Office of Tax Analysis

U.S. Treasury Department 

Washington, D.C. 20220 

Issued: July, 1976 

Distribution Requirements for Foundations 

Eugene Steuerle 

U.S. Treasury Department 

OTA Paper 12 May 1976 
TABLE OF CONTENTS 

EE 

Introduction........ ................ 1 

I. Historical Review ..................... 2 

A. Determination of the Distribution Rate ......... 2 

B. Attempts to Change the 1969 Act ............ 3 

C. Rates of Return vs. the Distribution Rate ....... 5 

11. Equity and Efficiency of Current Distribution Requirements ........................... 7 

A. Horizontal Inequity in Distribution Requirements . , . 7 

B. Instability of Distributions .............. 8 

111. Recommendations for Revised Distribution Requirements . . 11 

A. Elimination of the Actual Income Alternative ...... 11 

B. Replacement of "Money Rates and Investment Yields" ... 11 

C. Replacement of the Base to which the Distribution 

Rate is Applied .................... 12 

D. Ninimum Distribution Formula .............. 13 

(1) Inflation Adjustment ................ 14 

(2) Adjustment for New Contributions .......... 15 

E. Summary ........................ 15 

IV. A Question of Perpetuity .................. 17 

A. Growth of Individual Foundations ............ 17 

B. Growth of the Foundation Sector ............ 19 

V. Conclusion ......................... 22 
INTRODUCTION 

The Tax Reform Act of 1969 requires private foundations to make 

minimum annual charitable distributions equal to the greater of their 

actual income or a stated percentage ("applicable percentage") of 

their investment assets ,L' The applicable percentage for each taxable 

year is found by multiplying 6 percent by the ratio between money rates 

and investment yields for the previous taxable year and money rates and 

investment yields in 1969. The "applicable percentage" is determined 

annually by the Secretary of the Treasury. 

The purpose of this paper is to examine these minimum distribution 

requirements for foundations. The first section presents a brief 

historical review of the current law and proposals to change it. The 

second section deals with technical problems in the distribution requirements which lead to inequities across foundations and inefficiencies in 

the distribution of their funds. Proposals to eliminate these problems 

are presented in section 111. The fourth section discusses the role of 

public policy in requiring minimum distributions and analyzes the effect 

of such requirements on the growth (and perpetuity) of the foundation 

sector. Section V examines the impact of these requirements upon the 

broader charitable sector. Finally, a brief conclusion is contained in 

section VI. 
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I. HISTORICAL REVIEW 

A. Determination of the Distribution Rate. A 1965 Treasury 

Reportz' noted that Federal tax laws encourage and, in substantial 

measure, finance private charity. Yet, the report found that a number 

of foundations were deferring current grants for charitable purposes 

and instead accumulating income. This was seen as objectionable, both 

because worthy causes were not receiving needed funds, and because certain foundations were indefinitely perpetuating their existence. 

Recognizing that income could be accumulated directly through dividend 

or interest retentions or indirectly through appreciation in the value 

of assets, the report recommended that each private nonoperating foundation be required to make minimum distributions. These minimum distributions 

were to equal the greater of actual income or an aEplicable percentage multiplied by the net assets of the foundation. The Treasury Secretary was tu be 

given authority to adjust the applicable percentage depending upon 

market conditions. 

The April 22, 1969 Tax Reform Proposals of the Administration suggested a 5 percent minimum distribution requirement but made no mention 

of annual or periodic adjustment. While the House of Representatives 

accepted this 5 percent rate, the Senate did not, and a fair amount of 

debate ensued. Senator Percy successfully advanced an amendment on the 

floor to raise the minimum distribution requirement to 6 percent, adjusted on an annual basis. Since a previous unsuccessful effort had 

been made to impose a "limited life" on foundations, support for the 
-3-

6 percent rate came not only from those who felt that such a rate 

reflected the real rate of return on assets held by a typical foundation, 

but also from those who did not wish foundations to enjoy an indefinite 

life. The Treasury Department supported the 6 percent rate before the 

Conference Committee, and the Percy amendment was maintained in the 

final act. 

