Impact Investing Guidance for Private Foundation Clients

Written by: Jeffrey Haskell | Foundation Source

Private foundations offer nearly limitless options for charitable giving. Beyond grantmaking, they can align their investment portfolios with their philanthropic missions so that both pools of assets are working to effect positive change in the world. In other words, they can engage in impact investing, a widely popular investment strategy that aims to generate a positive social or environmental impact in addition to providing a financial return. This two-part article presents four distinct approaches to the strategy.

Let’s say you have a private foundation client dedicated to eradicating childhood asthma in their home state. One day, they hear a news report about an aging coal-fired power plant where the sulfur dioxide emissions are so bad as to be implicated in the high incidence of childhood asthma in the neighboring towns.

A week later they’re reviewing the foundation’s investment portfolio with you and realize they own a good chunk of shares in the very same energy company that owns the power plant. In fact, the dollar amount of the company’s stock in your client’s investment portfolio is almost equal to the dollar amount your client is putting into eradicating childhood asthma.

Moral Dilemma: What to Do?

It’s a common conundrum for private foundations: Many foundations that are established to solve society’s most pernicious problems have investments as their lifeblood. Their assets need to be invested in profitable businesses in order to sustain operations and grow. So what happens when a foundation’s mission is directly contradicted by its own investments? What if the very ills a foundation fights are exacerbated or even caused by the behavior of business entities found in its own portfolio?

It can sometimes seem as though the foundation’s assets and its grantmaking programs are in direct opposition to each other or at the very least, failing to work together to accomplish a charitable mission. And since many foundations invest 95% of their assets while distributing about 5% for charitable purposes, it’s even conceivable that the damage done by the investments exceeds the good accomplished by the distributions!

Over the last decade, more foundations have been attempting to address this issue and get all of their horses pulling in the same direction. These foundations want their investments to enhance their philanthropic efforts or at least not run counter to them. If their 5% for their minimum charitable distribution requirements are regarded as the “do good” portion of their foundations, the goal for the other 95% might at least be conceived as “do no harm.” Hence, their adoption of “impact investing,” a widely popular investment strategy that aims to generate a positive social or environmental impact in addition to providing a financial return.

Growth of the impact investing sector has exploded in the last 10 years. The International Finance Corporation (IFC) reports that $2.3 trillion was invested for impact in 2020, which is equivalent to 2% of global assets under management. And a Global Impact Investing Network (GIIN) study reveals a 42.4% increase in the sector from 2019 to 2020. Impact investing is a broad tent as well; many different individuals, businesses and organizations claim a seat under its canopy, each employing different tools and approaches. As private foundations ideally aim for 100% of their endowment assets and grant funds to serve the greater good, we examine four distinct approaches they can take for impact investing, ranging from fiscally conservative to financially risky:

  • Community Investing
  • Socially Responsible Investing
  • Program-Related Investing
  • Mission-Related Investing

Community Investing: A “Safe” Introduction

One of the easiest ways for private foundations to dip a toe into impact investing waters is by simply moving their money from a traditional bank to a community development financial institution (CDFI) such as a community bank or community credit union. These financial institutions are common throughout the United States, and you might have heard of them without realizing that they have a social mission tied to their financial products.

CDFIs are government regulated and government insured, just like other financial institutions. They offer checking and savings accounts, money market accounts, certificates of deposit, and all the other usual services you’d expect from a traditional bank. They provide market-rate (or very close to market-rate) interest to depositors and from a consumer’s perspective, are comparable to commercial banking institutions, albeit with a less extensive network of ATMs.

The real difference between traditional banks and community banks is what they do with the money on deposit. Rather than lend it to large corporations outside the local vicinity, community banks invest it locally through loans for affordable housing projects, home mortgages in low-income areas, and new businesses. Many low-income neighborhoods have benefited from CDFIs that use their deposits to build that same community, rather than siphoning funds out for the benefit of outside parties.1 The Calvert Foundation, for example, directed Calvert Community Investment (CCI) notes to help rebuild communities in the Gulf Coast region devastated by Hurricanes Katrina and Rita. These same notes offer investors a range of terms, including interest rates that vary up to 2% payable at maturity.

Community investing can be a relatively low-risk cash management strategy, an easy way for a foundation or philanthropic individual to put more financial assets in the service of a charitable mission. To look for a CDFI in your clients’ communities, go to for a listing of CDFIs by city and state.

Socially Responsible Investing: ESG Screening

The concept of socially responsible investing (SRI) has been around for more than 30 years. It began with a simple idea: don’t hold the stock of companies that actively work against your values. So an environmental foundation might screen “big oil” out of its portfolio and a health grantmaker might avoid “big tobacco.” Other common screens filter out companies that have interests in gambling, alcohol, pornography, dealings with repressive governments or defense contractors. Because this approach focuses on what an investor does not want to hold in his/her portfolio, tools that help them filter their investments have been dubbed “negative screens.”

