PRIVILEGED AND CONFIDENTIAL — ATTORNEY-CLIENT COMMUNICATION
MEMORANDUM
MATTER NO.: 1034-00004 BILLING CODE: 78412-JRC
TO: Jonathan R. Caldwell and Eleanor V. Caldwell
FROM: Sylvia Hartwell, Partner (Tax), and Elliot Nguyen, Associate, Calderwood & Harkness LLP
DATE: April 10, 2023
RE: Private Foundation Compliance Requirements — The Caldwell Family Foundation (IRC §§ 4940–4946)
This memorandum is a privileged and confidential attorney-client communication prepared by Calderwood & Harkness LLP for the exclusive use of Jonathan R. Caldwell and Eleanor V. Caldwell in their capacities as founders, directors, and officers of The Caldwell Family Foundation. This memorandum should not be disclosed to third parties without the prior written consent of Calderwood & Harkness LLP. Nothing in this memorandum constitutes tax advice to any person other than the named recipients, and no person other than the named recipients should rely on the analysis or conclusions set forth herein.
I. INTRODUCTION AND PURPOSE
This memorandum sets forth the federal tax compliance requirements applicable to The Caldwell Family Foundation (EIN: 88-3021547) (the "Foundation"), a New York not-for-profit corporation incorporated on March 20, 2023, under the New York Not-for-Profit Corporation Law (NY N-PCL), pursuant to a Certificate of Incorporation filed with the New York Department of State (NY DOS Filing No. 230320-001847). The Foundation's principal office is located at 330 Madison Avenue, Suite 2401, New York, NY 10017.
IRS Form 1023 (Application for Recognition of Exemption Under Section 501(c)(3) of the Internal Revenue Code) was filed on behalf of the Foundation on May 15, 2023. The Internal Revenue Service issued a determination letter dated July 14, 2023, recognizing the Foundation's tax-exempt status under IRC § 501(c)(3) and classifying the Foundation as a private foundation within the meaning of IRC § 509(a). A copy of the determination letter has been placed in the Foundation's permanent records and is maintained in our files.
The Foundation was initially funded with a cash contribution of Ten Million Dollars ($10,000,000), made jointly by Jonathan R. Caldwell and Eleanor V. Caldwell pursuant to an Initial Contribution Agreement executed on April 1, 2023. For federal gift and income tax purposes, Five Million Dollars ($5,000,000) is attributable to each spouse. The Initial Contribution Agreement sets forth the terms and conditions of the founding gift and confirms the irrevocable nature of the transfer.
The Foundation's stated mission, as set forth in its Certificate of Incorporation and Bylaws, is to support the arts, education, and environmental conservation, with a particular focus on organizations and programs serving the New York metropolitan area. This mission is consistent with the charitable purposes described in IRC § 501(c)(3) and the Foundation's organizational documents, which contain the required limitation-of-purpose and dissolution clauses under Treas. Reg. § 1.501(c)(3)-1(b).
The purpose of this memorandum is to provide the Foundation's Board of Directors with a comprehensive overview of the excise tax and regulatory requirements imposed on private foundations under IRC §§ 4940 through 4946. Each of these provisions imposes penalty excise taxes on private foundations and, in certain cases, on their managers and disqualified persons for prohibited or noncompliant conduct. These provisions constitute a comprehensive regulatory scheme enacted by Congress in the Tax Reform Act of 1969, as subsequently amended, to ensure that private foundations operate exclusively for charitable purposes, distribute a minimum amount for charitable activities each year, and do not engage in transactions that benefit their founders, substantial contributors, or other insiders at the expense of the charitable mission.
This memorandum is intended to serve as a practical reference guide for the Foundation's directors and officers. It should be read in conjunction with, and is complementary to, the following Foundation governance documents:
• The Foundation's Certificate of Incorporation and Bylaws;
• The Foundation's Conflict of Interest Policy, adopted by the Board of Directors;
• The Foundation's Grant-Making Policy and Procedures Manual;
• The Foundation's Investment Policy Statement (prepared in consultation with Havensbrook Wealth Advisors LLC); and
• The Initial Contribution Agreement dated April 1, 2023.
We have endeavored to present the applicable legal requirements in a manner that is accessible to directors who may not have specialized tax expertise, while also providing sufficient technical detail to serve as a compliance resource for the Foundation's professional advisors. We note, however, that this memorandum is not a substitute for specific legal advice with respect to particular transactions or fact patterns, and we encourage the Board to consult with Calderwood & Harkness LLP before entering into any transaction or making any expenditure that implicates the rules discussed herein.
II. IDENTIFICATION OF DISQUALIFIED PERSONS
A. Definition (IRC § 4946)
The concept of a "disqualified person" is central to the private foundation excise tax regime. Several of the penalty provisions discussed in this memorandum — most notably the self-dealing rules of IRC § 4941 and the excess business holdings rules of IRC § 4943 — apply specifically to transactions between the Foundation and its disqualified persons. Accordingly, it is essential that the Foundation's directors and officers understand who qualifies as a disqualified person and maintain a current list of all such persons and entities.
Under IRC § 4946(a), a "disqualified person" with respect to a private foundation includes the following categories of persons and entities:
(1) Substantial contributors. A substantial contributor is any person who has contributed or bequeathed an aggregate amount of more than $5,000 to the Foundation, if such amount exceeds 2% of the total contributions and bequests received by the Foundation from the date of its creation through the close of the taxable year. Once a person becomes a substantial contributor, that status generally is permanent and does not terminate even if subsequent contributions by others reduce the person's proportionate share below the 2% threshold. See IRC § 507(d)(2); Treas. Reg. § 1.507-6.
(2) Foundation managers. A foundation manager is any officer, director, or trustee of the Foundation, or any individual having powers or responsibilities similar to those of an officer, director, or trustee. See IRC § 4946(b). All members of the Foundation's Board of Directors and all officers of the Foundation are foundation managers and therefore disqualified persons.
(3) Owners of more than 20% of certain entities that are substantial contributors. If a corporation, partnership, trust, or estate is a substantial contributor to the Foundation, any person who owns more than 20% of the total combined voting power of such corporation, more than 20% of the profits interest of such partnership, or more than 20% of the beneficial interest of such trust or estate is a disqualified person.
