Funding college scholarships is a central feature of education philanthropy. The area is full of complexity, however, and it is possible for benefactors to err. This article explores the details and recommends how philanthropists can be strong supporters of scholarship.

During 2019 this publication carried a great deal of content about philanthropy in a wide variety of forms and we are determined to continue exploring the field as 2020 gets going. Here is an article from Caroline W. Hodkinson, director of Philanthropic Advisory, Bessemer Trust. (More on the author below). This article drills into the details of scholarships – an important philanthropy area. The editors of this news service are pleased to share these views with readers; we invite responses and of course the usual editorial disclaimers apply. To get in touch, email tom.burroughes@wealthbriefing.com or jackie.bennion@clearviewpublishing.com

Education has traditionally accounted for a substantial share of philanthropic giving in the US, and last year roughly 14 per cent of the $428 billion donated to charitable organizations was allocated to education, making it the second-largest area of giving behind religion (source: Giving USA). What has been driving donors’ commitment to education? The increasing cost of secondary education: tuition and fees have more than tripled (Source: CollegeBoard) in the past thirty years among state colleges, and have more than doubled during this period among private four-year programs (source: CollegeBoard, Trends in College Pricing 2018). 

Recognizing that these costs can be a barrier to education, many college-educated donors look back at their time at school as life-changing and want to pass on their experience to others. Some may have received scholarships themselves and recognize how crucial the support can be, while others might wish to extend the opportunities they’ve given their children to others. Support is fueled by various intentions, and similarly, scholarship comes in many forms. 

Though the process for supporting scholarships appears straightforward, the many options, rules, and regulations regarding what’s permitted can cloud decision-making. A close look at the various approaches to providing scholarships and financial aid, along with key factors to consider and to avoid, can guide individuals through the process to make deliberate, thoughtful donations that best support their goals.  

Exploring options
Step one of the giving journey involves breaking down the various forms of scholarship to give donors a clear understanding of the specific qualifications they can select from, and how they might design their donation to fit students’ needs. 

First, it is important to evaluate the differences between merit and need-based scholarships. Merit scholarships support students solely based on their academic or extracurricular achievements. For example, a merit-based gift might include giving toward students studying a particular field, such as women pursuing a degree in engineering, or students involved in the debate club or the cross-country team. Donors can keep these gifts broad so that more students qualify or can make them specific to meet the needs of a group that’s close to the heart. Comparatively, need-based scholarships are determined exclusively by the financial needs of students. 

Once donors have selected whether they prefer to make a merit or need-based commitment, the next step is determining a time horizon. A donor can make a one-time donation (known as current-use scholarship) or they can set up a permanent gift that provides a predictable and ongoing stream of financial support (known as an endowed scholarship). While giving directly to a college or university is relatively straightforward, donors might wish to expand their offerings beyond a specific educational institution to reach students of particular communities or areas of academic interest through community foundations or intermediaries, which are mission-driven organizations that effectively link donors with recipient organizations or individuals. For instance, a donor might choose a New York-based community foundation to fund a scholarship that supports students from New York City to attend a college or university of their choice. Depending on how these scholarships are structured, students are either awarded directly or the money is sent to the school and put towards tuition, fees, and expenses. 
 

Scholarship qualifiers
When setting up a scholarship, it is imperative to remember what is – and is not – considered a tax-deductible charitable contribution by law. Examples include: 

-- If an individual wanted to pay tuition or other school-related expenses for a family member or friend, it would not be categorized as a “scholarship” or considered a tax-deductible charitable contribution under the federal tax law; 

-- While a scholarship designed to benefit a specific family or single student would not qualify, acceptable charitable classes might include female or male students, low-income students or those with specific academic or athletic interests, or even students from a certain school; and  
    
-- For a scholarship to classify as tax-deductible, the selection process must be objective and non-discriminatory. In this case, recipients must be selected from a “charitable class” which the IRS defines as a group of participants large and indefinite enough that supporting members of that class would benefit the broader community.

When setting up these scholarships, it is natural for many donors to want to be involved in the student selection process. Choosing to donate to a school directly, however, gives that academic institution management over the scholarship selection process. Though donors might be eligible to work with a school to establish specific criteria for the selection and may participate in part of the process, they would not have sole or majority discretion when weighing final candidates. This also applies to funding scholarships through community foundations, intermediaries or family foundations. Even stricter rules apply to private foundations, including severe penalties for failing to comply.

Managing your gift
Once donors have set up scholarships, new sets of questions often arise. One of the most common questions is “can I manage a scholarship program through my family foundation?” While possible, it is a complex, expensive and time-consuming process. Because regulations for private foundations are strict, the penalties for failing to follow them are significant, up to and including revocation of the foundation’s tax-exempt status. Private foundations also require IRS approval of scholarship plans prior to making awards; this includes attorney costs for drafting the plan, which must be specific in including a detailed selection process, processes for supervising the scholarship, record keeping, and retention (among other things). Given the complexities, it is suggested that donors consult investment and tax advisors to ensure a smooth process.  

The most sensible option for donors is to partner with one or more higher education institutions, community foundations, or other intermediaries that already maintain scholarship programs with the necessary infrastructure in place. Another option is to support an existing scholarship or design a scholarship program in collaboration with the organization that would permit ongoing involvement without being tied to the administrative responsibilities of managing the program. 

Another question donors frequently have is whether scholarships can be supported with a donor-advised fund (DAF). While individuals are not permitted to use a DAF account to directly provide scholarship grants to individuals, they can suggest grants to public charities, such as college and universities, community foundations or other qualified charitable organizations to support or establish scholarship programs run by those public charities. 

Significant impact
Whether making a small, one-time donation or setting up an endowed scholarship, supporting scholarships and financial aid is a direct and measurable step towards providing immense opportunities for students. If approached strategically, this giving process remains straightforward and stress-free so donors can spend more time focusing on the impact of their gift, rather than getting mired in the details. 

About the author
Caroline Hodkinson is principal and director of Philanthropic Advisory at Bessemer Trust. She leads a team that works with clients in the areas of planning, grant-making, governance, and family engagement, to create meaningful philanthropic impact. She also designs educational forums for clients on philanthropy best practices. Prior to joining Bessemer, Hodkinson worked for the University of Pennsylvania as Development Associate, supporting donor cultivation and alumni relations efforts for the greater New York City region. Before that, she was a Teach For America corps member, teaching high school biology and earth science. She previously served as board chair for a New York City literacy organization and currently advises a number of non-profits looking to monetize programs and scale nationally.

Disclaimer
This material is for your general information. It does not take into account the particular investment objectives, financial situation, or needs of individual clients. This material is based upon information obtained from various sources that Bessemer Trust believes to be reliable, but Bessemer makes no representation or warranty with respect to the accuracy or completeness of such information. Views expressed herein are current only as of the date indicated, and are subject to change without notice. Forecasts may not be realized due to a variety of factors, including changes in economic growth, corporate profitability, geopolitical conditions, and inflation. Bessemer Trust or its clients may have investments in the securities discussed herein, and this material does not constitute an investment recommendation by Bessemer Trust or an offering of such securities, and our view of these holdings may change at any time based on stock price movements, new research conclusions, or changes in risk preference.