Gates Foundation will, eventually, become the largest single shareholder. This situation raises some interesting issues. A common issue related to the gifting of stock is what happens in the event of a downturn. The Gates Foundation has experience with this issue already, having weathered a decline in the price of the Microsoft stock Gates himself donated to start the foundation, after Gates reduced his role in Microsoft. The second issue, the legal and tax issues related to a non-profit organization being the largest shareholder in a for-profit company, is rarer. In a few occurrences, the non-profit has been forced to divest itself of the interest.

Further, Buffett, whose dislike of inherited wealth and easing of the estate tax is well known, has virtually assured his children will be employed for as long as they want to be. Of course, because they are running non-profit foundations, their salaries and other compensation must be reasonable. It will, however, be paid in addition to their eventual inheritances from Buffett's estate, which despite the gifts and the estate tax burden, should still be a significant sum.

Buffett's and Gates' versions of philanthropic capitalism differs from previous models of philanthropy in that he is doing his gifting during his lifetime. Other notable philanthropists endowed foundations as part of their estates. By funding foundations during their lifetimes, both Buffett and Gates clearly expect to see results from their gifts. Buffett may be taking a more traditional “arm's length” approach, but he is nonetheless looking for their gifts to have a noticeable impact.

By making their gifts during their lifetime, both men reduce the size of their estates, and the related estate tax burden, by the amount of the gifts. There are also potential income and capital gains tax benefits.

“The tax law allows individuals to receive a charitable deduction of up to either 30 or 50 percent of adjusted gross income,” Mark Luscombe, Prinicpal Analyst with CCH, a WolterKluwer company, explains. “In this case involving a gift of stock and involving foundations, the 30 percent limit would appear to apply. Excess charitable contributions beyond the amount allowed in the current year as a deduction can be carried forward to future years.”

Estate planners and other wealth managers anticipate Buffet's philanthropic model to be an inspiration to others, just as his investing methods have been.

“It's a great model of simple, efficient tax planning,” Howard Zaritsky, an estate planning lawyer at the Pitcairn Financial Group in Vienna, Virginia, and author of several tax planning books, told the Providence Journal. “People are always looking for the complicated loophole. The simplest way to save taxes is to take something that has grossly gone up in value and give it to charity.

“Frankly, other people who have somewhat less than Warren Buffett should look very closely at what he is doing,” Zaritsky adds.

Philanthropic capitalism, as practiced by Buffett and Gates, is a practical expression of the adage “leave the world a better place than you found it.” Whether it is a model that will catch on with others remains to be seen.

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