Your Foundation's Payout Target Is Set. Your Qualifying Distributions Aren't.

That second number is where foundations get hurt. Not by arithmetic, but by payments that look like distributions on the books and don’t qualify under the tax rules. I learned that on a Friday afternoon before Christmas.

Identifying details are left out and the figures are changed, so the foundation can’t be identified. The sequence is exactly as it happened.

On paper, everything was pristine. We had an Excel tracker handed down through three controllers, an enterprise general ledger, a grant management portal, and a top-tier regional accounting firm that prepared our 990-PF every spring.

Our spreadsheet showed us $35,000 over what we had to distribute by year-end. I’d signed off on the year-end pack, and our executive director had emailed the trustees wishing everyone a happy holiday.

At 4:15 on the Friday before Christmas, our tax partner called. He wasn’t calling about arithmetic. He’d spot-checked a $115,000 grant we’d wired in November to a project run through a fiscal sponsor.

“Who checked the BMF code on the sponsor?”

Silence.

Our grant manager had onboarded them because they were a valid 501(c)(3). Nobody had pulled the IRS Business Master File for their foundation code. It was code 24: a Type III supporting organization that is not functionally integrated. Under §4942(g)(4)(A), grants to those organizations can’t count toward payout, and expenditure responsibility couldn’t change that. In five seconds, $115,000 left our qualifying distributions, and our $35,000 cushion became an $80,000 shortfall.

If we closed the year like that, we’d owe a 30% excise tax, $24,000 out of charitable dollars, and 100% if we didn’t fix it. The bank’s holiday wire cutoff was December 28.

The next four days were the worst of my working life. Finding three trustees on holiday across three time zones. Calling the chair at dinner for an emergency written consent to pull forward $85,000 of spring grants. Begging the bank’s wire desk on December 27 to process the wires before the 2:00 PM cutoff. We made it with less than two hours to spare.

In January I mapped how it had happened. Nobody was lazy, and the math wasn’t hard. The ledger recorded cash out, not tax treatment. The grant portal recorded approval dates, not wire dates. And the one check that caught it depended on a tax partner doing a spot-check nobody had engaged him to do.

He was the best partner I’ve worked with. The problem was that the system depended on him.

Three systems are involved, and each can be right on its own terms.

• The general ledger records transactions on the books’ basis: accrual, by account.
• The grant system records approvals and grant status.
• The 990-PF decides which payments qualify under §4942.

None of them reconciles to the others. A grant approved on December 10 and wired on January 4 is in this year’s books and next year’s distributions. Custodial fees booked as administration sit in the charitable column, where they don’t count. A grantee with a valid 501(c)(3) letter can still be one whose grants don’t qualify. The missing control is the reconciliation between the three, done while the foundation can still act.

In my experience, the year-end check runs like this. In mid-November the controller or executive director pulls last year’s distributable amount, exports year-to-date disbursements from the ledger and the grant system, adds the December wire run, and emails the outside tax partner: “We’ve paid $1.8 million against $1.75 million. Are we good?” Nobody has engaged the CPA for a December review, so a look at the totals and a reminder to settle wires by December 31 is all the process allows. The line-by-line review comes in the spring, after the deadline.

What 11,842 returns show. We re-did the latest e-filed Form 990-PF of every private foundation with at least $10 million in assets: 11,842 foundations holding $1.70 trillion, recomputed from the IRS’s own e-file data, line by line. 11,827 agree on every line. Of the 15 that don’t, 8 report the excise tax as zero, 5 didn’t prorate a short tax year, and 2 differ for other reasons.

The arithmetic on the form is almost never wrong. So when a foundation’s payout is wrong, the error is in what went onto the form, and that’s exactly what nobody can see from the return.

Among the 10,807 domestic non-operating foundations with a distributable amount above zero, 4,821 carried part of a year’s requirement into the following year, as the law allows: $19.7 billion in all. For nearly half of foundations, this year’s grants are paying last year’s requirement, and December 31 is a deadline, not a target.

These are internal controls, not statutory dates. Run them in order.

November 1 · Establish the target. Take the distributable amount (Part X, line 7) and any undistributed income still open from last year’s filed return. If the return is still being finalized, get the preparer’s reconciliation and record that the figure is a draft.

