How Do Endowment Funds Work?

By Published On: November 11, 20212.6 min read

Endowment funds consist of capital that is granted to organizations, usually through donors who fund these organizations to accomplish specific goals. Examples of endowment funds include the money that funds universities, hospitals, churches, and nonprofits.

The foundation that establishes an endowment fund withdraws from the investment frequently to accomplish specific goals. For instance, a university collects millions in investment funds that it then pays out to students in the form of scholarships.

How Do Endowment Funds Work?

Endowment funds are structured so that withdrawing, using, or further investing in the policy follows predetermined guidelines that are required to receive the investment. The principal amount of the donation remains intact. Meanwhile, income from the investment keeps the organization running. When endowment funds receive large donations, they are usually structured so that only some of the funds can be used after a certain period.

By delaying the release of money from an endowment fund, the fund’s managers are able to use the money to increase the organization’s income and pay for operational costs while the rest of the investment is locked away.

Endowment funds often come with specific instructions dictated by the donor(s). This often makes it necessary for large organizations like hospitals and universities to hire an investment manager who can deploy the funds according to a specific investment goal. Since these organizations often thrive on endowments, the funds must be managed in a way that keeps the investment growing, pays for the organization’s operation, and remains within the donor’s specifications.

Who Can Use Endowment Funds?

Endowment funds are an essential part of any diverse investment portfolio, including that of a commercial real estate investor. Real estate that is used for business purposes requires investment capital. While normal channels like financial institutions and investment trusts can provide this, endowment funds can be used to generate income from a commercial property for later use.

This overlaps with the investments of the organizations mentioned earlier, as a university can use endowment funds to generate income with its commercial real estate investments.

Types of Endowment Funds

Most endowment funds have an investment, withdrawal and usage policy. These dictate the specific ways in which the funds can be used, either by setting long-term investment goals, setting a period of time when installments of funds can be withdrawn, or dictating the programs that the funds can be used to support.

As an example, a university donor may dictate that their donation can only be used to support the neuroscience department and can only be withdrawn after a certain wait period.

Within these limitations, there are three main types of endowment funds: term, restricted/unrestricted, and quasi.

Term endowment sets a term after which the funds can be used, according to the donor’s goals. Restricted funds, even after being withdrawn, can only be used for a specified purpose while unrestricted endowments can be used however the organization sees fit. Quasi-endowments are used directly by the organization as investment capital to increase income in the long term, rather than to invest in a specific cause.

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