The 1969 Act provided for annual adjustments in the distribution 

rate by requiring that: 

"the applicable percentage for any taxable year beginning after 1970 shall be determined and published by 

the Secretary of Treasury or his delegate and shall bear 

a relationship to 6 percent which the Secretary or his 

delegate determines to be comparable to the relationship which the money rates anddnvestment yields for the 

calendar year immediately preceding the beginning of the 

taxable year bear to money rates and investment yields 

for the calendar year 1969. ''21 

Table 1 presents the distribution requirements that were applied to 

foundations for the years 1970 through 1976. Transitional rules applied 

to foundations established before enactment of the 1969 law. Therefore, 

no "applicable percentage" was applied to these foundations before 1972, 

and they were not required to distribute 6.0 percent of net worth until 

1975. 

B. Attempts to Change the 1969 Act. The 1969 distribution requirements, together with the steep stock market declines of 1973 and 

1974, caused many foundation trustees to become alarmed over the decline 

in their foundation's net worth. 

In response, several attempts have been made to reduce the distribution requirements. In 1971 a bill was introduced in the House 
. 

. . 

-4-

Table 1 

Distribution Rates for Foundation& 

. Year .

. 

. 

1970 

1971 

1972 

1973 

1974 

1975 

1976 

-l/ Foundations must distribute this percentage of net worth, or actual 

(in percent) 

Foundations 

Before . May 26, 1969 . 

6.0 

6.0 

5.5 

5.25 

6.0 

6.0 

6.75 

Organized 

After 

May 27, 1969 

-2/ 

-21 

4 125 

4.375 

5.5 

6.0 

6.75 

income, whichever is higher. 

-2/ Not applicable 
-5-

to allow foundations to compute their minimum distribution using the 

acquisition date value of their assets rather than current fair market 

value. This type of proposal would nullify the intent of the 1969 law, 

which takes into account all returns of the foundation's portfolio, 

whether realized or not. 

Other attempts to modify the 1969 law involved simple proposals to 

lower the basic 6 percent rate to 5 percent, 4 percent, or less. Arguments against forced "invasion of corpus" were heard, along with the 

contention that the basic 6 percent rate was unrealistic when compared 

to current market conditions and rates of return.5' In 1975, the Commission 

on Private Philanthropy and Public Needs (Filer Commission) claimed that 

the current distribution rate was higher, by a significant degree, than 

yield that could be anticipated from a balanced investment portfolio.-51 

The Commission recommended that a flat distribution rate of 5 percent be 

fixed by Congress. At the same time, the Treasury endorsed a similar 

recommendation. However, dissenters on the Commission noted that "the 

slow dispersal of a foundation is not necessarily a bad thing if new ones 

are being continually created." 

C. Rates of Return vs. the Distribution Rate. Much of the public 

debate regarding distribution requirements centered on the empirical 

question of the actual rate of return received by foundations on their 

portfolios. This paper does not directly deal with that question, but 

assumes that the actual rate can be appropriately measured. It is important that the empirical question of rates of return be separated from 

the policy question of the appropriate rate of distribution for foundations. The answer to the empirical question provides information by 
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which the policy question can be addressed, but the empirical question 

does not determine the answer to the policy question. In the remainder 

of this paper, alternative policies toward foundations (for example, 

"limited life", "no growth", or "growth and perpetuation") will be expressed in terms of the relationship between the long-term distribution 

rate and the long-term rate of return received by the foundations. A 

more restrictive policy (limited life) is thus one in which the distribution rate exceeds the rate of return, while a more liberal policy 

(growth and perpetuation) is one in which the rate of return exceeds the 

distribution rate. The next two sections of this paper treat the 

difference between the two rates as given by a predetermined national 

policy toward foundations. 
-7-

11. EQUITY AND EFFICIENCY OF CURRENT DISTRIBUTION REQUIREMENTS 

No matter how large or how small the required rate of distribution 

over the long run, a policy of required distributions for foundations 

should meet certain tests of efficiency and equity. First, any law should 

meet a standard of horizontal equity; that is, particular foundations 

should not be forced to make greater distributions because of a conservative investment policy in any particular year. Second, the distribution 

rate itself should not vary rapidly with short-term fluctuations in 

interest rates nor with changes in nominal yields due to inflation. 

Rapid variations would make it harder for foundations to prepare their 

financial plans, and could lead to wasteful distributions. Finally, 

required distributions should not fluctuate greatly from year to year. 

Unfortunately, the distribution requirements of the 1969 law fail to 

meet all of these tests. 