(4) Family members of any of the foregoing. The term "family member" includes the spouse, ancestors, children, grandchildren, great-grandchildren, and the spouses of children, grandchildren, and great-grandchildren of a substantial contributor, a foundation manager, or a 20% owner described in category (3) above. See IRC § 4946(d). Brothers, sisters, nieces, nephews, aunts, and uncles are not treated as family members for purposes of § 4946, although other tax provisions may define family relationships more broadly.
(5) Entities controlled by disqualified persons. A corporation, partnership, trust, or estate in which persons described in categories (1) through (4) above collectively hold more than 35% of the total combined voting power (in the case of a corporation), more than 35% of the profits interest (in the case of a partnership or LLC taxed as a partnership), or more than 35% of the beneficial interest (in the case of a trust or estate) is itself a disqualified person. See IRC § 4946(a)(1)(E), (F), (G), and (H).
The disqualified person rules cast a wide net. As discussed below, the Caldwell family's close involvement with the Foundation — five of six directors are Caldwell family members — means that the universe of disqualified persons is extensive and includes not only the family members themselves but also entities in which the family holds significant interests. The Board should be mindful that the disqualified person determination is made on an ongoing basis, and the list of disqualified persons may expand over time as new family members are born, marriages occur, or the family acquires interests in new entities.
B. Disqualified Persons of The Caldwell Family Foundation
Based on the information provided to us, the following persons and entities are currently disqualified persons with respect to the Foundation. This list should be reviewed and updated at least annually, and any changes in family circumstances (births, marriages, deaths, changes in entity ownership) should be reported promptly to Calderwood & Harkness LLP.
Substantial Contributors:
• Jonathan R. Caldwell (Date of Birth: March 14, 1956; Residence: 418 East 72nd Street, Apt. 14A, New York, NY 10021). Mr. Caldwell contributed $5,000,000 to the Foundation pursuant to the Initial Contribution Agreement. This contribution exceeds both the $5,000 threshold and the 2% threshold, making Mr. Caldwell a substantial contributor. He is also a foundation manager (President) and thus is a disqualified person in two separate capacities.
• Eleanor V. Caldwell (Date of Birth: September 22, 1958; Residence: 418 East 72nd Street, Apt. 14A, New York, NY 10021). Mrs. Caldwell contributed $5,000,000 to the Foundation pursuant to the Initial Contribution Agreement. She is a substantial contributor and also a foundation manager (Vice President), and thus is a disqualified person in two separate capacities.
Foundation Managers (Directors and Officers):
All of the following individuals are disqualified persons by virtue of their status as foundation managers. In addition, several of these individuals are also family members of substantial contributors and are therefore disqualified persons in multiple capacities.
• Jonathan R. Caldwell — President and Director. (Also a substantial contributor, as noted above.)
• Eleanor V. Caldwell — Vice President and Director. (Also a substantial contributor, as noted above.)
• Thomas R. Caldwell — Secretary and Director. Age 38. Residence: 55 Perry Street, Unit 3, New York, NY 10014. Thomas is the son of Jonathan and Eleanor Caldwell, and thus is a family member of two substantial contributors in addition to being a foundation manager. He is currently employed as Vice President of Acquisitions at Meridian Crest Partners LLC, a private equity firm. Thomas is a disqualified person in his capacities as both a foundation manager and a family member of substantial contributors.
• Katherine C. Hartfield (née Caldwell) — Treasurer and Director. Age 35. Residence: 210 Briarcliff Lane, Greenwich, CT 06830. Katherine is the daughter of Jonathan and Eleanor Caldwell and thus is a family member of two substantial contributors, in addition to being a foundation manager. She is a freelance interior designer. Katherine is a disqualified person in her capacities as both a foundation manager and a family member of substantial contributors.
• Olivia G. Caldwell — Director. Age 30. Residence: 1240 North Dearborn Street, Apt. 807, Chicago, IL 60610. Olivia is the daughter of Jonathan and Eleanor Caldwell and thus is a family member of two substantial contributors, in addition to being a foundation manager. She is currently employed as an Associate at the law firm of Linden & Fairchild LLP. Olivia is a disqualified person in her capacities as both a foundation manager and a family member of substantial contributors.
• Dr. Margaret P. Elsworth — Independent Director. Dr. Elsworth is Professor Emerita at Columbia University. She is not a member of the Caldwell family and is not a substantial contributor. Dr. Elsworth is a disqualified person solely in her capacity as a foundation manager. This distinction is relevant to the self-dealing analysis, as discussed in Section IV below.
Family Members of Substantial Contributors and Foundation Managers:
The following individuals are disqualified persons by virtue of their status as family members (spouse, ancestors, lineal descendants, or spouses of lineal descendants) of one or more substantial contributors or foundation managers:
• Dr. Sarah P. Caldwell (née Brennan) — daughter-in-law of Jonathan and Eleanor Caldwell (spouse of Thomas R. Caldwell). Dr. Caldwell is a disqualified person as the spouse of a lineal descendant of the substantial contributors.
• Dr. Andrew W. Hartfield — son-in-law of Jonathan and Eleanor Caldwell (spouse of Katherine C. Hartfield). Dr. Hartfield is an orthopedic surgeon at Preswick Medical Center. He is a disqualified person as the spouse of a lineal descendant of the substantial contributors.
• James W. Hartfield (age 8) and Charlotte M. Hartfield (age 5) — grandchildren of Jonathan and Eleanor Caldwell (children of Katherine C. Hartfield and Dr. Andrew W. Hartfield). Both are disqualified persons as lineal descendants of the substantial contributors.
• Lucas T. Caldwell (age 3) and Nora E. Caldwell (age 1) — grandchildren of Jonathan and Eleanor Caldwell (children of Thomas R. Caldwell and Dr. Sarah P. Caldwell). Both are disqualified persons as lineal descendants of the substantial contributors.
• All future spouses and lineal descendants of any of the above persons. As new family members are born or marriages occur, those individuals will automatically become disqualified persons with respect to the Foundation. The Board should maintain a current roster and promptly notify Calderwood & Harkness LLP of any changes in family composition.
