For my high-net-worth clients, creating a private foundation is an exciting process.
During the process, few immediately think of unpleasant things like divorce, disability or death, drastic life changes that can derail a family’s charitable goals.
But what if the two co-chairs of a family foundation later separate? What if the controlling member becomes mentally incapacitated or dies?
Private Institutions: Renewal
Many wealthy families like to set up their own charitable foundations through which they can donate to other charities. A typical family foundation is organized as a “private foundation,” which is one of the three designations given to registered charities in Canada (the other two being public foundations and charitable organizations).
A charity will be classified as private when more than half of the directors or trustees of the underlying company or trust do not deal with each other because of family ties or close business relationships. A charity will also be classified as private if most of the foundation’s funding comes from a person or group of related persons who control the charity in any way.
Many clients prefer to create a private foundation so that the head of the family can (any Spouses or parents) are not just the principals or trustees but they are also the only members or protectors who have the power to add or remove such principals or trustees.
This arrangement maximizes the control of the spouses or parents over the corporation, who is responsible, and how the corporation spends its capital. However, without proper succession planning, this setup also leaves the organization vulnerable to devastating life events such as divorce, disability, and death.
Separation and divorce
This may surprise some clients, but a private foundation’s assets are not considered personal property or family property that spouses can divide or recover after separation.
Once a property has been donated, the legal owner of that property is not the grantor; This is the basis.
Furthermore, current Canadian tax rules prevent registered charities from gifting or returning property directly to individuals, unless those transfers meet certain strict criteria.
This situation leaves the heads of the institution with two options after separation or divorce.
First, the separated spouses can continue to run the enterprise together.
A good example of this model is the largest corporation in the United States, Bill & Melinda Gates Foundation. Despite their divorce in 2021, Bill Gates and Melinda French Gates remain co-chairs of their foundation, jointly managing its $50 billion in assets — at least for the long haul. Two-year trial period.
Alternatively, if the former spouses cannot get along but wish to exercise control over the foundation’s assets, the estranged spouses can consider continuing their charitable work through two separate entities.
For example, one of the spouses retains control of the existing enterprise. The other spouse will resign as director/trustee and/or member/protector of the foundation, but then set up their own foundation. The existing foundation will then gift a portion of its assets to the newer foundation (which is permitted by Canadian tax law) and each spouse will essentially run their own foundation.
It would be wise for family members, at the outset, to have a solid conversation about what should happen if two directors or members later separate. Even better, board members should codify their decision in the form of a written board policy that can be updated from time to time.
For example, such a policy could state that person X or any spouse who acts as a principal but is not related to the main family will resign from office. Such a policy would help provide much needed clarity later and avoid the need for directors/members to choose sides in the middle of an emotionally charged marital breakdown.
death and disability
Apart from separation or divorce, death and disability can also disrupt a private enterprise and its good work if its original planners and key employees are not careful.
In these cases, having wills or powers of attorney may not be sufficient.
Here, many customers mistakenly believe two things. The first misconception is that their attorney (appointed by power of attorney) or executor (appointed by will) can easily assume their role as director or member when they become disabled or die.
This first belief is wrong. Director or member positions are to be filled personally. An attorney or executor cannot automatically hold these positions. The governing documents of the corporation also generally provide that a director or a member ceases to hold office when he is no longer able to work or dies.
The second misconception is that they can “endow” their membership interest in the foundation after their death through their will.
The second belief is also incorrect. Unless the foundation’s bylaws specifically state that membership interests are transferable (specifically, transferable upon death by written document), an existing member cannot give his or her membership in a private foundation to another person by will.
As a result, without the right kind of planning, a private enterprise can be left without members or directors when they all become incapacitated or die. A court order may be required to appoint new members or directors (eg, see Subsection 132(3) of Canada’s Not-for-Profit Corporation Act).
The time and expense of obtaining a court order can be avoided if the foundation’s governing documents contain clear rules for what will happen if all of its members/directors or principal guardians/trustees resign, become incapacitated or die. For example, the organization’s bylaws or trust documents could state that in such circumstances, the X, Y, and Z persons of the next generation would automatically become members/managers or guardians/trustees and take over.
As in the context of divorce, it is beneficial for private institutions to take a proactive, rather than reactive, approach to matters of death, disability and succession.
Ideally, the founders should, as long as they are alive and able, appoint members of the next generation to serve alongside them as directors of the foundation. This approach gives future leaders an opportunity to learn and grow. It also gives them a less than abrupt transition when the old guard becomes inoperative or dies suddenly.
My favorite adage is “failing to plan is planning to fail”. Of course, no client intends for their charitable endeavors to fail. But if they don’t think ahead about unpleasant or inevitable matters, such as divorce, disability, or the death of their key employees, and most importantly, they are inadvertently setting their philanthropic goals up for failure. Planning now, writing down decisions, and having uncomfortable conversations sooner rather than later are all key.
Creating a private foundation is cause for celebration. And a private foundation, appropriately created to weather the storms of life, can help Canadian families continue to do good in their communities for a very long time.
The content of this article is intended to provide a general guide to the subject. It is advised to take the advice of specialists in such circumstances.