Jeopardizing investments are investments which fail to comply with the standard of conduct in managing and investing charitable assets as set out in the Uniform Prudent Management of Institutional Funds Act (“UPMIFA”). If an investment qualifies as a PRI, or Program Related Investment, that investment will not be subject to the jeopardizing investment tax. Section 4944 of the Internal Revenue Code (“IRC”) provides that a private foundation and its management will each be taxed for making jeopardizing investments.
Why use a PRI?
PRIs enjoy special tax treatment because they do not fall within the scope of the “jeopardizing investment rules” (which prohibit private foundations from investing in certain risky investments). The jeopardy investment rules impose an excise tax if a private foundation invests its assets in a manner that jeopardizes the accomplishment of the foundation’s exempt purposes. Any foundation making a jeopardizing investment is subject to an excise tax of 10 percent of the amount invested. Any foundation manager who participated in making the investment knowing that it jeopardized the foundation’s exempt purposes may also be subject to an excise tax, unless the manager’s participation was not willful and was due to reasonable cause.
What qualifies as a PRI?
A PRIs, or Program Related Investments, are investments used by private foundations to achieve their philanthropic goals. Since PRIs are expected to generate some sort of return to the investor, they serve as an alternative or complement to traditional grants. PRIs can come in many forms but typically consist of loan or equity investments in an organization that is pursuing a program or activity that furthers the private foundation’s charitable mission. PRIs have been used to fund capital projects, provide loans for economic development, and support development of new products that provide a public benefit.
A program-related investment is an investment by a private foundation that possesses the following characteristics (the “Three Part Test”): (1) the primary purpose is to accomplish one or more of the foundation’s exempt purposes; (2) the production of income or appreciation of property is not a “significant purpose;” and (3) influencing legislation or taking part in political campaigns on behalf of candidates is not a purpose.
The “primary-purpose” factor, requires that (i) any investment must significantly further the foundation’s exempt activities (even if those activities are being carried out by a for-profit organization) and (ii) the investment would not have been made but for the fact that the investment would further the Foundation’s exempt purposes.
The “income-production” factor means that the investment must usually have some downside that makes it unattractive to commercial investors, such as high risk, low return, or illiquidity. For example, if investors who engage in investments only for profit would be likely to make the investment on the same terms as the private foundation, it is likely that production of income is a significant purpose of the investment and therefore would not qualify it as a PRI. Note, however, that incidental production of income does not conclusively disqualify the investment from program-related characterization.
The restrictive “legislation” factor prohibits program-related investment status if the investment attempts to influence legislation or participate in any political campaign.