A, Horizontal Inequity in Distribution Requirements. A foundation's minimum required distribution is not merely a stated percentage 

of its investment assets, but rather the greater of either that number 

or its actual income. "Actual income" is based upon an accounting concept of realization which ignores unrealized capital gains and losses. 

Therefore, actual income can exceed economic income whenever the foundation's assets are declining in market value. Thus, an "actual income" 

rule can require foundations to distribute on average more than an 

"applicable percentage" of their net worth. On average, the foundations 

most affected by the "actual income" rule are probably those that invest 
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primarily in bonds and similar fixed-income securities rather than common 

stocks. Since bonds in general average lower rates of return over time 

than the combined dividend and appreciation yield of common shares, 

those foundations with a lower rate of return are in effect required 

to distribute a larger portion of their net worth over time, Conservative 

investment policies are thereby penalized. If the purpose of including 

actual income in the distribution rule is to raise the average distribution rate, this objective could be more equitably accomplished by increasing the "applicable percentage", 

In this context, it should be noted that the 1969 formula for 

calculating the "applicable percentage" does not reflect changes in the 

rate of inflation. With an increase in the rate of inflation, nominal 

yields can easily rise at the same time that real yields remain constant. 

If the distribution rate is supposed to adjust to the real rate of 

return on assets, then inflation should be explicity taken into account 

in any formula for determining that distribution rate. 

B. Instability of Distributions. Under the 1969 Act, required 

distributions depend both on the annually adjusted "applicable percentage" and on the market value of investment assets. Bath elements are 

subject to fluctuation which in turn can cause an unstable pattern of 

distributions by foundations. 

Since "money rates and investment yields" were not specifically 

defined in the law, the Treasury Department decided to measure these 

rates by the yield on 5-year Treasury securities, even though most foundations invest in other kinds of assets. Why then did the Treasury 
-9-

Department use 5-year Treasury securities? The Treasury Department was 

constrained by the requirement that the distribution rate be adjusted 

to reflect market returns for the calendar ye'ar immediately preceding 

each taxable year. Prices of assets such as stocks vary a great deal 

from one year to the next. If Treasury were to calculate yearly investment yields by including price changes as well as dividend yields, then 

distribution rates of -33 percent, -20 percent, or +50 percent would be 

common. Therefore, the unsatisfactory, yet simple resolution was to 

use an asset which has less price fluctuation and an interest rate that 

is comparatively stable. 

Because the "applicable percentage" is applied to the aggregate fair 

market valu&/ of all assets (less acquisition indebtedness) of the 

foundation, the percentage change in the size of the required distribution will be equal to the percentage change in the aggregate fair market 

value of assets, even when the distribution rate remains constant.-71 

A sizable fluctuation in required distributions can create two 

problems, First, it may lead to suboptimal planning on the part of the 

foundations, Many projects need substantial lead time to develop. 

Sudden increases in the value of a foundation's portfolio may require 

distributions for which the planning is inadequate.-81 

Secondly, because foundations are heavily invested in the stock and 

bond markets, and because a change in stock or bond prices generally acts 

as a leading indicator of a similar directional change in national 

production,/ the distribution requirements are pro-cyclical in nature. 
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That is, a decline (increase) in stock prices will lower (raise) the 

amount of distributions that foundations must make, and this reduction 

(increase) in distributions will likely accompany a downswing (upturn) 

in the economy. However, the need for foundation support may be greatest 

(least) when the economy is in a recession (boom). Required distributions are thus pro-cyclical in terms of national income and perhaps 

counter-cyclical in terms of needs. 
- 11 -

111. RECOMMENDATIONS FOR REVISED DISTRIBUTION REQUIREMENTS 

In the previous section it was concluded that distribution fequirements could meet certain tests of equity and efficiency only if: 

(1) foundations were not forced to distribute a greater portion of their 

assets because of conservative investment practices, (2) required distribution rates are adjusted only to reflect changes in the long-term 

expected real rate of return on assets, and (3) required distributions 

do not fluctuate too much from year to year.-lo! 

A. Elimination of the Actual Income Alternative. How might the 

current law for minimum distributions by foundations be revised so as to 

meet these standards of equity and efficiency? First, the "actual 

income" part of the minimum distribution rule should be eliminated. It 

makes no sense to base the "applicable rate" upon a concept of economic 

income which recognizes unrealized capital gains and losses, and then to 

have an alternative distribution rule based only on realized income. 