November 1 · Put expenses in the right column. Expenses attributable to producing investment income, such as custodial fees and investment-management legal work, belong in column (b) of Part I. Charitable-purpose expenses go in column (d). Allocate shared costs on a documented, reasonable basis, by the service performed rather than by vendor or account name.

November 15 · Screen every grantee. Look up every recipient paid this year or scheduled for December in the IRS Exempt Organizations Business Master File, and flag foundation code 24, which the IRS defines as “509(a)(3) Type III not functionally integrated.” Record the date of the extract you used; the IRS refreshes it monthly. A 501(c)(3) determination alone doesn’t establish that a grant qualifies, so confirm the legal recipient, not just the project. Confirm an executed expenditure responsibility agreement or equivalency determination for every foreign or non-public-charity grantee. A database lookup is a screen, not a legal opinion: send anything it flags to your CPA.

December 1 · Cash-basis cutoff. Put the grant-system export beside the ledger. A board approval or a signed agreement is not a distribution. Every grant counted toward the requirement maps to a payment that settles by December 31. If it wires in January, take it out.

December 15 · The CPA reconciliation. Send your tax partner a one-page, tax-basis memo: the amount due, qualifying distributions to date, payments scheduled, unresolved classifications, and the buffer or shortfall that results. Engage the review properly. The question is the tax treatment, not whether two totals agree. Get written concurrence before the final wire run, with ten days left to act.

December 28 · Final wires and freeze. A check is generally treated as paid when it’s delivered, if it clears. As a house rule, freeze the ledger on December 28 and count settled wires only.

The one check that catches most problems. In my experience, most near-misses come from two places: investment expenses in column (d), and a grantee nobody screened. Cross-check those two before anything else.

Board chairs treat a §4942 excise tax as a failure to avoid at any cost, even if it means rushing grants out on December 30. But a panic grant to the wrong recipient doesn’t qualify, so it doesn’t close the gap. And if it needed expenditure responsibility and didn’t get it, it can be a taxable expenditure on top.

On a $150,000 shortfall, that’s a possible $45,000 at 30% under §4942, $30,000 at 20% under §4945, and the $150,000 still has to go out again.

The grants to accelerate in December are the ones that have already passed your program, legal and governance review. A deadline is not a reason to abandon grant discipline.

When a foundation’s qualifying distributions exceed its distributable amount, the excess carries forward for five years (§4942(i)). The Treasury regulation sets how it’s used (§53.4942(a)-3(e)). Each later year’s own distributions are applied first. The carryover then covers whatever of that year’s requirement is left, oldest layer first. It never reduces an earlier year’s undistributed income.

Two things follow, and both matter in December.

If you’re short in December, your carryover is already gone. What’s due by December 31 is last year’s undistributed income, and the rules applied every available layer to last year’s requirement before that figure existed. A shortfall now means there was nothing left to apply.

A worked example, in thousands of dollars:

The foundation moved to a one-year lag in 2025. The rules used both layers, $900,000, against its 2025 requirement, so $1.2 million was due by December 31, 2026. With $1.0 million paid, it’s $200,000 short, and there’s no carryover left to help.

The one exception is an error. If last year’s return failed to apply the carryover, this foundation would believe it owed $2.1 million, not $1.2 million. So the December question isn’t “can we use our carryover?” It’s “did last year’s return apply it?”

A layer in its fifth year can lapse because you paid ahead. A carryover only reduces a year’s requirement to the extent that year’s own distributions leave it unpaid. A foundation that pays this year’s requirement in full during the year never draws on it, and the oldest layer expires.

That’s not a corner case. Across 65,637 returns filed for tax years ending 2020 to 2025, $83.7 billion of excess reached its fifth year, and 94% of it, $79.0 billion, lapsed unapplied. 4,520 foundations show a lapse in at least one year. Today, 3,274 of the 10,947 foundations in the chain study hold $21.2 billion in its fifth year: applied in the next tax year, or gone. A lapse is not a shortfall. It is a credit that ran out.

Take a foundation with $400,000 of excess from 2021 and a 2026 requirement of $2.2 million. Pay $2.2 million during 2026 and the $400,000 lapses on December 31. Pay $1.8 million and the layer covers the rest. Both satisfy the rule. Whether to give the extra $400,000 is the board’s decision. Knowing that it is a decision is the controller’s job, so ask your preparer before the final December wires.