Entities Potentially Disqualified:
Any corporation, partnership, limited liability company, trust, or estate in which the foregoing disqualified persons collectively hold more than 35% of the voting power, profits interest, or beneficial interest is itself a disqualified person with respect to the Foundation. Based on the information currently available to us, the following entities are likely disqualified persons, subject to verification of ownership interests:
• Caldwell Ridgeline Capital LLC — 280 Park Avenue, 35th Floor, New York, NY 10017. To the extent Jonathan R. Caldwell retains a controlling interest in this entity and its associated funds (including Caldwell Ridgeline Capital Funds IV, V, and VI), it is a disqualified person.
• Stonecrest Realty Holdings LLC — 330 Madison Avenue, Suite 2401, New York, NY 10017. To the extent Jonathan R. Caldwell retains a controlling interest in Stonecrest, it is a disqualified person. We note that this entity shares the same address as the Foundation, which raises specific self-dealing concerns discussed in Section IV below.
• Related entities. Any other entity in which the Caldwell family collectively holds more than 35% of the voting power, profits interest, or beneficial interest should be identified and added to this list. We recommend that the Foundation maintain a current schedule of all entities in which disqualified persons hold interests, updated at least annually.
We note that, consistent with the Foundation's Bylaws and Conflict of Interest Policy, no compensation is paid to family-member directors. This is an important safeguard that reduces (but does not eliminate) the risk of self-dealing under IRC § 4941, as discussed in Section IV below.
III. EXCISE TAX ON NET INVESTMENT INCOME — IRC § 4940
A. Overview of the Tax
IRC § 4940 imposes an annual excise tax on the net investment income of every domestic private foundation. This tax is sometimes referred to as the "excise tax on investment income" or the "private foundation excise tax," and it functions as a substitute for the income tax that the Foundation would otherwise owe on its investment income if it were not tax-exempt. The tax is an obligation of the Foundation itself — it is not imposed on the Foundation's managers or disqualified persons.
Effective for tax years beginning after December 20, 2019, the excise tax rate is a flat 1.39% of net investment income. This flat rate was enacted by the Taxpayer Certainty and Disaster Tax Relief Act of 2019, which replaced the former two-tier rate structure (under which the tax was generally 2% of net investment income, reduced to 1% for foundations that met certain distribution requirements). The simplification to a flat 1.39% rate eliminates the computational complexity of the prior regime and ensures that the tax rate does not vary based on the Foundation's distribution patterns.
"Net investment income" for purposes of § 4940 includes:
(a) Gross investment income. This includes all income from interest, dividends, rents, royalties, and other similar sources derived from the Foundation's investment assets. Gross investment income does not include tax-exempt interest on state or municipal bonds, although such income is included in computing the Foundation's minimum distribution requirement under § 4942. See Treas. Reg. § 53.4940-1(d).
(b) Net capital gains. The Foundation's net capital gain (i.e., the excess of capital gains over capital losses from the sale or other disposition of investment assets) is included in net investment income. Only net gains are included; if the Foundation has a net capital loss for the year, the loss may not offset gross investment income.
(c) Less allowable deductions. Deductions are allowed for ordinary and necessary expenses paid or incurred for the production or collection of gross investment income, or for the management, conservation, or maintenance of property held for the production of such income. These deductions include investment management fees, custodial fees, and a reasonable portion of salaries and other expenses allocable to the management of investment assets. See IRC § 4940(c)(3); Treas. Reg. § 53.4940-1(e).
B. Application to The Caldwell Family Foundation
The Foundation was initially funded with $10,000,000 in cash. This cash corpus will be invested in accordance with the Foundation's Investment Policy Statement, which was prepared in consultation with Havensbrook Wealth Advisors LLC (Diana R. Linden, CFP®, serving as the Foundation's investment advisor). All investment income earned on this corpus — including interest, dividends, and capital gains from portfolio investments — will be subject to the 1.39% excise tax under § 4940.
Based on preliminary investment projections assuming a blended annual return of 4% to 5% on the initial $10,000,000 corpus (a reasonable assumption for a diversified portfolio consistent with the Foundation's Investment Policy Statement), estimated Year 1 investment income is approximately $400,000 to $500,000. At the 1.39% rate, this would yield an estimated § 4940 excise tax of approximately $5,560 to $6,950 for the Foundation's first full taxable year. Actual investment income will depend on market conditions, asset allocation, and the timing of investments, and may differ materially from these estimates.
The § 4940 excise tax is reported on Part VI of IRS Form 990-PF (Return of Private Foundation or Section 4947(a)(1) Trust Treated as Private Foundation). The tax is payable with the Foundation's annual return. In addition, the Foundation is required to make quarterly estimated excise tax payments if the expected annual tax liability exceeds $500. Estimated tax payments are computed using IRS Form 990-W (Estimated Tax on Unrelated Business Taxable Income for Tax-Exempt Organizations). The quarterly payment dates follow the standard corporate estimated tax schedule (April 15, June 15, September 15, and January 15 of the following year for calendar-year taxpayers).
C. Compliance Action Items
To ensure compliance with § 4940, the Foundation should implement the following procedures:
1. Annual Computation and Reporting. The Foundation's accounting firm, Strathmore Corporation & Greaves LLP (Martin J. Prescott, CPA; 600 Third Avenue, 28th Floor, New York, NY 10016), will be responsible for the annual computation and reporting of net investment income on the Foundation's Form 990-PF. Calderwood & Harkness LLP will review the Form 990-PF for legal compliance purposes prior to filing.
2. Detailed Investment Records. The Foundation should maintain detailed investment records that clearly segregate investment income from grant-making and administrative expenditures. The Foundation's investment custodian (to be designated by Havensbrook Wealth Advisors LLC) should provide monthly or quarterly statements identifying all sources of investment income, realized capital gains and losses, and investment-related expenses.
3. Quarterly Estimated Tax Payments. If the Foundation's estimated § 4940 excise tax for any taxable year is expected to exceed $500, the Foundation must make quarterly estimated tax payments using Form 990-W. Based on the projections described above, the Foundation's estimated tax will likely exceed $500 in the first full taxable year, and quarterly estimated payments should be anticipated. Strathmore Corporation & Greaves LLP will coordinate these payments.