Besides, the actual income rule in general may require greater distributions from those foundations which have a lower real rate of return. 

All distribution requirements should be consistently based upon a 

concept of total income and not nominal realized income. 

B. Replacement of "Money Rates and Investment Yields". The second 

revision is to eliminate the requirement that the distribution rate 

reflect "money rates and investment yields" for the preceding calendar 

year. The mandatory distribution should be related to the long-term 

real rate of return on foundation investments; that rate can be approximated by the geometric mean of the total real rate of return for an 

11 average'' foundation portfolio held over an extended time span, There 
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exists a fair amount of information by which such a calculation can be 

made, For instance, both the dividend and price change components of 

all stocks listed on the New York Stock Exchange for a period of about 

five decades is currently available. The distribution rate could be 

recalculated every few years. The beginning year for calculating the 

geometric mean rate of return could either be fixed or adjustable, for 

example, the rate could be calculated by the geometric mean of annual 

returns from 1926 to present or from 40 years ago to present, 

Presumably, the same rate of return should apply to all foundations 

regardless of the actual composition of their assets. For pbvious reasons 

of equity and efficiency, the distribution requirement should not be 

relaxed for foundations with failing portfolios and tightened for foundations with successful portfolios. 

Since a measure of a long-run rate of return based upon a historic 

series will vary much less than will annual "money rates and investment 

yields," adoption of this revision would eliminate much of the annual 

variation in the distribution rate itself. More importantly, this revision 

would assure that changes in the distribution rate only reflect changes 

in the long-run real rate of return rather than short-run nominal yields. 

C. Replacement of the Base to which the Distribution Rate is 

Applied. Even with adoption of this second revision, there would remain 

sizable fluctuations in required distributions from year to year because of 

fluctuations in the base to which the distribution rate is applied. To increase stability of distributions, minimum distributions should not equal the 
- 13 -

distribution rate times the monthly average of the value of foundation 

portfolio in the previous year (the current law). Rather, the base should 

be a weighted average of the value of the foundation's net worth over 

several years. Two minor problems arise when the base is calculated in this 

manner. First, inflation understates the value of the portfolio in a past 

year if that value is not converted (inflated) to present value. Secondly, net worth derived from new contributions might be treated separately 

from net worth due to past contributions. These problems are dealt with 

later. At this point, we shall assume that there is no inflation or 

deflation and that no new contributions are received by the foundation. 

D. Minimum Distribution Formula. Minimum distribution requirements 

can be calculated using a simple formula which reflects these various 

considerations. Let: 

Dt = minimum distribution in year t 

At = net asset value at beginning of year t 

a = required distribution rate 

6 = an arbitrary number, equal to or less than one, which 

indicates the proportion of the weighted asset base 

(against which a is applied) accounted for by the 

value of assets in the current year. 

Suppose that in the first year the minimum distribution formula is: 

To reduce fluctuations in required distributions, in the second year 

the base is a weighted composite of assets in the first and second years: 

Dt+l = aBAt+l + a(l-8)At (2) 

However, equation (2) may be rewritten as: 
- 14 -

Dt+l = aBAt+l + (l+)Dt (3) 

Equation (3) may be generalized for any year as: 

Dt+n = "$At* + (l-B)Dth-l -111 (4) 

Expressing (1-6 )Dt+n-l in terms of the required distribution rate 

and net asset value, it can be seen that: 

In turn, if (1-f3)2Dt+n-2 is expressed in terms of the required distribution rate and net asset value, it becomes apparent that required distributions in a given year can be viewed as equal to the distribution rate 

(a> times a weighted average (B, (1-B)B , (14l2f3,...) of the net asset 

values of the foundation in the current and previous years (At+n 

At+n-l, However, for administrative purposes, equation (3) 

is easier to work with. It simply says that the minimum distribution this 

year is a weighted average of the distribution rate times net assets at the 

beginning of the year and the minimum distribution. required last year. 

The size of f3 in equation (3) can be chosen to give greater or 

lesser weight to current asset values. A high B gives greater weight to 

recent asset values and accentuates the fluctuation in required distributions; a small B spreads the weight more evenly over past years and 

dampens the fluctuation in required distributions. 

