ENDOWMENT FUNDS AND THE UNIFORM PRUDENT MANAGEMENT OF INSTITUTIONAL FUNDS ACT

Sean Callan, Dinsmore& Shohl

The Uniform Prudent Management of Institutional Funds Act (“UPMIFA”) is a law that has been adopted, in one form or another, in all but eight states. Its provisions update and replace the Uniform Management of Institutional Funds Act (“UMIFA”) that has been the law in most states for at least two decades. UPMIFA provides rules for spending endowment funds, guidance on investment and management of funds and permits the release of restrictions on the use and management of endowment funds.  This article will focus on two provisions of UPMIFA that may help a foundation access endowment funds in situations where UMIFA would not.

Spending Provisions

One of the most significant changes UPMIFA made to UMIFA involves the rules applicable to withdrawing principal from endowment funds where the intent of the donor cannot be determined.  As with the prior act, UPMIFA requires a charity to conform to the intent of a donor when determining how much of an endowment fund it could expend each year. Under the old act, institutions were limited to expending only the net appreciation in the value of its endowment assets over the “historic dollar value” of the fund.  Historic dollar value is the value of a contribution when made.  In other words, the old act would not allow an institution to draw against the principal of an endowment fund if the value of the endowment fund sunk below its date of contribution (or “book”) value. Funds in such condition are often referred to as “underwater endowments.”

In contrast, UPMIFA completely does away with the concept of historic dollar value and instead allows institutions to appropriate for expenditure or accumulate so much of its endowment fund as it determines is prudent for the uses, benefits, purposes and duration for which the endowment fund was established.  That is, a foundation may, under UPMIFA, spend from an underwater endowment fund so long as it is prudent under the following factors.

• the duration and preservation of the endowment fund,
• the purposes of the institution and the fund,
• general economic conditions,
• effects of inflation and deflation,
• expected total return from income and the appreciation of investments,
• the institution’s other resources, and the institution’s investment policy

Ohio’s version of UPMIFA is unique in that it includes a presumption of prudence when an institution appropriates for expenditure in any year an amount not greater than five percent of the fair market value of its endowment fund.  The fair market value must be calculated on the basis of market values that are determined at least quarterly and averaged over a period of not less than three years.  Under the Ohio UPMIFA, the appropriation of more than five percent of the fair market value of the endowment fund does not create a presumption of imprudence; it merely removes the protection of the safe harbor.

Institutions should review their procedures for endowment spending (or adopt procedures if they have not already done so) to ensure compliance with the new requirements of UPMIFA.  Endowment spending procedures should include a prudent expenditure standard that takes into account the above listed factors.  In Ohio, institutions should consider adding a provision to their endowment spending procedures mandating heightened scrutiny of decisions to appropriate for expenditure amounts that are greater than five percent of the endowment fund’s fair market value because such an appropriation would put the institution outside of UPMIFA’s safe harbor.

Release of Restrictions

Many foundations hold a number of relatively small restricted funds that, due to their size and restrictions, are not useful in fulfilling the foundation’s charitable mission. While a foundation can always ask the donor to release his or her gift restrictions, many times donors are unavailable where the fund has been held for a long period of time. UPMIFA provides a simplified method to obtain a release of restrictions applicable to relatively small funds that have been held by the foundation for a long period of time.  The holding period and the value of the fund limitations vary from state to state.  In Ohio, this simplified method applies to institutional funds having a total value of less than $250,000.00 and where more than 10 years have elapsed since the fund was established.

The institution may release a restriction on the use of such funds if the institution determines that such restriction is unlawful, impracticable, impossible to achieve, or is wasteful and the institution provides 60 days advance notice to the Attorney General of its intent  to take advantage of this provision. Upon release of the restriction, the institution must use the property of the fund in a manner consistent with the charitable purposes expressed by the donor.

The adoption of UPMIFA in Ohio and other states was well timed to assist foundations in that it coincided with the substantial drop in the market values of many endowment funds. The new rules give an institution the opportunity to draw against an endowment fund even where it has fallen below its book value.