How do we know the money we give to charity will be well spent?

Most of us would not associate charities with luxury travel and high wages for their executives.

Consider the recent damaging press revelations about how much the chief executive of America’s Gay and Lesbian Alliance Against Defamation, Sarah Kate Ellis, was spending on first-class flights and plush hotels as well as home office renovations. Moreover, with bonuses her pay was over $600,000 in 2022, a lot for a relatively small charity.

This exceptional case taints the reputation of the many sensibly run non-profit groups and charities. Laurie Styron at CharityWatch, a US watchdog for the sector, knows about stories like this all too well: “In this area, you pull a thread and the whole thing starts to unravel.”

In the US, she says, constraining a charity’s spending may sound sensible but in practice can prove hard to do. Indeed, in the 1980s when states did try to bring profligate groups to heel in the resulting legal challenges the US Supreme Court ruled in favour of the charities on First Amendment grounds. That means for all intents and purposes US charities can spend almost all of their income on overhead expenses.

However, this raises the question whether donors need to think more carefully about what charities do with the money we give them. Many of us, this writer included, may make charitable donations on the basis of an emotional connection to a cause, or simply a personal relationship to someone involved at that organisation.

We should perhaps see our charitable contributions more as portfolio investments

“To give money away is an easy matter and in any man’s power,” argued Aristotle. Doing so in an effective manner and in the right proportion is another story altogether. That was true generosity for him.

Along these lines we should perhaps see our charitable contributions more as portfolio investments, rather than simply cash that we give away and forget about. Of course, larger charitable foundations will do this. But many smaller donors probably do not.

It is a question worth asking — and not just due to concern about flagrant misuse of funds. How effectively a charity makes use of the contributions it receives is just as important as how efficiently it runs its organisation. But it is a topic of some debate: some argue too much focus on costs can inhibit a charity’s ability to put its funds to good use.

Last year the median salary of a chief executive at the largest 100 UK charities was £175,000, according to the Charity Chief Executive Survey. In America, CEOs of charities with large budgets can make multiples of that figure. CharityWatch has a list of top earners at US non-profit institutions. Over 40 of them took home more than $1mn annually, with six making more than $3mn.

Some of these executives are responsible for large nationwide organisations. The American Heart Association reports it has over 2,900 paid staff and 35mn volunteers. Its CEO, Nancy Brown, earned a total of over $4.1mn, near the top of Styron’s US list of big earners among non-profit groups.

Yet worrying about the pennies can mean the charity fails to bring in the big money. That is one argument made by professional fundraisers who earn these big wages.

Also, the amounts are very large in the US partly due to the tax shelter available. Americans can deduct up to half of their charitable donations against their taxable incomes, according to the Internal Revenue Service.

Regardless, many donors would prefer to focus on the impact charities have — so how can they find out how cost-effective the spending is for the outcomes intended?

The good news is that over the past couple of decades some organisations have sprung up that assess the efficiency of charitable donations, using a mix of quantitative and qualitative measures.

GiveWell is one such group — a meta-charity or intermediary. Started in 2007 informally by former hedge fund employees Elie Hassenfeld and Holden Karnofsky, they wondered how charities could optimise the effectiveness of their donations. This began as a side project for the two, offering their financial analysis skills to charities. Later they decided to analyse and rate the effectiveness of charities.

Finally, GiveWell became an independent charity that is now run by Hassenfeld. Karnofsky later moved on to work with another charity group, Open Philanthropy. The latter is more clearly tied to the beliefs of ‘effective altruism’. More about that later.

GiveWell’s research-centric approach means that much of its effort goes to sifting through academic reports and developing models that can measure the cost effectiveness of a wide variety of charitable programmes.

This data-led approach results in charity recommendations with proven results and evidence that shows just how much donations improve or even save lives. They have detailed spreadsheet models to share with anyone interested.

The GiveWell method does appeal to certain donors. Over the past decade or so, it has directed more than $2bn to using its approach. But it recognises that there is a limit to screening on the basis of cost/benefit analysis and says it takes into account other factors, too, such as the organisation’s record.

Thinking about overhead and admin is just an outdated approach

The result is that GiveWell focuses on Africa and on health programmes, areas where a reasonable amount of spending can make a big difference. Its top four charities focus on malaria — either using medicines and/or mosquito netting — as well as vitamin A supplements and routine childhood vaccinations.

However, therein lies a problem. Such a concentrated recommendation list for donors poses a difficulty for some.

“I wish there were more people doing what GiveWell does but for other areas,” says Chenxin who lives in Denver and prefers to use her first name only. She uses GiveWell and really approves of what it does. “[But] I have often wished that GiveWell were giving more climate recommendations.”

There are other charity research groups similar to GiveWell, which does not charge any fees. Founded in 2013, US-based The Life You Can Save shares GiveWell’s philosophy on using research to find the charities with the most impact.