IV. SELF-DEALING PROHIBITIONS — IRC § 4941
A. Overview. IRC § 4941 imposes a strict prohibition on virtually all financial transactions between a private foundation and its disqualified persons. The self-dealing rules are the most consequential and frequently violated provision applicable to private foundations, and violations can result in severe excise tax penalties on both the disqualified person who participates in the transaction and the foundation managers who knowingly approve it.
It is critical that the Foundation's directors understand that the prohibition on self-dealing is absolute — there is no "fair market value" or "arm's length" exception. A transaction between the Foundation and a disqualified person is an act of self-dealing regardless of whether the transaction is entirely fair to the Foundation or even beneficial to the Foundation. The only question is whether the transaction falls within one of the statutory categories of self-dealing, not whether the terms of the transaction are reasonable. This is a fundamental departure from the rules applicable to public charities (which generally permit arm's-length transactions with insiders), and it reflects Congress's judgment that private foundations, because of their concentrated control by a small number of individuals, require a more restrictive regime.
The prohibition extends to both direct and indirect acts of self-dealing. An indirect act of self-dealing occurs when a disqualified person engages in a transaction with an organization controlled by the Foundation, or when a transaction between the Foundation and a third party is structured to provide an indirect benefit to a disqualified person. See Treas. Reg. § 53.4941(d)-1(b)(3).
B. Prohibited Acts of Self-Dealing (§ 4941(d)(1))
The following categories of transactions between the Foundation and a disqualified person are acts of self-dealing, subject to the limited exceptions described below:
(1) Sale, exchange, or leasing of property between the Foundation and a disqualified person (in either direction). Under IRC § 4941(d)(1)(A), the Foundation may not sell, exchange, or lease property to or from a disqualified person. This prohibition applies regardless of the direction of the transaction — the Foundation may not purchase property from a disqualified person, and a disqualified person may not purchase property from the Foundation. Leasing arrangements are equally prohibited.
Example: The Foundation may not purchase real property from, or lease office space to or from, Jonathan or Eleanor Caldwell, Stonecrest Realty Holdings LLC, or any other entity controlled by the Caldwell family.
Important Note Regarding Office Space: The Foundation's registered address is 330 Madison Avenue, Suite 2401, New York, NY 10017 — the same address as Stonecrest Realty Holdings LLC. If the Foundation occupies space in a property owned or controlled by Stonecrest (or any entity in which Jonathan R. Caldwell or other disqualified persons hold a controlling interest), the lease arrangement must be scrutinized with extreme care. Any lease between the Foundation and Stonecrest, or between the Foundation and any other entity in which disqualified persons hold more than a 35% interest, would constitute an act of self-dealing under § 4941(d)(1)(A), regardless of whether the rent is at fair market value. The Foundation should occupy space under terms that do not involve any payment to a disqualified person or entity. Permissible arrangements include: (a) use of space without charge, provided that the arrangement constitutes the furnishing of goods, services, or facilities by a disqualified person to the Foundation without charge, as permitted under § 4941(d)(2)(C); or (b) a lease with an unrelated third-party landlord that is not a disqualified person. We recommend that this issue be addressed as a matter of priority.
(2) Lending of money or other extension of credit between the Foundation and a disqualified person. Under IRC § 4941(d)(1)(B), the Foundation may not make loans to, or receive loans from, any disqualified person. This prohibition applies to all forms of credit extension, including guarantees, pledges of assets, and other arrangements that have the economic effect of a loan. There is no exception for loans bearing market-rate interest or for loans that are fully collateralized.
The Foundation may not lend money to any Caldwell family member or to any entity in which the Caldwell family holds a controlling interest. Conversely, the Foundation may not borrow money from any disqualified person. If the Foundation requires financing for any purpose, it must obtain such financing from an unrelated third-party lender.
(3) Furnishing of goods, services, or facilities between the Foundation and a disqualified person. Under IRC § 4941(d)(1)(C), the Foundation may not furnish goods, services, or facilities to a disqualified person, and a disqualified person may not furnish goods, services, or facilities to the Foundation on a compensated basis.
Exception: IRC § 4941(d)(2)(C) provides an important exception: a disqualified person may furnish goods, services, or facilities to the Foundation without charge without triggering the self-dealing rules. This exception is significant for the Caldwell Family Foundation, as the Caldwell family directors may provide services to the Foundation without compensation. The Foundation's Bylaws reflect this approach by providing that no compensation is paid to family-member directors.
(4) Payment of compensation (or payment or reimbursement of expenses) to a disqualified person. Under IRC § 4941(d)(1)(D), any payment of compensation to a disqualified person by the Foundation is an act of self-dealing, subject to a specific exception for reasonable and necessary compensation.
Exception: IRC § 4941(d)(2)(E) permits the payment of reasonable and necessary compensation to a disqualified person for personal services that are reasonable and necessary to carry out the Foundation's exempt purposes. The compensation must not be excessive, as determined under the standards applicable to tax-exempt organizations generally (including IRC § 4958 principles, applied by analogy). "Personal services" include legal, accounting, investment management, and similar professional services, as well as services provided by officers and directors in their governance capacity.
Application to the Foundation: The Board has resolved that no family-member directors will receive compensation for their service as directors. This is a prudent and conservative approach that avoids any question of self-dealing under § 4941(d)(1)(D). Dr. Margaret P. Elsworth, as an independent director and foundation manager (and thus a disqualified person in that capacity), could receive reasonable compensation for her services as a director if the Board so determines, but currently no directors receive compensation.
Reasonable expense reimbursements — for example, reimbursement of travel expenses incurred by directors to attend Board meetings — are permissible, provided that such reimbursements are (a) properly documented with receipts and contemporaneous records, (b) limited to actual expenses incurred, (c) not excessive in amount, and (d) approved by the Board or by an authorized officer. The Foundation's expense reimbursement procedures should be set forth in a written policy.
