Lawsuit over $21 million donor-advised fund highlights risks of DAFs
Rıdvan_çelik | Istock | Getty Images
A version of this article originally appeared in CNBC’s Inside Wealth newsletter with Robert Frank, a weekly guide to high-net-worth investors and consumers. become a member to receive future editions straight to your inbox.
As donor-advised funds gain popularity as a means for the wealthy to give back, risks and potential conflicts of interest are emerging and on display in a lawsuit over one family’s $21 million charitable fund.
Philip Peterson, 63, of Kansas, filed the lawsuit in January, alleging that the nonprofit that manages his family’s donor-advised fund has refused to contact him and has not made the charitable donations it recommended since early 2024. The lawsuit, filed in Colorado federal court, alleged that the Christian nonprofit called WaterStone cut off access to information about the account and did not know how the fund had gone since the end of 2024. It had $21 million in assets in 2023.
An attorney for WaterStone, which was founded as the Christian Community Foundation, said in a statement that the Colorado Springs nonprofit respected the wishes of Peterson’s late father, who first established the fund in 2005 and died in 2019.
This case sheds light on the growing uptake and dangers of donor-advised funds, or DAFs, which are quickly becoming one of the most dominant forces in philanthropy. Americans donated nearly $90 billion to DAFs in 2024, latest data shows annual report From the DAF Research Collaboration. DAFs had total assets of $326 billion in 2024, according to the most recent data available.
For Americans looking to give back their taxes and save money, DAFs are marketed as a flexible and simple way to do so and are often described as charitable savings accounts or credit cards. Instead of writing a check to a nonprofit, donors contribute cash and other assets to the DAF. Although the tax deduction is immediate, the funds can be allocated to charities later.
DAFs, unlike private foundations, are not required to distribute assets within a specific time period; This is a common criticism among opponents who say DAFs are wealth hoarders.
The Peterson case offers a cautionary tale about compromises, especially when it comes to control. Although donors can make suggestions about how funds should be distributed to charities, the assets are legally controlled by the organizations that manage the DAF on their behalf. Although these organizations, also known as sponsors, generally respect their donors’ wishes, donors have little recourse if they fail to do so.
“It’s being sold to the public as, ‘This is your account and you can decide where it goes, you can move it, and you have full control.’ But if you don’t give up dominance and control, you don’t get the tax benefits,” says Ray Madoff, a tax expert and professor at Boston College Law School. “There is a disconnect between the legal rules governing this issue and the understanding of the parties. And this case is a perfect example of that.”
How much will be given
Peterson told Inside Wealth that the dispute with WaterStone began with a disagreement over how much to distribute.
Peterson alleges that in early 2024, WaterStone CEO Ken Harrison told him that the organization would keep the fund’s principal indefinitely and provide grants solely from investment income. Peterson said he did not accept the offer because it did not allow the fund to make its customary annual grants of $2.3 million to $2.5 million.
He also alleges that after telling Harrison over Zoom in March 2024 that he wanted to move DAF to another sponsor, Harrison told him not to contact WaterStone again and abruptly ended the call.
Now Peterson is suing to assert his consulting privileges and regain access to the DAF, which was started by his late father, Gordon Peterson, a real estate investor and devout Christian, to promote evangelical Christian causes. Peterson ultimately tries to get the court to force WaterStone to transfer DAF to another entity so it can expedite the return of the funds.
He said he requested a $1 million grant from WaterStone in 2024, but he did not know if that grant, or any grants, would be awarded that year. WaterStone notified Peterson that a $400,000 distribution from the fund would be authorized in 2025.
“I made a promise to my father. I promised him that if I was the one staying in the account, I would direct the money because I knew he would 100% approve it,” he said. “I want to be a man of my word.”
Philip Peterson, left, photographed with his father Gordon in 2015. Gordon Peterson passed away in 2019.
Courtesy of Philip Peterson
WaterStone declined to comment on the details of Peterson’s allegations. The deadline for WaterStone to respond to the complaint in court or dismiss it is mid-March.
“WaterStone has consistently honored the donor’s expressed wishes since the establishment of the donor-advised fund in question,” WaterStone’s legal counsel said in a written statement, referring to Peterson’s father. he said. “The plaintiff in this case is not the donor.”