(1) Inflation Adjustment. To account for inflation, equation (3) 

can still be used, except that Dt should be converted to reflect the 

level of prices in time period t + 1. Thus if the rate of inflation in 
- 15 -

period t is it, then: 

Dt+1 = "BAt+l + (1-6) (l+it)Dt 

Such an inflation adjustment effectively converts each A

t+Z 

term i n

- equation (4) into the term t+n-1 by period n, so that 

At+Z TTt+z

c 

the minimum distribution is still the distribution rate times a weighted 

average of the net assets of the foundation in previous years, only now 

net assets in past years are converted into current dollars. Presumably 

the values of it could be specified annually by the Treasury, 

(2) Adjustment for New Contributions, New contributions to a 

foundation's endowment probably should be treated like any other growth in 

asset values. Depending on the size of B , new contributions would then 

be reflected more or less rapidly in higher distributions, This approach 

has the benefit of allowing the foundations time to plan for expenditures 

from new contributions. 

Alternatively, a requirement could be imposed that current year 

distributions out of new contributions (Ct+l) equal rather than 

"%+1 as implied when new contributions are treated as part of At+l 

in equation (3). Such a requirement would cause distributions to increase 

immediately in response to new contributions. 

E. Summary. The revised distribution rules proposed in this section 

would succeed where the current formula fails. The minimum distribution 

would adjust to the long-term rate of return on assets, and minimum distributions would become more stable over economic cycles, Efficiency in 
- 16 -

distributions would be enhanced and equity across foundations would be 

promoted . 

Briefly, the recomendations are: 

(1) Eliminate the requirement that distributions must equal actual 

income whenever actual income is greater than the distribution rate 

multiplied by the net assets of the foundation; 

(2) Adjust the distribution rate periodically to reflect the longterm real rate of return on a typical foundation portfolio rather 

than the nominal rate of return on Treasury notes; 

(3) Determine each foundation's minimum required distribution by a 

weighted average of the previous year's distribution and the current 

net assets of the foundation multiplied by the distribution rate. 
- 17 -

IV, A QUESTION OF PERPETUITY 

Any distribution requirement, no matter how small, affects the 

ability of an organization to grow. The greater the amount of income 

that is disbursed, the lesser the accumulation of funds in a foundation's 

portfolio. Some commentators have extracted from this simple relationship 

an argument that the current distribution rate will "bring about a 

slow but certain death sentence"l2' to foundations. However, the relationship between growth and a required distribution has not been systematically 

analyzed. The effect of the distribution rate on a foundation not receiving new contributions will be discussed first. Then the relationship 

between the distribution rate, the rate of return on assets, and the rate 

of contribution will be analyzed in order to examine the effect of this 

relationship on the growth and survival of the foundation sector. 

A. Growth of Individual Foundations, What impact will the distribution rate have upon an established foundation receiving no new contributions and distributing the minimum amount required by law? The answer 

depends on the difference between the prescribed distribution rate and the 

rate of return on assets. The relationship between this difference and 

the net worth of the foundation is illustrated in Table 2. When the 

distribution rate is marginally greater than the real rate of return on 

assets, the net worth of a foundation receiving no new contributions will 

be gradually reduced. In Table 2, the half-life of a foundation indicates 

the amount of time it will take for the real net worth of the foundation 
- 18 -

to halve given the difference between the distribution rate and the real 

rate of return on assets. 

One of the principal arguments given for reducing the current distribution rate was that 5 percent represented the real rate of return 

achievable by a foundation portfolio, and that current distribution requirements were therefore about 1 percent higher than this rate of return. 

Table 2 reveals that, if these numbers are correct, the real net worth 

of an "average" foundation receiving no new contributions will halve in 

about 70 years. 

Table 2 

Half-life of Foundations Receiving No Contributions 

Distribution Rate minus Half -1if e 

Rate of Return on Assets (Years) 

.00 Infinity 

.Ol 69 

.02 35 

.03 23 

Assuming these numbers are correct,=' can it be concluded that the 

distribution rate should be lowered to 5 percent? The answer depends upon 

the objective of public policy toward foundations. If the objective 

is to gradually liquidate existing foundations which receive no new 

contributions, then a distribution rate in excess of the net rate 

of return on assets is entirely appropriate. On the other hand, if 
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the objective is to preserve or enhance the real assets of exist-ing 

foundations, then the.distribution rate should not exceed the net raxe 

of re turn. 9' 

B. Growth of the Foundation Sector. The growth of the foundation 

sector depends not only upon the relationship between the rate of return 

on assets and the required distribution rate, but also upon the rate at 

which the sector acquires new contributions. 