(5) Transfer to, or use by or for the benefit of, a disqualified person of the Foundation's income or assets. Under IRC § 4941(d)(1)(E), the Foundation may not transfer its income or assets to a disqualified person, or permit a disqualified person to use or benefit from the Foundation's income or assets. This is a broad prohibition that serves as a "catch-all" provision designed to prevent any form of private benefit to disqualified persons.
The Foundation may not use its assets for the personal benefit of any Caldwell family member. This includes, without limitation, the use of Foundation-owned artwork, vehicles, real property, or other facilities for personal purposes. If the Foundation acquires artwork for display in a public gallery or educational setting, such artwork may not be displayed in the personal residence of a Caldwell family member or otherwise made available for private enjoyment. Similarly, if the Foundation sponsors events, the events must serve the Foundation's charitable purposes and may not primarily benefit family members or other disqualified persons.
(6) Agreement to make any payment of money or other property to a government official. Under IRC § 4941(d)(1)(F), the Foundation may not agree to make any payment of money or other property to a government official, as defined in IRC § 4946(c). This prohibition is narrower in scope than the other categories but should be noted for completeness. A "government official" for purposes of § 4946(c) includes Members of Congress, certain executive branch officials, and other specified public officeholders. The definition does not generally include state or local government employees or officials.
C. Excise Tax Penalties for Self-Dealing
The penalties for self-dealing are substantial and are imposed on the disqualified person who participates in the act of self-dealing (not on the Foundation itself, in the case of the first-tier tax on the self-dealer). In addition, foundation managers who knowingly participate in an act of self-dealing are subject to separate penalty taxes.
First-Tier Tax (§ 4941(a)):
• On the self-dealer (the disqualified person): A tax equal to 10% of the "amount involved" for each year (or part thereof) in the "taxable period." The "taxable period" begins on the date the self-dealing occurs and ends on the earlier of the date the IRS mails a notice of deficiency or the date the self-dealing is corrected. The "amount involved" is generally the greater of the amount of money and the fair market value of the other property given or received in the transaction.
• On foundation managers who knowingly participate: A tax equal to 5% of the amount involved for each year (or part thereof) in the taxable period, up to a maximum of $20,000 per act of self-dealing. A foundation manager is treated as "knowingly" participating if the manager has actual knowledge of sufficient facts to conclude that the transaction is an act of self-dealing, or if the manager is aware that such a transaction is under consideration and negligently fails to make reasonable attempts to ascertain whether the transaction is an act of self-dealing. See IRC § 4941(a)(2); Treas. Reg. § 53.4941(a)-1(b)(3).
Second-Tier Tax (§ 4941(b)):
If the act of self-dealing is not corrected within the taxable period, significantly higher second-tier taxes are imposed:
• On the self-dealer: A tax equal to 200% of the amount involved.
• On foundation managers: A tax equal to 50% of the amount involved, up to a maximum of $20,000 per act of self-dealing.
"Correction" of an act of self-dealing requires undoing the transaction to the extent possible and placing the Foundation in a financial position no worse than the position it would have been in had the self-dealing not occurred. See IRC § 4941(e)(3); Treas. Reg. § 53.4941(e)-1(c). In many cases, correction requires the disqualified person to return the property involved (or its fair market value) and to pay the Foundation any additional amount necessary to compensate the Foundation for the use of its assets during the period of self-dealing.
D. Practical Guidance for the Caldwell Family
Given the composition of the Foundation's Board — five of six directors are Caldwell family members who are disqualified persons in multiple capacities — the self-dealing rules require ongoing vigilance. The following practical guidelines should be observed:
1. Avoid All Transactions with Disqualified Persons. All financial transactions between the Foundation and any disqualified person (including entities in which the Caldwell family holds interests exceeding the 35% threshold) must be avoided. This includes transactions that may appear routine or beneficial to the Foundation — such as purchasing supplies from a family-owned business, renting equipment from a family member, or engaging a family-controlled professional firm to provide services.
2. Conflict of Interest Policy. The Conflict of Interest Policy adopted by the Foundation requires annual disclosure of potential conflicts of interest and recusal from Board deliberations and voting on any matter in which a director has a personal financial interest. All directors must complete and submit annual conflict-of-interest disclosure statements, which should identify all entities in which the director (or the director's family members) holds a financial interest.
3. Pre-Transaction Legal Review. Any proposed transaction involving a Caldwell family member, a Caldwell-controlled entity, or any other disqualified person should be reviewed by Calderwood & Harkness LLP before execution. This review should occur early in the process — ideally before any terms are negotiated or agreed upon — to allow sufficient time to analyze the transaction and, if necessary, restructure it to avoid self-dealing.
4. Areas of Particular Concern. Based on the Foundation's current circumstances, the following areas warrant heightened attention:
(a) Office space arrangements at 330 Madison Avenue. As discussed above, the Foundation's use of space at the same address as Stonecrest Realty Holdings LLC raises self-dealing concerns. The Foundation must ensure that its occupancy arrangement does not involve any direct or indirect payment to Stonecrest, Jonathan R. Caldwell, or any other disqualified person. The arrangement should be documented in writing, and Calderwood & Harkness LLP should review any proposed lease, license, or occupancy agreement before it is executed.
(b) Grants to organizations with which Caldwell family members are affiliated. If a Caldwell family member serves on the board of directors or as an officer or employee of an organization to which the Foundation proposes to make a grant, the grant itself is not necessarily self-dealing (provided the organization is not a disqualified person), but the Board should ensure that the grant does not provide a direct or indirect benefit to the family member (e.g., by paying the family member's salary or enhancing the family member's reputation in a manner that constitutes "use by or for the benefit of" a disqualified person). The Board should disclose any such affiliations and the conflicted director should recuse herself or himself from the grant decision.
(c) Use of Foundation funds for events or activities attended by family members. If the Foundation sponsors charitable events (such as fundraising galas, educational programs, or exhibition openings), family members may attend in their capacities as Foundation directors or officers. However, the Foundation should not pay for personal entertainment, travel, or hospitality expenses of family members that are not directly related to Foundation business. Personal expenses should be clearly distinguished from Foundation expenses in all records.