Peterson’s attorney, Andrew Nussbaum, said WaterStone helped Gordon Peterson appoint his wife, Ruth, and son, Philip, as co-counsels to DAF before he died. Ruth Peterson died in 2021, leaving Philip Peterson as the sole successor-counsellor. WaterStone has met Philip Peterson’s grant requests before 2024, Nussbaum said.
Nussbaum said the case could set a chilling precedent if the court upholds WaterStone’s claim that designated successors do not have consulting privileges.
“If WaterStone is correct, you’re talking about billions of dollars being beyond any legal reach of the original donor-advisers or their successors to have any oversight of the funds,” Nussbaum said.
Moreover, Peterson said he believes WaterStone did not honor his father’s wishes. She claims WaterStone delayed or rejected grant recommendations even though they met the mission statement written by her father, which included a list of approved charities.
“I can tell you this: My father would never have created a donor-advised fund if he had known that would be the outcome. He was very passionate about it,” she said.
DAF’s swaps
Law professor and DAF critic Roger Colinvaux said that in his view, donors who want control of DAF assets are trying to have their cake and eat it too.
“Whether you like DAFs or not, the DAF sponsor is an independent charity. It is an independent organization and its duties are not to the donor,” said Colinvaux, a professor at the Catholic University of America Columbus School of Law. “If the plaintiff wants the kind of control that the plaintiff appears to want, as stated in the complaint, there is a structure for that, and that is a private foundation.”
Brooklyn Law School professor Dana Brakman Reiser cautioned that Peterson’s story is a rare scenario. He said the largest DAF sponsors, such as Fidelity Charitable and Schwab Charitable (now DAFgiving360), are affiliated with financial institutions and tend to keep donors happy overall.
“As long as honoring the donor’s request doesn’t get the sponsor in trouble, it’s in their best interest,” he said. Brakman Reiser added that the IRS prohibits DAF assets from being used to buy gala tickets or pay college tuition.
Yet the interests of sponsors and donor-advisors rarely align perfectly.
Sponsors often collect fees to manage DAF assets, creating a natural financial incentive to distribute fewer assets, according to Chuck Collins, director of the Inequality and Common Good Program at the Institute for Policy Studies, a progressive think tank. While donor foundations pioneered the DAF model, they now compete with larger commercially affiliated sponsors for donor dollars, he added.
“They’re increasingly having to compete with commercial DAFs like Fidelity, which have very low expenses and don’t charge very much. So what’s the business model for a community foundation where 80% of incoming donations come from people who want to set up a DAF?” he said. “In reality, business models now depend on people parking their assets for longer periods of time.”
While Peterson’s case is unusual, this is not the first legal challenge regarding DAFs.
In 2018, a pair of hedge funds sued Fidelity Charitable, claiming the sponsor broke an agreement to gradually liquidate its donated shares and instead sold 1.93 million shares, initially valued at $100 million, in a matter of hours. Fidelity Charitable argued that it complied with the law and the case was resolved in its favor.
In another notable fiasco, in 2009, the National Heritage Foundation, a Virginia-based charity, eliminated 9,000 DAFs worth a total of $25 million to pay creditors after filing for bankruptcy.
Donating directly to charity does not guarantee that assets will be used for the donor’s purpose. But adding an intermediary to the equation adds another layer of complexity.
A handful of lawsuits filed by donor advisors over how DAF assets are spent or invested have largely failed in court so far.
In short, according to Colinvaux, the courts have confirmed that donors cede any control to benefit from tax deductions. He said if donors had the right to control assets, as opposed to the privilege of giving advice, they would not be able to claim deductions.
Nussbaum said Peterson’s situation is different because the issue centers on his rights to recommend grants rather than controlling how assets are invested.
Peterson said he tried to resolve the dispute with Waterstone for about two years before going to court. He said that although he knew his team was facing serious problems, he felt he had no choice.
“People have a lot of trust in these companies, and we hope to find out what these companies can and cannot do,” he said. “This could have a huge impact on the industry, and I don’t want to be that guy. All I want to do is carry on my father’s legacy.”
Correction: This story has been updated to correct IRS limitations on the use of DAF assets.
