"It's a False Dichotomy." Questioning Perpetuity and Spend Down with Clara Miller

Clara Miller, former president of the Heron Foundation.

At the SOCAP convention last October, F.B. Heron Foundation President Emerita and impact investing pioneer Clara Miller gave a talk in which she questioned foundations’ perpetual existence. When I chatted with Cate Fox, director of the Center for Cultural Innovation’s AmbitioUS program, for an interview a few weeks back, she relayed Miller’s point from the talk that “perpetuity was for nature, but it wasn’t for foundations.” Fox went on, “I found it to be very important. There’s the need to have realistic conversations about the idea that foundations tie up a lot of money forever.”

When COVID hit in 2020, funding leaders grappled with the trade-offs that come with increasing annual endowment payouts to meet an unprecedented crisis versus staying the course so the foundation can respond to future needs. While that conversation has lost some of its urgency now that the pandemic is receding, the underlying questions are as resonant as ever. Trustees presiding over ever-growing endowments are obligated to revisit the perpetuity question at a time when many of the challenges they’re committed to addressing grow more intractable by the day.

I reached out to Miller for a deeper dive into the highly complex and multifaceted perpetuity debate. Here are some excerpts from that exchange, which have been edited for clarity.

Paraphrasing your remarks at the SOCAP 2022 meeting, you said, “There is only one perpetuity and it’s for all of us: nature. If that’s gone, we’re gone.” Can you elaborate on that?

I think that’s irrefutable! I was commenting on our tendency in philanthropy to think of “perpetuity” narrowly, as if it’s perpetuity for a particular cache of assets — a foundation’s endowment, for example. The implication is that financial assets themselves are the means to providing perpetual benefits, that preserving them is virtually always prudent and that doing so meets the interests of a beneficiary and fulfills the fiduciary duty of care. I think it’s broader than that. Beneficiaries’ general welfare is included in fiduciary duty. While it’s convenient to act as though preserving money for perpetuity, regardless of all other factors, is sensible and should be the default for endowed foundations, it’s not reasonable anymore.

Today, we’re up against existential risks, and a dominant one is to natural systems. Without functional natural systems, financial assets are worthless. In that light, “perpetuity of the financial endowment” is a pretty paltry goal for true fiduciaries. As a Wall Street friend once put it, “Who cares about the market if everybody’s dead?”

When I first reached out to you, you wrote, “On the perpetuity issue, we all know it’s idiocy (for many reasons).” For the record, what are those reasons?

Oh, okay, “idiocy” might have been a bit strong. I’m sorry. I guess I might have used a term like “blindly obedient” or called it “unrelated to the public good” instead. I haven’t seen any evidence that so-called “perpetuity” has any mission-related advantages per se over other time horizons, except to the asset managers who are hoping to preserve assets under management. For the record, I also haven’t seen any evidence that “spend down” would achieve so much good from a mission perspective that it should be the default. Either way, it’s a false dichotomy, and careless.

Foundations are obviously comfortable with the status quo. What would be your suggestions for a better way?

I favor the wild and crazy stuff, like thoughtful judgment of how one might best invest and spend money to achieve mission. That could mean embracing an indefinite or varied time horizon, where one asks, “What are we trying to achieve? What’s the right time horizon for that undertaking? How do we use money to help meet the needs of the investees or grantees, so they will be strong in the face of challenges? Is there an opportunity where faster spend, a longer-term investment, or another alternative would be best aligned with our goals?”

This isn’t conventional asset management or the usual rationing of grants. This is challenging. It takes skill and some understanding of enterprise finance. It takes the intentional choice of a financial role in the larger market. But it avoids substituting lockstep investment management and default spending policies for a much harder job: optimizing for finance and mission together by wielding money skillfully — and knowing when it doesn’t fill the bill. 

What about the issue of regulatory compliance? 

For conventional foundations, tax compliance is usually the fig leaf applied to shield perpetuity, putting aside the specifics of a trust or legacy — which appear to be quite malleable. Do we need to comply with tax regulation? Of course. But letting tax abhorrence become a foundation’s strategic imperative is a failure of the imagination at best. If we spend down too fast, or too slow, or miss payout for three or more years, what would happen? Disaster! We’d have to pay a tax penalty! Horrors! 

My view is that it’s the opportunity outside the walls of the foundation that should be guiding the choice, not tax law, wealth preservation, the protection of the donor or similar hermetic factors. It’s perfectly possible to connect mission to time horizon, and to the full range of mission-relevant spending and investment choices, rather than to let the tax rubric or a disconnected belief about “spend-down” or “perpetuity” create a false dichotomy.

Do you know any foundation that has actually done this?

I have been directly involved in hands-on management of time horizon under a foundation’s tax rubric — that was our approach at Heron when I was there — and can recommend it. And others are moving in that direction as they begin to treat their assets/endowments as mission-relevant, even the largest ones. The Ford Foundation comes to mind.

Proponents for perpetuity say, “Well, there will be vast needs 20, 50, 100 years from now, so we need to make sure there’s money available.” How do you counter that?

I think that’s an excuse rather than a valid reason. The marginal increase in the amount of money foundations will have from investing for 20 or 50 years, when compared to the increase in philanthropic assets available from a burgeoning crop of extremely wealthy people, has been de minimis over time.