Two more things go wrong:

• Ghost carryovers. A layer from a year whose grants didn’t all qualify. If $100,000 three years ago went to a code 24 organization, it never counted. When that’s found, the layer built on it disappears, and the years since have to be recomputed.
• Book surplus isn’t tax carryover. Spending $500,000 over budget isn’t a $500,000 cushion. Carryover is computed under the tax rules, and investment expenses or non-qualifying grants in the history shrink it.

If a shortfall turns up, the controller’s call to the chair takes sixty seconds: the amount due, qualifying distributions to date, the gap, the items that caused it, the tax exposure, and the fix, meaning which already-reviewed grants go out and by when.

Whatever form the authorization takes under your bylaws and state law, the record is more useful when it shows what the board saw and why it decided, not only that it voted. One day a successor trustee or an examiner will have the return and the minutes. The return shows the numbers. Minutes usually show the vote and not the argument.

Two recitals do most of the work:

WHEREAS, a tax-basis reconciliation dated [date], prepared by [Controller]
and reviewed by [CPA firm], of the amount the Foundation is required to
distribute by December 31, [year] under IRC § 4942, being its undistributed
income for the tax year ended December 31, [prior year], found that
distributions recorded on the Foundation's books exceeded those qualifying
by $[amount], owing to [each item, with its amount and reason]; and

WHEREAS, the Board considered [alternatives considered] and determined to
accelerate only grants reviewed and put forward by the Program Committee on
[date], so that no grantee is selected under deadline pressure;

Behind the resolution, keep the Business Master File extract dated to the wire, the bank’s confirmation showing a settled date, and the grantee’s acknowledgement of receipt. How long to keep them is for your counsel and tax advisers to set.

Can you send me a one-page payout summary this month?

1. What’s still due by December 31 against last year’s distributable amount, and what we’ve paid against it in settled cash.
2. Confirmation that every grant we’re counting will settle by December 31.
3. Confirmation that investment expenses are in column (b), not column (d).
4. Confirmation that every grantee paid or scheduled has been checked against the IRS Business Master File for foundation code 24, with expenditure responsibility on file where it’s required.
5. Whether we hold a carryover layer in its fifth year, and whether last year’s return applied what we had.

• Foundations: every private foundation in the IRS e-file index with at least $10 million in assets as of September 26, 2026: 11,842, holding $1.70 trillion.
• Returns re-done: the latest e-filed 990-PF for each, tax years ending mostly in 2024 and 2025, recomputed with exact decimal arithmetic. “Agrees on every line” means every recomputed line equals the filed figure, allowing only whole-dollar rounding and the proration of a short tax year.
• Payout figures: the 10,807 domestic non-operating foundations with a distributable amount above zero.
• Carryover figures: every 990-PF the IRS has published as e-file data for the same foundations, 65,637 returns for tax years ending 2020 to 2025, read in order as a chain. 10,947 foundations are in the chain study. A lapse is an excess left unapplied after its fifth year (Part XII, line 8).
• Two separate reads. The latest-return study counts 4,821 foundations and $19.7 billion carried forward; the chain study counts 4,837 and $19.8 billion. They aren’t forced to agree.

Full method and data: the 990-PF study and the carryover chain. No foundation is named.

When is a private foundation’s minimum distribution due?
By the end of the tax year after the one it’s computed for. For a calendar-year foundation, the 2025 distributable amount is due by December 31, 2026.

Does a market drop this quarter lower this year’s payout?
No. What’s due this December was set by last year’s asset values. A drop now affects the 2026 distributable amount, which is due by the end of 2027.

Do grants to supporting organizations count toward payout?
Grants to Type III supporting organizations that aren’t functionally integrated don’t, under §4942(g)(4)(A). Grants to other supporting organizations can be excluded too, if the foundation’s disqualified persons control them. Check the legal recipient before you count the grant.

Can excess distributions from earlier years cover a December shortfall?
No. The rules apply carryover to last year’s requirement before it’s computed, so if you’re short now, there’s none left to apply. The exception is a return that failed to apply it, which is worth checking.

What’s the penalty for missing the payout?
A 30% excise tax on income still undistributed at the start of the second year after it arose: for 2025 income, January 1, 2027. It can be abated for reasonable cause if the shortfall is corrected promptly. Paying it doesn’t remove the obligation to distribute, and a further 100% tax can follow if it stays uncorrected.