Critics point out that while employing negative screens to eliminate “sin stocks” may help an investor sleep better, they don’t necessarily accomplish much else. The companies that are screened out are usually very large and very profitable, and a few conscientious investors selling their stock or just declining to buy it will not affect their share price. And by screening out a whole host of potentially profitable sectors, an investor employing negative screens may be limiting their ability to earn returns on par with the market as a whole. As most investment advisors benchmark performance against broad market measures, portfolios employing negative screens are widely thought to under perform.

In recent years, investors and their advisors have taken a new approach to socially responsible

investing, one that involves “positive screens.” Instead of shutting out objectionable companies, a positive screen actively seeks companies demonstrating the kind of corporate social responsibility that philanthropic investors would like to encourage. The primary positive screens are around environmental, social, and governance (ESG) practices, collectively known as “ESG screening.” Rather than focus on what you don’t want companies to do, ESG screening selects companies based on the positive things they are doing.

Some recent studies challenge the widely held belief that one needs to accept lower returns in exchange for socially responsible investing (SRI). ESG-screened companies disprove the myth that SRI isn’t profitable. Some previous research has found no statistically significant difference between the performance of traditional funds and SRI funds. In fact, as The Forum for Sustainable and Responsible Investment reported, a 2012 metaanalysis by DB Climate Change Advisors of more than 100 academic studies found that incorporating environmental, social, and governance data in investment analysis is “correlated with superior risk-adjusted returns at a securities level."2

Beyond being good philanthropy, ESG screening is increasingly accepted as just good business. ESG

investing has become more mainstream over the past decade, fueled by rising investor interest

and recognition that social and environmental impacts are creating material financial risks for

companies and investors. In other words, polluting the environment to make a quick buck today is what investors might call a “short-term play.” That is, it’s not going to be an effective strategy over the long haul as governments, consumers, and investors increasingly penalize companies with poor ESG practices through loss of business, lawsuits, bad publicity, and costly clean-up.

Done well, investing in ESG-screened funds can be a natural part of a private foundation’s investment strategy that carries no more risk than traditional investing in the stock market.

Program-Related Investing: Banking to Grantees

When we think of a private foundation supporting a charitable cause, most of us think in terms of grants—money given away with no expectation of it ever coming back. But foundations can also make

loans and provide loan guarantees in support of their mission. Such loans are defined by the IRS as

program-related investments (PRIs) and are an increasingly common tool among private foundations.

PRIs come out of the foundation’s grantmaking purse and as such, they qualify towards the foundation’s 5% minimum distribution requirement. However, while grant dollars go out the door never to return, PRI dollars are generally recovered in part or in whole, and may even earn some return for the foundation in the form of interest or appreciation.

To qualify an investment as a PRI, the foundation must satisfy three requirements laid out by the IRS:

  • The primary objective of the PRI must be to significantly further the foundation’s charitable mission.
  • The production of income or appreciation of property must not be a significant motivating factor.
  • The investment must not attempt to influence legislation or elections; a PRI may not be used to support candidates for office or lobby elected officials.

Collectively these requirements suggest that if the foundation were driven purely by financial considerations, it wouldn’t make the PRI because the loan or investment will usually have some downside that makes it unattractive to commercial investors: High risk, low return, and illiquidity are common traits among PRIs, so much that one might even consider PRIs “bad investments for a good cause.” Evidently, the IRS concurs: Because PRIs fulfill a foundation’s charitable purpose, they are exempt from the normal rules that prohibit the foundation from making so-called “jeopardizing” investments.

Foundations use PRIs creatively in myriad ways. Most first experiment with them in the form of a loan to an organization they already know well, oftentimes a prior grantee. For example, they may offer their community church a very low-interest loan to finance the construction of a new facility. Or they may provide a no-interest line of credit to their favorite art museum to help smooth out the bumpy financial times between blockbuster shows. They even may co-sign a loan to allow a housing agency to access funding from a commercial bank, which, absent a default, doesn’t require them to put a dime out the door.

The fourth approach, mission-related investing, is discussed in Part Two of this article.

Related: Top 10 Compliance Rules for Private Foundations

[1] As a result of the Community Reinvestment Act, commercial banks must also lend a certain amount within the communities in which they operate. These commercial banks accomplish this, among other ways, by investing in or lending to community banks, which in turn actually lend within the community.

[2] DB Climate Change Advisors. Sustainable Investing: Establishing Long-Term Value and Performance. (June, 2012). Retrieved from