Updated Jan 27, 2022

What is Endowment ?

What is Endowment?

 

A trust, a private foundation, or a public charity are the most common types of endowments. Educational institutions, such as colleges and universities, manage several endowments. Others are supervised by cultural institutions like art museums and libraries, religious organizations, and service-oriented organizations like retirement homes and hospitals.

 

In some situations, a specified percentage of an endowment's assets may be used each year, allowing the amount removed from the endowment to be a mix of interest and principal. The principal-to-income ratio would fluctuate from year to year depending on market rates.

 

Types of Endowments

 

The unrestricted, term, quasi, and restricted endowments are the four types of endowments:

 

Unrestricted endowments. 

 

These are assets that the institution receiving the gift can spend, save, invest, and distribute as it sees fit.

 

Term endowments

 

This arrangement normally says that the principal can only be spent when a specified amount of time has passed or a specific event has occurred.

 

A quasi-endowment. 

 

This is a gift made by an individual or an organization with the intention of the fund being used for a specified purpose. The principal is usually kept while the revenues are spent or dispersed according to the donor's wishes. These endowments are typically established by the institutions that benefit from them, either through internal transfers or through the use of unrestricted endowments that have already been provided to the institution.

 

Restricted Endowments 

 

The principal is kept in perpetuity, while the gains from the invested assets are spent according to the donor's wishes.

 

Endowment terms, except for a few exceptions, cannot be broken. A court can issue a doctrine of cy-près if an institution is on the verge of bankruptcy or has already declared bankruptcy but still has assets in endowments. This allows the institution to use those assets to improve its financial health while still honoring the donor's wishes as closely as possible.

 

Endowment Funding Requirements

 

Endowment managers must balance competing for interests to use assets to advance their objectives or to sustainably build their respective foundation, institution, or university. The purpose of any entity charged with managing a university's endowments, for example, is to expand the assets over time by reinvesting the endowment's gains while simultaneously contributing to the institution's running costs and goals.

 

Endowment management is a distinct discipline in and of itself. Setting targets, devising a payout strategy, building an asset allocation policy, selecting managers, managing risks methodically, minimizing expenses, and defining roles are just a few of the considerations assembled by a top management team.

 

Philanthropies, or more particularly private non-operating foundations, which constitute the vast majority of grant-making foundations, are mandated by federal law to give away 5% of their endowment assets each year for philanthropic reasons. Private operating foundations are required to pay a significant portion of their investment income—85 percent or more—while community foundations are not.

 

The Tax Cuts and Jobs Act of 2017 and the Bipartisan Budget Act of 2018 impose a 1.4 percent tax on net investment income on considerably large university endowments. Endowments maintained by around 35 private colleges and universities with at least 500 students and net assets of $500,000 per student are subject to this levy.

 

Higher Education and Endowments

 

Because of continuing donations from rich alumni and well-managed funds, older educational institutions, such as the Ivy League colleges in the United States, have been successful in generating exceptionally powerful endowment funds.

 

Endowments are such an important part of Western academic institutions that their size can be a good indicator of their financial health. They allow colleges and universities to cover their operational expenditures from sources other than tuition, as well as give a level of security by serving as a potential rainy-day fund.

 

Endowments established by these institutions or given as gifts by contributors can be used for a variety of purposes. They can maintain the financial sustainability of individual departments, establish professorships, and give scholarships or fellowships to students who have excelled academically or who have come from a financially disadvantaged background.

 

Chair posts or endowed professorships are funded by endowment income, which frees up resources for universities to hire additional faculty and increase professor-to-student ratios. These positions are regarded as prestigious and are only available to senior faculty. Within universities, endowments might be established for certain subjects, departments, or initiatives. For example, Smith College maintains a separate endowment for its botanical gardens, and Harvard University has 13,000 unique endowment accounts.

 

Endowments Criticism

 

The magnitude of endowments at Harvard and other elite higher education schools has been criticized. Large, multibillion-dollar endowments have been compared to hoarding by critics, especially as tuition fees began to rise at the close of the twentieth century. Large endowments were once considered as educational institutions' rainy-day funds, but after the 2008 recession, several endowments reduced their payouts. An analysis of the motivations behind this conduct published in the American Economic Review indicated a trend toward an overemphasis on the health of an endowment rather than the institution as a whole.

 

It's not uncommon for student activists to question where their institutions' and universities' endowments are invested. Hampshire College divested South African interests in 1977 in protest of apartheid, a decision that was followed by a large number of US educational institutions. Student activists are still advocating for divestment from sectors and countries that they believe are morally tainted, however, the process is developing to increase efficacy.

 

More recently, numerous Ivy League universities in the United States with multibillion-dollar endowments declined to accept millions in federal help as part of the CARES Act's $14 billion higher education package.

Harvard University declared in April 2020 that it will not accept the $8.6 million it had been allotted after experiencing outrage. Princeton University and Stanford University have likewise stated that they will not accept millions of dollars in CARES Act payments.

 

Endowment Examples in the Real World

 

King Henry VIII and his relatives founded the earliest endowments that are still active today. His grandmother, the Countess of Richmond, endowed divinity seats at both Oxford and Cambridge, while Henry VIII founded professorships in several fields at both Oxford and Cambridge.

Harvard University has the world's largest endowment. In June 2019, when the fiscal year ended, it had a total value of $40.9 billion. With $31 billion in assets, the University of Texas holds the country's second-largest endowment.

 

Officials at Harvard have stated that, like other colleges, their endowment has experienced significant investment losses in 2020 as a result of the impact of the economic crisis and lockdown on the economy and financial markets.

 

The top five institutions by endowment size at the end of fiscal year 2018 were, according to US News & World Report:

 

• Harvard University $39,233,736,000
• Yale University $29,444,936,000
• Stanford University $26,464,912,000
• Princeton University $25,438,300,000
• Massachusetts Institute of Technology (MIT) $16,400,027,000

 

Conclusion

 

An endowment is a type of life insurance that pays the face value to the insured at the end of the contract period or upon death. This is in contrast to life insurance, which only pays out the face value if the insured dies.