Sequestering the Sector

Sequestration used to be about protection: Valuable property was sequestered by a court to protect it during a dispute; some nuns, monks, and other religious figures still live sequestered lives, as will the former Pope Benedict XVI. In a radical semantic shift, sequestered in the US now means decimated by bizarre budgeting.

That shift may be coming to the charitable sector. Once sequestered as in sheltered, it now faces the potential of being sequestered as in squashed.

We’ve had an unwritten but broadly accepted social compact about the charitable sector in the US for a long time now. The deal, so to speak, is that private initiative—not just the public sector—can create public benefit, and we’re willing to give up some tax revenue and some transparency to enable that. We define public benefit very broadly, both for donors and for recipient organizations. With the exception of political donations, we don’t accord one kind of charitable activity higher status than another. We don’t restrict who can direct charitable donations, although we do regulate whether and how the donors can personally benefit. There’s no need to demonstrate that a charitable activity is filling an unmet need, or is successful, for it to be permitted. Anyone with legitimate access to resources can donate them as they see fit; anyone who can get funding can start any type of charity.

We’ve treated the charitable sector much like the business sector, in other words. If you want to invest in a farm-to-table restaurant in San Francisco, go right ahead. No one will tell you there are too many already. If you believe macramé is making a comeback, best of luck to you. The same holds for charitable activity: You can start New York’s 46th adult literacy program or fund research on the effect of gamma-rays on man-in-the-moon marigolds.

We do this, presumably, for two reasons. First, as a nation we cherish the idea that individual initiative, commitment, and creativity can create innovation and progress for society. Second, if we decided to regulate what types of charitable endeavors are most important or effective, the process would become politicized in less time than it takes to read this sentence. Thus, we accept some ineffectiveness and inefficiency in exchange for a form of individual expression and for the potential of astounding success.

That compact has protected nonprofits and donors for a very long time. Even highly publicized examples of fraud or incompetence have been viewed largely as exceptions. But in the past year, the policy environment has been shifting. Between now and the next Congressional election, the nonprofit social compact may be revised significantly.

For the first time in many years, drastic change to the charitable deduction is on the table as part of many budget proposals. Independent Sector and many other nonprofit groups are making a strong case for broad social harm that could result from limiting the charitable deduction. But in an era of rising income inequality, wage stagnation, and persistent unemployment, they face an emerging and very new sensibility that the charitable deduction mostly benefits the rich. Discomfort with (often anonymous) support by the wealthy for political advocacy following the Citizens United case adds to the pressure on the charitable deduction: Most people—and virtually all reporters—refer to this funding as “donations,” and so it’s not always clear to a non-specialist whether they’re charitable or not.

Meanwhile, desperate state, local, and municipal governments are looking harder and harder at the potential revenue from tax-exempt charitable entities, especially the ones that have large land holdings. Universities in particular have been pressured into providing much more support in lieu of taxes. Nonprofit hospitals are particularly vulnerable—not just to make payments, but also to demonstrate why they’re tax-exempt. While it’s not getting the attention that the charitable deduction receives, the argument that a tax-exempt entity is unfairly benefiting from public services can easily be applied to any organization.

Combined, these potential tax-code shifts would rapidly erode the compact that enables most nonprofits to exist: Donors would have less incentive, depressing nonprofit income, while taxes would add a whole new level of cost to strained nonprofit budgets. We need to start thinking about telling the whole story of how the charitable sector functions—how it’s funded, how it uses money, how it delivers services, and why this can’t be done better by the public sector or the for-profit sector.

We’re fooling ourselves by thinking that “everyone” understands how the charitable sector works. It’s simply not true. I’ve been asked who owns a nonprofit or how it manages to operate when it can’t have any savings in the bank. I’ve heard people confuse donating online to a charity with crowdfunding a business. Asked to name a (grantmaking) foundation, the most common answer by Americans was the Red Cross. 

We’ve sequestered ourselves too long by thinking that general goodwill toward nonprofits protects our social compact. It’s time to come out from behind the walls and engage.

Read more stories by Melissa A. Berman.