(d) Investment of Foundation assets in Caldwell-controlled entities. The Foundation should not invest any of its assets in Caldwell Ridgeline Capital LLC funds, Stonecrest Realty Holdings LLC properties, or any other entity in which the Caldwell family holds a controlling interest. Any such investment would constitute either a transfer of Foundation assets for the benefit of a disqualified person (§ 4941(d)(1)(E)) or an indirect act of self-dealing (Treas. Reg. § 53.4941(d)-1(b)(3)), regardless of whether the investment is on arm's-length terms.
V. MINIMUM DISTRIBUTION REQUIREMENT — IRC § 4942
A. Overview. IRC § 4942 requires a private foundation to distribute annually for charitable purposes an amount equal to at least 5% of the fair market value of the Foundation's net investment assets. This minimum distribution requirement ensures that private foundations actively deploy their assets for charitable purposes rather than accumulating wealth indefinitely. The 5% requirement is one of the cornerstone obligations of the private foundation regulatory regime.
The "distributable amount" is calculated based on the average monthly fair market value of the Foundation's assets that are not used (or held for use) directly in carrying out the Foundation's charitable, educational, or other exempt activities. In general, cash, investments, and other non-programmatic assets are included in the calculation, while assets used directly in exempt activities (e.g., a building used as a charitable museum or educational facility) are excluded. The distributable amount is reduced by the § 4940 excise tax and increased by certain adjustments, but for most foundations, the distributable amount is approximately 5% of average monthly net investment assets.
A foundation may satisfy the minimum distribution requirement by making "qualifying distributions" during its taxable year. The distributable amount for any taxable year must be distributed by the end of the following taxable year (i.e., there is a one-year carryforward period). However, as a matter of best practice, foundations should aim to meet the 5% requirement within the current taxable year.
B. Application to The Caldwell Family Foundation
Year 1 Calculation:
For the Foundation's first full taxable year, the minimum distribution requirement is calculated as follows:
• Net investment assets (initial funding): $10,000,000
• Minimum distribution rate: 5%
• Distributable amount: $10,000,000 × 5% = $500,000
This amount — $500,000 — must be distributed as "qualifying distributions" during the Foundation's first full tax year. As noted above, the Foundation has a one-year carryforward period in which to distribute any shortfall, but the Board should plan to meet the full $500,000 requirement within the first tax year to avoid any risk of penalty taxes and to establish sound operational practices from the outset.
Qualifying Distributions. The following types of expenditures count as qualifying distributions for purposes of the 5% minimum distribution requirement:
(a) Grants to public charities described in IRC § 509(a)(1), (2), or (3). Grants to organizations that have received IRS determination letters recognizing their status as public charities are the most straightforward and administratively simple form of qualifying distribution. The Foundation's Grant-Making Policy targets grants in the areas of arts, education, and environmental conservation in the New York metropolitan area, and the Board should prioritize grants to established public charities in these fields.
(b) Grants to operating foundations. Grants to private operating foundations (as defined in IRC § 4942(j)(3)) are treated as qualifying distributions without the need for expenditure responsibility.
(c) Grants to non-public charities subject to expenditure responsibility. Grants to organizations that are not public charities under § 509(a)(1), (2), or (3) — including grants to other private non-operating foundations — may be treated as qualifying distributions if the Foundation exercises "expenditure responsibility" in accordance with IRC § 4945(h) and the associated Treasury Regulations. Expenditure responsibility requirements are discussed in detail in Section VIII below.
(d) Amounts paid to acquire assets used directly in carrying out exempt purposes. For example, if the Foundation acquires a building to house an educational program, the purchase price of the building may be treated as a qualifying distribution (and the building is excluded from net investment assets in future years).
(e) Reasonable and necessary administrative expenses. The Foundation's operating expenses — including legal fees, accounting fees, investment management fees, insurance premiums, office expenses, and similar costs that are reasonable and necessary for the conduct of the Foundation's charitable activities — count as qualifying distributions to the extent they are properly allocable to the Foundation's exempt purposes. However, investment management expenses are generally not treated as qualifying distributions because they are allocable to the production of investment income rather than the conduct of charitable activities.
C. Excise Tax Penalties
The excise tax penalties for failure to meet the minimum distribution requirement are severe and are designed to compel compliance:
• First-Tier Tax (§ 4942(a)): A tax equal to 30% of the "undistributed income" — i.e., the shortfall between the distributable amount and actual qualifying distributions — is imposed on the Foundation for each taxable year in which there is undistributed income at the end of the applicable distribution period.
• Second-Tier Tax (§ 4942(b)): If the undistributed income is not corrected (i.e., distributed) within the "taxable period" (which generally ends on the earlier of the date the IRS mails a notice of deficiency or the date the Foundation makes sufficient qualifying distributions), a tax of 100% of the remaining undistributed income is imposed.
These penalties are imposed on the Foundation itself — there is no separate manager-level tax for failure to distribute. Nevertheless, the Board of Directors has a fiduciary obligation to ensure that the Foundation meets its distribution requirements, and individual directors could face personal liability under state law if they fail to exercise due care in overseeing the Foundation's operations.
D. Compliance Action Items
1. Track Qualifying Distributions. The Foundation's Treasurer (Katherine C. Hartfield) and the Foundation's accounting firm (Strathmore Corporation & Greaves LLP) should track all qualifying distributions throughout the fiscal year to ensure that the 5% threshold is met. A running tally of qualifying distributions should be presented to the Board at each quarterly meeting.
2. Annual FMV Computations. Strathmore Corporation & Greaves LLP should compute the average monthly fair market value of the Foundation's net investment assets as of the end of each taxable year and calculate the distributable amount for the following year. This computation should be reviewed by Calderwood & Harkness LLP for accuracy and compliance.
3. Maintain Records. The Foundation should maintain complete records of all qualifying distributions, including executed grant agreements, acknowledgment receipts from grantee organizations, expenditure responsibility reports (for non-public-charity grants), and documentation of administrative expenses. These records are necessary for the preparation of the annual Form 990-PF and for substantiation of qualifying distributions in the event of an IRS examination.