To examine the relationship between the real rate of return on assets, 

the foundation distribution rate, the rate of growth of contributions, 

and the size of the foundation sector over time, make the simple assumption that all of the relevant rates are constant over time. That is, let: 

r = real rate of return on foundation sector net worth; 

a = foundation distribution rate; 

w = rate of growth of national wealth 

Also let 

At = net worth of the foundation sector in time period t; 

Ct = contributions made to the foundation sector in time period t; 

et = ratio between Ct and At; 

Wt = national wealth in time period t; 

The asset value of the foundation sector will decline if: 

A2 < 

By definition: 

A2 = Al(l+r-a+B1) 

Hence, inequality (7) may be rewritten: 
- 20 -

r+O1<a (9) 

In other words, the net worth of the foundation sector will decline in 

any year in which the rate of return on assets plus the ratio of new 

contributions to assets is less than the distribution rate. 

The absolute size of the foundation sector may not be so important 

as its size relative to national wealth. By definition: 

At+1 = At(l+r-a+Ot) 

Wt+l Wt (l*) 

Thus, assets of the foundation sector are growing relative to national 

wealth whenever: 

r + Ot > a +w (11) 

Much debate has centered around the question of whether the distribution rate set by the Secretary of the Treasury has been greater than or 

approximately equal to the real rate of return on assets. More important 

for the foundation sector as a whole, however, is its size relative to 

the national economy. As inequality (11) indicates, if the rate of return 

plus the rate of contributions exceed the distribution rate plus the rate of 

growth in national wealth, then the net worth of the foundation sector will 

grow relative to national wealth. Otherwise, the sector will decline in 

relative terms. The case where the distribution rate just equals the rate 

of return is merely a particular case which falls between these two extremes, with no particular significance for the relative size of the 

found a tion sector -141 
- 21 -

It should be pointed out that an absolute or relative decline in 

asset value for an individual foundation or even for the foundation sector 

does not necessarily mean a decline in asset value for the charitable 

sector. Many of the distributions of foundations are made as gifts of 

buildings, works of art, and other assets to public charities. Hence, 

it is primarily the control of assets (either by donors or through trustees) 

that is limited by the requirement of a minimum distribution by foundations. The share of national wealth controlled by the foundation sector 

may be limited, but the net worth of the charitable sector does not face a 

similar restriction. 
- 22 -

V. CONCLUSION 

This paper has examined the history, status and effects of distribution requirements imposed on foundations. We conclude that 

distribution requirements should meet certain tests of equity and 

efficiency. In particular, foundations should not be penalized for 

conservative investment policies and required distributions should not 

fluctuate substantially from year to year. To accomplish these goals: 

1) foundations should not be required to distribute actual income when it 

is greater than the distribution rate times net worth; 2) a consistent 

relationship should be maintained between the distribution rate and the 

long-term real rate of return on an average foundation portfolio; 3) required annual distributions should be a weighted average of the previous 

year's distributions and the distribution rate times current net worth. 

The effect of the distribution rate on growth and perpetuity differs 

for individual foundations receiving no new contributions, the foundation 

sector, and the charitable sector. The size of some individual foundations 

may decline if the distribution rate is greater than the rate of return on 

assets, but the size of the foundation sector depends largely upon the amount 

of new contributions received by all its members. The net worth of the 

charitable sector need not decline whenever there are distributions from 

foundations, since those distributions may be to other institutions within 

the charitable sector. 
- 23 -

FOOTNOTES 

L'Internal Revenue Code Section 4942 imposes a penalty tax for 

failure to meet the distributional requirement. 

2/"U. S. Treasury Department Report on Private Foundations", 

Washington: U.S. Government Printing Office, 1965. 

A/Internal Revenue Service Code Section 4942 (e) (3) 

A'These views were offered at hearings on the "Impact of Current 

Economic Crisis on Foundations" before the Subcommittee on Foundations of 

the Committee on Finance of the United States Senate in November, 1974. 