Its co-founder and guiding light Professor Peter Singer from Princeton University had written on the subject of solving global poverty effectively, rather than just giving money. Joined by Charlie Bresler, who had decades of experience in retailing, the two formed this non-profit organisation on finding effective charities.

Andrea and Jessica La Mesa work as pro bono co-CEOs for The Life. Having worked in online businesses in the past decade — she in online advertising, he at Airbnb — they decided to devote time to philanthropy.

They see their organisation as different in approach from GiveWell, but not competitors as such. “The Life starts with a problem, global poverty, and seeks programmes to help,” said Jessica. “GiveWell works from a constraint of achieving maximum impact” to find a recommendable list.

Some readers might recognise elements of utilitarian philosophy, where the morally correct action is that which does the most good. Its related ideology, effective altruism, is sporting a black eye following the conviction of one of its infamous proponents, Sam Bankman-Fried, co-founder of collapsed crypto exchange FTX. In March this year, he was found guilty in the US of seven counts of fraud and money laundering.

Not surprisingly, both GiveWell and This Life prefer not to connect themselves with effective altruism on giving, despite some intellectual similarities.

With the movement towards finding the most fruitful charities, rather than just those that are cost efficient, comes increased professionalism. In the UK for smaller charities, with limited capital and funding, there is managerial support. Since 1989, the UK’s Cranfield Trust has offered its volunteer experts to non-profit groups to improve their financial management skills.

Smaller charities that the Trust works with may not conform to the idea of a data-driven approach to giving, thinks its CEO Amanda Tincknell. She has more than 30 years experience working with charities.

“Thinking about overhead and admin is just an outdated approach,” she says. “Many have contracts with the local government. They work in a very mixed economy.” These organisations do need to be well run, but “results-based targets are tricky, say with drug addiction”. The argument goes that people experiencing addiction might have a range of problems in need of support: poverty, homelessness, mental health challenges. This makes it very difficult for charities to demonstrate their impact.

Larger, well-capitalised philanthropic institutions and foundations also do this kind of sifting through charities but are willing to take on more risk. They can donate to more charitable groups and may need not only more choices but greater scale. This type of donor also can afford to pay advisers to help.

Tom Hall is just the man for the job. He heads up the social impact and philanthropy team at UBS Global. Ultimately, his clients are seeking a “return on their charitable giving from an impact perspective”.

He says usually his clients do worry about how their money is spent. His 150-person team tries to help maximise the outcomes from donations. These can be much larger in scale than from those who rely on GiveWell.

That in turn can put the burden of proving efficacy on the charity itself, and someone has to pay for evidence generation. When comparing the average donor and the wealthy philanthropist it is not just about efficiency but for the latter it is also about innovation, as well as finding scale to accept larger donations and make a difference.

His clients are thus willing to bear more risk in their philanthropy, which suggests that quantitative measures of efficiency may not always apply, at least with early-stage projects.

This fits well into the area that Stephan Chambers studies and lectures on at the London School of Economics. As he says, “Philanthropy, it’s not just one thing . . . it’s a huge field, now complicated by the investment community moving into the area of impact investing.” The latter is designed to deliver financial returns along with measurable social and environmental improvements.

Chambers argues that for philanthropy to be authentic it needs to be naturally risk-bearing. Meta charities such as GiveWell and The Life You Can Save encourage a move away from risk-taking.

Instead, he encourages seeking out charities that answer the following questions: “is it important, is it tractable, and is it neglected?” He cites former US president Jimmy Carter’s success with his Guinea worm eradication programme.

See charitable causes as an asset class that ought to involve the risk of losing money, he says. Not every charitable programme delivers success from each donation and some of these need seed capital. In this way, the cost of failure is zero. Donors could easily support highly effective charities as well as those that have yet to amass evidence of success.

Innovative portfolio concepts for charitable giving include creating hedges for those non-profits that need support. This might include “first-loss” guarantees to protect against the risk of default at the non-profit. Given the tax deductions available to US citizens, that option makes more sense.

Another idea could be seen as venture philanthropy, allowing the charity to spend money on its cause without restrictions. In a way, this is the polar opposite of what CharityWatch proposes.

Philanthropists also need to think about what is the proper capital structure to achieve really, really big change, thinks Chambers. Even the Gates Foundation, with $75.2bn at the end of 2023, is not big enough.

A huge wealth transfer to come means philanthropic assets will grow. In the US alone an enormous $85tn of wealth will transfer to the younger generation in the next two decades. Part of that will go to charitable causes.

Already the value of philanthropic assets in the world today amounts to $2tn, says UBS. This should increase to $11.9tn by 2045, according to estimates by consultants Cerulli Associates.

For those on the receiving end of this largesse who do seek to find charitable causes, they will need to find causes that both offer the scale and impact to make their donations worthwhile. That should make a philanthropy a growth industry for decades to come.

This article has been amended to clarify that the median chief executive pay refers to those at the UK’s largest charities, and to remove the reference to average pay.