4. Proportional Adjustments. As the Foundation's investment assets grow — whether through additional contributions from the Caldwells or other donors, or through investment returns in excess of distributions — the distributable amount will increase proportionally. The Board should adjust its annual grant-making plan accordingly to ensure that the 5% minimum is met in each year. Conversely, if the Foundation's investment assets decline in value (e.g., due to market downturns), the distributable amount will decrease, but the Board should remain mindful that market recoveries may increase the distributable amount in subsequent years.
VI. EXCESS BUSINESS HOLDINGS — IRC § 4943
A. Overview. IRC § 4943 limits the combined holdings of a private foundation and all of its disqualified persons in any "business enterprise." The purpose of this provision is to prevent private foundations from being used to maintain control of for-profit business enterprises, which Congress viewed as inconsistent with the charitable mission of private foundations and as presenting opportunities for self-dealing and abuse.
In general, the combined holdings of a private foundation and all of its disqualified persons may not exceed 20% of the voting stock of a corporation (or 20% of the profits interest of a partnership or limited liability company classified as a partnership for tax purposes). If an unrelated third party has effective control of the enterprise (i.e., holds 35% or more of the voting stock or profits interest), the combined holdings limit is increased to 35%.
A "business enterprise" for purposes of § 4943 includes any active trade or business, whether conducted through a corporation, partnership, LLC, sole proprietorship, or other form of organization. However, the following categories of enterprises are excluded from the definition:
• A "functionally related business" — i.e., a trade or business the conduct of which is substantially related to the exercise or performance of the Foundation's exempt purposes. See IRC § 4942(j)(4).
• A trade or business at least 95% of the gross income of which is derived from passive sources (dividends, interest, rents, royalties, and similar income). See IRC § 4943(d)(3).
• A program-related investment (PRI) within the meaning of IRC § 4944(c).
The de minimis exception under § 4943(c)(2)(C) provides that a private foundation is not treated as having excess business holdings if the Foundation and all disqualified persons together own no more than 2% of the voting stock and no more than 2% of the value of all outstanding shares of all classes of stock of the corporation (or, in the case of a partnership or LLC, no more than 2% of the profits interest). This de minimis exception is useful for publicly traded securities held in the Foundation's investment portfolio.
B. Application to The Caldwell Family Foundation
The Foundation currently holds only cash and investment securities (including publicly traded stocks and bonds held in its investment portfolio) and does not hold any direct interest in a business enterprise that would implicate § 4943. However, the Board must be aware of the excess business holdings restriction when considering future investments, accepting future contributions, or evaluating opportunities to invest Foundation assets.
Jonathan R. Caldwell's personal holdings in Caldwell Ridgeline Capital LLC and Stonecrest Realty Holdings LLC are directly relevant to this analysis. If the Foundation were to acquire any membership interest, limited partnership interest, or other equity interest in these entities, the combined holdings of the Foundation and all disqualified persons (including the Caldwell family members identified in Section II above) would almost certainly exceed 20%, triggering the § 4943 excise tax. This is because Jonathan R. Caldwell (and potentially other Caldwell family members) already holds a substantial — and presumably controlling — interest in these entities.
Practical Implication: The Foundation should not accept contributions of, or invest in, membership interests in Stonecrest Realty Holdings LLC, limited partnership interests in Caldwell Ridgeline Capital Funds IV, V, or VI, or any similar equity interests in entities in which the Caldwell family holds significant positions. This restriction applies regardless of the form of the transaction — whether the Foundation acquires the interest by purchase, by gift from a Caldwell family member, or by contribution from a third party. If a Caldwell family member or other donor wishes to contribute non-cash assets to the Foundation (such as real estate, closely held business interests, or limited partnership units), the Foundation should consult with Calderwood & Harkness LLP before accepting the contribution to ensure compliance with both § 4943 (excess business holdings) and § 4941 (self-dealing).
With respect to the Foundation's investment portfolio, the Foundation and its investment advisor (Havensbrook Wealth Advisors LLC) should monitor the Foundation's holdings in publicly traded companies to ensure that the combined holdings of the Foundation and all disqualified persons in any single company do not exceed the applicable threshold. As a practical matter, this is unlikely to be an issue for a diversified investment portfolio, but the Foundation should maintain awareness of the restriction.
C. Excise Tax Penalties
• First-Tier Tax (§ 4943(a)): A tax equal to 10% of the value of the excess business holdings is imposed on the Foundation for each taxable year during which the Foundation has excess business holdings.
• Second-Tier Tax (§ 4943(b)): If the excess business holdings are not corrected (i.e., disposed of) within the "taxable period" — which is generally 90 days after the IRS mails notice of the violation — a tax equal to 200% of the excess business holdings is imposed.
The penalties are imposed on the Foundation, not on individual managers or disqualified persons. However, the magnitude of the penalties — particularly the 200% second-tier tax — underscores the importance of preventing excess business holdings from arising in the first instance.
D. Compliance Action Items
1. Pre-Acceptance Review. Before accepting any non-cash contribution or making any investment in a business enterprise, the Foundation should assess the combined holdings of the Foundation and all disqualified persons in the enterprise to ensure that the applicable threshold (20% or 35%, as the case may be) is not exceeded.
2. Annual Holdings Schedule. The Foundation should maintain an annual schedule of all Foundation investments and cross-reference that schedule with the reported holdings of all disqualified persons. This cross-referencing should be coordinated with the annual conflict-of-interest disclosure process described in Section IV above.
3. Monitoring by Investment Advisor. Havensbrook Wealth Advisors LLC should be instructed to monitor the Foundation's portfolio holdings and to flag any position that, combined with known disqualified person holdings, could approach the excess business holdings thresholds.
VII. JEOPARDIZING INVESTMENTS — IRC § 4944
A. Overview. IRC § 4944 imposes an excise tax on a private foundation that invests any amount in a manner that "jeopardizes the carrying out of any of its exempt purposes." This provision is intended to ensure that private foundations invest their assets prudently and do not engage in speculative or high-risk investment strategies that could impair the foundation's ability to carry out its charitable mission.
