990-PF Minimum Investment Return vs. Distributable Amount

Foundations describe the payout requirement as "the 5%," which is close enough in conversation and imprecise on the return. Minimum investment return and distributable amount are separate computations in separate parts of Form 990-PF, and the second is derived from the first.

Minimum investment return

Minimum investment return under section 4942(e) is 5% of the excess of the aggregate fair market value of assets not used or held for use directly in carrying out exempt purposes over the acquisition indebtedness attributable to those assets. It is an asset-based figure and knows nothing about the foundation's income or its tax liability.

• Investment assets are valued under the conventions in § 53.4942(a)-2(c): monthly averaging for securities, and generally an annual determination for real property
• Assets used directly in exempt activities, such as a program facility or a program-related investment, are excluded from the base
• Part IX line 4 subtracts a cash deemed held for charitable activities equal to 1.5% of the line 3 balance (total noncharitable-use assets less acquisition indebtedness), unless the foundation substantiates a larger amount
• Acquisition indebtedness reduces the base only to the extent attributable to the included assets

Distributable amount

Distributable amount under section 4942(d) starts with minimum investment return and then adjusts for tax and recoveries. It is the figure the foundation must actually distribute.

• Minimum investment return
• less the section 4940 excise tax on net investment income for the year
• less any unrelated business income tax imposed for the year
• plus recoveries of amounts treated as qualifying distributions in a prior year, and repayments of program-related investments

A short worked example

A non-operating foundation reaches $10,000,000 on Part IX line 3 — average monthly fair market value of noncharitable-use assets, with no acquisition indebtedness. Line 4, the cash deemed held for charitable activities, is 1.5% of that balance, or $150,000. Line 5, net noncharitable-use assets, is $9,850,000. Line 6, the minimum investment return at 5%, is $492,500.

Part X then adjusts that figure. Assume the foundation owes $6,750 of section 4940 excise tax on net investment income for the year, has no unrelated business income tax, and recovered $40,000 of a grant treated as a qualifying distribution in a prior year. The distributable amount is $492,500 − $6,750 + $40,000 = $525,750. Both adjustments are assumptions specific to this foundation's year: the excise tax comes from its own Part V computation, and the recovery only appears in a year one actually occurs. The distributable amount is not a fixed percentage of assets — it is the Part IX result adjusted for that year's tax and recoveries.

Why the distinction shows up in practice

Grant budgets are frequently set at 5% of the investment portfolio, which is the minimum investment return rather than the payout obligation. The excise tax reduces the obligation, and prior-year grant refunds increase it. A foundation that received a $250,000 refund of a lapsed grant has a payout obligation well above 5% of assets for that year, and no amount of portfolio-based budgeting will surface that.

Private operating foundations under section 4942(j)(3) compute minimum investment return for purposes of the income and asset tests but are not subject to the section 4942 distribution requirement in the same way. Applying the non-operating framework to an operating foundation produces a deficiency that does not exist.

What to review

• Confirm the asset base excludes exempt-use assets and applies the 1.5% cash allowance once
• Confirm the excise tax deducted is the tax for the same year, not the prior-year amount
• Trace grant refunds and program-related investment repayments into the distributable amount, not into revenue only
• Confirm operating versus non-operating status before applying the payout test