Let’s go back 20 years, to 2003. Or even 50 years, to 1973. Are we saying, “Thank goodness those far-sighted foundations didn’t spend more money then?” I haven’t heard that, ever. On the other hand, whether from foundations or other sources, I have heard: “Gee, it might have made sense back then to spend more money on prevention of climate change, or prison reform, or public health” — all of which have become more complex and expensive challenges to address now.

Foundations don’t really have that much money, so pretending that they could be the main bulwark of meeting societal needs is misleading. If all U.S. foundations spent down tomorrow, it would amount to about 14 months of the K-12 school budget. We can’t fulfill “vast needs” now, and given current conditions, “vast needs” are only going to get more vast. Substituting for government has never been an option for foundations, even though we, like every other corporation, are called to be charitable when the chips are down.

In our regular operations, however, we must be more thoughtful and creative than ever. That means weaning ourselves from the lights on/lights off approach that [the dichotomy of] either perpetuity or spend-down implies. 

Would you agree that there are opportunities for spend-down, then?

Yes. There are sometimes real opportunities that are compelling and immediate. When the Irene Diamond Foundation spent down in a quest to conquer AIDS, I’m very glad it didn’t decide to take the “keep money back so you can get bigger for the AIDS challenges of tomorrow” approach.

But that’s not to say that spending down in lockstep is any better than perpetuity. Emptying all the foundations’ endowments and applying them to social needs tomorrow morning would be no better than hogging them in the current elaborate rationing operation.

Proponents for perpetuity also point to the magic of compounded interest. By drawing steadily on investment income, a foundation that sticks around can move far more money out the door than one that spends down early. Your thoughts?

I have seen some terrific work funded by both large and small amounts of money, and don’t think that size alone is the determining factor for effectiveness — although the size of assets under management is the determining factor for investment managers’ compensation. While foundations and donor-advised funds are definitely getting bigger, I haven’t seen the connection of large size alone to positive progress.

It’s also more likely to be the magic of private equity than of compounded interest. If proponents of perpetuity looked at the balance sheets of the largest foundations, they would see a large concentration — usually 80% or more — of private equity, alternative assets, distressed debt and other “level three” assets. From the investment management point of view, these are more likely to assure growth of assets and purchasing power, yet they are also typically subject to a multiyear lockup. 

This sacrifices liquidity for higher returns and makes it less likely that foundations have large holdings of liquid assets like debt or publicly traded stock that could be converted to cash in an emergency, although in the recent COVID emergency, a number of them borrowed against their holdings to create liquidity.

So are you suggesting that this approach should be abandoned?

Given extremes in wealth inequality and related issues around climate degradation, civil unrest and public health outcomes, one might reasonably ask if the wait for the run-up in value is worth watching problems become worse for lack of attention in the interim. There’s even a pretty good chance that some of the activities producing those outsized returns undermined the work of the folks on the grantmaking side of the house.

It’s just not necessary. There seems to be a belief that a “perpetual endowment” requires a “conventional investment strategy” coupled with the idea that making grants is the only way to fulfill mission, and that the grant budget would be sacrificed to mission-aligned investing. That misconception has distorted the conversation. It’s eminently possible for foundations to invest their assets in alignment with their missions — up and down asset classes — and preserve purchasing power and grant spending to boot, and it has been done.

But are there situations where time horizons can be good?

I have seen cases where perpetuity is harmless or even helpful. Housing trusts and nature preserves survive, and their perpetuity honors their purpose. Activities that have no predictable positive social or financial value at all — like basic research in science, or the most esoteric work in the arts — get support, and often turn out to be the most important to our long-term progress, prosperity and happiness. Diversity, serendipity, even whimsy are honored.

I don’t know what’s best for the world, and don’t think anybody else does, either — including effective altruists. I do, however, think creativity, pluralism and nutty ideas are public goods. Maybe they need longer time horizons. I’m not against the long view, I simply think it should be tied to mission explicitly, and renewed with other aspects of strategy at regular intervals.

Regarding changes to the tax code, do you think private foundations should spend down within X years? Do you think the annual payout rate of 5% should be increased?

I think it’s the wrong question. How rapidly, or slowly, a foundation spends down — or even raises additional money, which is rarely mentioned as a possibility — should be connected to its professed mission. The idea that “spend down” is better than “invest” implies that making grants is a better way to fulfill mission than investing, and I haven’t seen any evidence that this is true. Time horizon should be attached to all potential uses of assets for mission.

Both spending and investing can and should be focused on mission, and I think it would be reasonable for a foundation to file a plan [with the IRS] that connects mission to money over a time period during which it hopes it can make progress. If a foundation is established to protect pre-Columbian art, for example, it might make a good case for perpetuity, but more importantly, it would be its responsibility to make a case for how much it might need to invest and spend, and how the numbers would pencil out over an interim time period — at which point it would renew the plan with the IRS or other authorities for the next time period. Both investments and spending would contribute to the plan, which would be similar to a strategic and business plan for any enterprise.

I can see the eye rolls! But it’s nothing more or less than most foundations ask of their grantees for small, time-limited and purpose-restricted grants, every year.