?/Commission on Private Philanthropy and Public Needs, (Fner Commission) , Wving in EnerZka, 1'975, pp. 33-176. 

?/Aggregate fair market value is based on a monthly average of 

fair market values of securities when market quotations on those 

securities are readily available. 

z/If the distribution rate were based upon the annual "real" return 

to all assets, the fluctuation in required distributions would be 

greater, since the value of all assets and the distribution rate 

(calculated in part by change in value of assets) normally rise and fall 

together. 

/Stability of distribution requirements is of course supported by 

many' foundation trustees. For l'nsc%ce, Dr , Jonn KnowTes, President, 

The Rockf eller Foundation, has commented that "the pay-out requirement 

should be sufficiently stable so that foundations can plan for the 

management of their portfolios and the development of programs without 

the disruption of short-run changes." Hearings before the Subcommittee 

on Foundations of the Committee on Finance, U.S. Senate, November 24, 1974 

(Washington, D.C.: Government Printing Office, 1974) p. 60. 

?/For instance, a 500 common stock price index demonstrates a 

mediam "lead" time of 5 1/2 months over peaks and troughs in GNP. See 

Victor Zarnowitz and Charlotte Boschan, "Cyclical Indicators: An 

Evaluation and New Leading Indexes", Business Conditions Digest, 

(May, 1975) p. XV. 

g/Interestingly, revisions (2) and (3) above coincide with the 

spending requirements devised by Litvack, Malkiel, and Quandt for endowment 

income. Concerned with insuring the perpetuity of an endowment, these 

economists argue that the ideal spending rule adopted by an institution 

would "protect the real value of the corpus endowment fund" (the longterm rate of spending would not be greater than the real rate of return 

on assets) and would make spendable endowment income ...relatively 
- 24 -

stable from year to year." See James M. Litvack, Burton G. Malkiel and 

Richard E. Quandt, "A Plan for the Definition of Endowment Income," 

American Economic Review, LVIV (May, 1974): 433. 

U'Equation (4) can also be written as 

Dt+n 

If f3 is less than one, the change in distribution requirements from year 

to year will be lessened (since under current law that change equals 

- D ) while under the proposed law the change would be reduced

t : to a proportion 6 )of the original amount). Hence fluctuations are 

automatically reduced. 

G'Mr. Robert Smith, Pew Memorial Trust, Statement before the 

Subcommittee on Foundations. November 25, 1974, p. 117 

G'Whether 5 percent is the mean rate of return on assets of foundations is another question. The argument to lower the estimate of the long 

run rate of return after a period in which equity prices have declined can 

only be valid if one is also willing to raise that estimate when those 

prices rise. 

%/Indeed, I have shown elsewhere that for a wide range of distribution 

rates both above and below the rate of return on assets, the relative size 

of the foundation sector over the long run will stabilize at some multiple 

of current contributions. See Eugene Steuerle, "Pay-Out Requirements for 

Foundations", forthcoming in a compendium of research sponsored by the 

Commission on Private Philanthropy and Public Needs. 
- 25 -

REFERENCES 

Commission on Foundations and Private Philanthropy, "Foundations, 

Private Giving, and Public Giving", 1970. 

Commission on Private Philanthropy and Public Needs, "Giving in America", 

1975, 

Fischer, L., and Lorie, J.H., "Rates of Return on Investments in Common 

Stocks. The Year by Year Record, 1926-1965", Journal of Business 41, 

July, 1968, pp. 291-316. 

Litvack, James M., Malkiel, Burton G., and Quandt, Richard E., "A Plan for 

the Definition of Endowment Income", American Economic Review LVIV, 

May, 1974, pp. 433-437. 

Nichols, D.A., "A Measure of Income for Perpetual Institutions", Social 

Systems Research Institute Paper d 7242, Madison, Wisconsin: 

University of Wisconsin, 1972. 

Tobin, James, "What is Permanent Endowment Income?", American Economic 

Review LVIV, May, 1974, pp. 427-432. 

U.S. Department of Treasury, "Report on Private Foundations", Washington, D.C.: 

Government Printing Office, 1965. 

U.S. Senate, Hearings Before the Subcommittee on Foundations of the 

Committee on Finance, May 13, 14, and June 3, 1974, Washington, D.C.: 

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