Whether a particular investment jeopardizes the Foundation's exempt purposes is determined at the time the investment is made, based on what a prudent trustee or fiduciary would consider. The determination takes into account the Foundation's investment portfolio as a whole, not merely the individual investment in isolation. See Treas. Reg. § 53.4944-1(a)(2). Thus, an investment that might be considered speculative in isolation may be permissible if it constitutes a small portion of a well-diversified portfolio.
Investments that may be considered jeopardizing under the Treasury Regulations and IRS guidance include, but are not limited to:
• Trading on margin;
• Commodity futures contracts (unless used for hedging purposes with respect to other Foundation investments);
• Investments in working interests in oil and gas properties;
• Speculative put or call options on securities;
• Highly leveraged or speculative positions that are disproportionate to the Foundation's total portfolio;
• Short sales of securities; and
• Other investments that a prudent fiduciary would not make under the circumstances.
Conversely, the following types of investments are generally not considered jeopardizing: publicly traded stocks and bonds, mutual funds and exchange-traded funds (ETFs), certificates of deposit, government securities, and other conventional investment vehicles. Investments in closely held businesses, venture capital funds, or alternative assets (such as hedge funds or private equity) are not per se jeopardizing but should be evaluated carefully in light of the Foundation's overall investment policy, risk tolerance, and diversification strategy.
B. Application to The Caldwell Family Foundation
The Foundation's Investment Policy Statement was prepared in consultation with Havensbrook Wealth Advisors LLC and establishes prudent investment guidelines, diversification requirements, and risk parameters that are designed to comply with the requirements of § 4944 and the prudent investor standards applicable to charitable fiduciaries under New York law. The Investment Policy Statement prescribes asset allocation targets, maximum position sizes, and restrictions on speculative or illiquid investments. So long as the Foundation adheres to the Investment Policy Statement, the risk of a jeopardizing investment violation should be minimal.
The Board should ensure that all investments are reviewed under the Investment Policy Statement and that no speculative or high-risk positions are taken without thorough analysis, documentation, and Board approval. Any proposed investment that deviates from the parameters established by the Investment Policy Statement should be reviewed by the Board and, if appropriate, by Calderwood & Harkness LLP before the investment is made.
Program-Related Investments (PRIs). IRC § 4944(c) provides that the term "jeopardizing investments" does not include program-related investments. A PRI is an investment the primary purpose of which is to accomplish one or more of the Foundation's exempt purposes and no significant purpose of which is the production of income or the appreciation of property. See IRC § 4944(c); Treas. Reg. § 53.4944-3. Common examples of PRIs include below-market-rate loans to charitable organizations, equity investments in social enterprises, and guarantees of obligations of charitable organizations. If the Foundation is interested in making PRIs as part of its charitable strategy, Calderwood & Harkness LLP can advise on the structuring and documentation of such investments to ensure compliance with § 4944(c) and the applicable Treasury Regulations.
C. Excise Tax Penalties
The penalties for jeopardizing investments are imposed on both the Foundation and on foundation managers who knowingly participate in the investment decision:
First-Tier Tax (§ 4944(a)):
• On the Foundation: A tax equal to 10% of the amount so invested for each year (or part thereof) in the taxable period.
• On foundation managers who knowingly participate: A tax equal to 10% of the amount invested, up to a maximum of $10,000 per investment. A foundation manager is treated as "knowingly" participating if the manager participates in the investment decision knowing that the investment jeopardizes the Foundation's exempt purposes.
Second-Tier Tax (§ 4944(b)):
If the jeopardizing investment is not corrected (i.e., removed from jeopardy) within the taxable period:
• On the Foundation: A tax equal to 25% of the amount invested.
• On foundation managers: A tax equal to 5% of the amount invested, up to a maximum of $20,000.
D. Compliance Action Items
1. Adherence to Investment Policy Statement. The Foundation should adhere to the Investment Policy Statement at all times. Any proposed deviation from the Investment Policy Statement should require advance Board approval and should be documented with a written investment rationale explaining why the deviation is prudent under the circumstances.
2. Annual Investment Review. The Foundation should conduct an annual investment review with Havensbrook Wealth Advisors LLC to assess portfolio performance, evaluate risk exposures, confirm compliance with the Investment Policy Statement, and make any necessary adjustments to asset allocation or investment strategy. The results of the annual investment review should be presented to the Board and reflected in the minutes of the applicable Board meeting.
3. Documentation. The Foundation should document the investment rationale for any non-traditional or higher-risk investment position, including the analysis conducted at the time the investment was made and the factors considered in concluding that the investment does not jeopardize the Foundation's exempt purposes. Such documentation may be critical in demonstrating compliance with § 4944 in the event of an IRS examination.
VIII. TAXABLE EXPENDITURES — IRC § 4945
A. Overview. IRC § 4945 imposes an excise tax on certain categories of expenditures by a private foundation that are deemed "taxable expenditures." This provision significantly constrains the types of grants and expenditures a private foundation may make, and it operates in conjunction with the other penalty provisions to channel the Foundation's resources toward legitimate charitable purposes and away from political activity, lobbying, and uncontrolled grants.
The taxable expenditure rules are particularly important for the Foundation's day-to-day grant-making operations, as the rules govern how the Foundation may make grants, to whom grants may be directed, and what procedures must be followed for different categories of grantees. The Foundation's Grant-Making Policy and Procedures Manual addresses these requirements in operational detail, but this memorandum provides the legal framework underlying those procedures.
B. Categories of Taxable Expenditures
IRC § 4945(d) defines five categories of taxable expenditures. Each is discussed below with specific application to the Foundation's operations.
(1) Carrying on propaganda or influencing legislation (lobbying) — § 4945(d)(1).
The Foundation may not make expenditures to carry on propaganda or otherwise attempt to influence legislation (commonly referred to as "lobbying"). This prohibition is broader than the lobbying restrictions applicable to public charities and reflects the stricter regulatory regime applicable to private foundations.
The term "influencing legislation" includes any attempt to influence any legislation through communication with any member or employee of a legislative body, or with any government official or employee who may participate in the formulation of legislation. It also includes any attempt to influence the general public, or any segment thereof, with respect to legislative matters (i.e., "grassroots lobbying").
Exceptions: The prohibition does not apply to: