IRC 4944 Jeopardizing Investments: Prudent Investor Standard, Excise Tax, and Foundation Manager Liability

Definition of a Jeopardizing Investment (IRC 4944(a))

An investment is a jeopardizing investment under IRC 4944(a) if, at the time it is made, it does not reflect the exercise of ordinary business care and prudence under the facts and circumstances, taking into account the foundation's entire portfolio of investments. The statute sets a conduct standard, not an outcome standard: a foundation can make a jeopardizing investment even if the investment ultimately produces a positive return, and an investment that results in a total loss is not necessarily jeopardizing if the decision was prudent at the time it was made.

The standard applies to new investment decisions. It does not require hindsight of loss, and it does not apply to investments already in the portfolio when the current managers took their positions (absent a conscious decision to retain an investment that has become imprudent). The IRS looks to the facts available at the time the investment decision was made -- board minutes, investment committee records, market data reviewed, and the foundation's documented investment objectives at that moment.

IRC 4944 applies to both direct investments and indirect investments made through intermediaries. A foundation that commits capital to a fund or a co-investment vehicle is making an investment decision within the meaning of IRC 4944(a), and the prudence standard applies to that commitment decision regardless of who manages the underlying assets.

Prudent Investor Standard (Treas. Reg. 53.4944-1(a)(2))

Treasury Reg. 53.4944-1(a)(2) defines the prudent investor standard by reference to the standard a reasonable person of ordinary business care and prudence would exercise in managing investments for an organization with a charitable mission. The regulation specifically states that foundation managers must consider the foundation's charitable purposes and the need to preserve the asset base that funds those purposes -- not just the risk-return profile of the investment standing alone.

Judged at the Time of Decision

The standard is applied prospectively, not retrospectively. A foundation manager who follows a documented deliberative process -- reviewing relevant market analysis, obtaining appropriate expert opinions, considering the investment in the context of the portfolio and the foundation's liquidity needs -- has strong evidence of prudence even if the investment later performs poorly. A manager who commits capital without deliberation, or whose process was not documented, has no evidentiary defense regardless of whether the investment succeeds.

Per Se and Presumptively Jeopardizing Investment Categories

Treas. Reg. 53.4944-1(a)(2)(i) identifies specific categories of investments that are presumed to be jeopardizing. A foundation that makes one of these investments carries the initial burden of demonstrating that the investment was prudent given its specific portfolio and circumstances. The categories are:

• Trading in securities on margin
• Trading in commodity futures
• Investments in working interests in oil and gas wells
• Purchases of puts, calls, or straddles
• Purchases of warrants
• Selling short

These categories carry elevated risk because each involves either leveraged exposure, derivative positions, or participation in activities where losses can exceed the original commitment. A foundation that invests in one of these categories should obtain contemporaneous written analysis confirming that the investment reflects the exercise of ordinary business care and prudence in the context of its specific portfolio, exempt purposes, and financial position.

Investment Policy Statement as the Primary Defense

A board-adopted investment policy statement (IPS) that addresses asset allocation, risk tolerance, diversification standards, liquidity requirements, and prohibited or restricted investment categories is the most effective IRC 4944 compliance tool available to a private foundation. An IPS establishes the framework within which managers exercise their business judgment -- and it creates the contemporaneous documentary record that demonstrates the foundation applied that framework to each investment decision.

An IPS alone is not sufficient, however. The actual investment decisions made by the board or its delegated investment committee must conform to the IPS in practice. A foundation with a conservative IPS that then invests a substantial portion of its portfolio in speculative instruments has not satisfied the prudent investor standard; the IPS provides the framework, but the decision must implement it.

Portfolio Context: The Whole-Portfolio Test

IRC 4944 does not evaluate investments in isolation. The regulation requires the IRS to consider the foundation's entire investment portfolio -- its diversification, liquidity, income needs, and the proportion of the portfolio represented by the investment at issue. This whole-portfolio analysis means that the same speculative instrument may or may not constitute a jeopardizing investment depending entirely on the size and composition of the foundation's overall holdings.

Consider two illustrations:

• A $500 million foundation allocates 1% of its portfolio (approximately $5 million) to an early-stage venture capital position in a social enterprise. The allocation is a small fraction of a large, diversified portfolio, and the foundation has ample liquidity to meet its IRC 4942 minimum distribution requirements from other assets. The investment's speculative character, standing alone, does not necessarily jeopardize the foundation's ability to carry out its exempt purposes.
• A $2 million foundation allocates 80% of its portfolio to the same venture capital position. The foundation's ability to make qualifying distributions, pay operating expenses, and maintain its charitable programs depends on the success of that single investment. A loss would materially threaten the foundation's capacity to pursue its exempt purposes. This allocation is almost certainly a jeopardizing investment.

The practical implication for practitioners: when advising a foundation on a proposed investment that would otherwise raise IRC 4944 concerns, document the portfolio context thoroughly -- total asset base, current diversification, liquidity profile, and the proposed investment as a percentage of total assets. This documentation is the factual record that either supports or undermines the foundation's position if the investment is later challenged.

Program-Related Investments Exception (IRC 4944(c))

IRC 4944(c) provides a complete exemption from the jeopardizing investment rules for investments that qualify as program-related investments (PRIs). A PRI is not a jeopardizing investment regardless of its risk profile or its similarity to a presumptively jeopardizing category, as long as it satisfies the three-part statutory test.

The Three-Part PRI Test

An investment qualifies as a PRI under IRC 4944(c) if all three of the following conditions are met:

1. Primary purpose is exempt. The primary purpose of the investment is the accomplishment of one or more purposes described in IRC 170(c)(2)(B) -- the same charitable, educational, religious, scientific, or literary purposes that define the foundation's own exempt status. Below-market loans to affordable housing organizations, equity investments in social enterprises providing job training, and loan guarantees for community development financial institutions are classic examples.
2. No significant purpose is income or appreciation. No significant purpose of the investment may be the production of income or the appreciation of property. This is the most frequently litigated element of the PRI test: an investment that generates market-rate returns, or whose economic terms are structured primarily to produce income, loses PRI status even if a charitable rationale is articulated. The test requires that income or appreciation be incidental to the primary exempt purpose -- not a co-equal driver of the investment decision.
3. No lobbying or political campaign purposes. No purpose of the investment may be to accomplish activities described in IRC 170(c)(2)(D): lobbying or political campaign intervention. This prong is rarely contested but must be confirmed.

PRI Interaction with IRC 4942

A PRI counts as a qualifying distribution under IRC 4942(g)(1) in the year the investment is made. This dual benefit -- IRC 4944 exemption plus IRC 4942 credit -- makes PRIs one of the most strategically valuable tools available to private foundations pursuing mission-aligned investing. When a PRI is repaid, the repayment is added back to the distributable amount under IRC 4942(f) in the year of receipt, so the foundation receives a one-year credit that is reversed on repayment.

Two-Tier Excise Tax (IRC 4944(a) and (b))

IRC 4944 follows the same two-tier excise tax structure used throughout the private foundation penalty statutes: a lower initial tax designed to compel correction, and a higher additional tax that applies if the foundation does not remove the investment from jeopardy within the taxable period.

Initial Tax (IRC 4944(a))

The initial tax is imposed for each year in the taxable period -- not a one-time assessment. The tax is assessed annually on the amount of each jeopardizing investment that remains outstanding. Two separate initial taxes apply:

Foundation managers are personally liable for the 10% initial tax if they "knowingly" participated in making the jeopardizing investment. The "knowingly" standard under IRC 4944 is the same as under IRC 4941: actual knowledge of the facts constituting the jeopardizing investment, not mere ignorance of the law. A manager who was present at the vote to approve the investment and was aware of its speculative character has actual knowledge even if she did not know that IRC 4944 applied to such an investment.

Additional Tax (IRC 4944(b))

If the investment is not removed from jeopardy before the close of the taxable period, an additional tax is imposed under IRC 4944(b):

The "taxable period" for the additional tax ends on the earlier of the date the IRS mails a notice of deficiency for the additional tax or the date the additional tax is assessed. In practice, foundations have until the IRS issues the deficiency notice to remove the investment from jeopardy and avoid the 25% tax. Foundation managers face the 5% additional tax specifically if they "refused to agree" to the removal -- a standard that requires an affirmative act of refusal, not mere inaction.

Removal from Jeopardy

Removal from jeopardy is the IRC 4944 analog to "correction" under other private foundation excise statutes. An investment is removed from jeopardy when the foundation takes one of the following actions:

• Sells or exchanges the investment and uses the proceeds in a manner consistent with the foundation's exempt purposes
• Redeems the investment
• Otherwise eliminates the jeopardizing character of the investment through some other action that brings the investment into compliance with the prudent investor standard

Removal from jeopardy must occur before the close of the taxable period to prevent the additional 25% tax from being assessed. Once the investment is removed from jeopardy, no further annual initial tax accrues for subsequent years, but the initial tax already assessed for prior years in the taxable period is not abated by the act of removal.

A foundation seeking abatement of the initial tax after removal from jeopardy may petition the IRS under IRC 4962, which allows abatement of first-tier excise taxes if the taxable event was not willful and was due to reasonable cause. The abatement request should accompany or follow the correction and should be supported by documentation demonstrating the foundation's good-faith reliance on its IPS, investment committee process, or professional advice at the time of the original investment decision.

OBBBA 2026 and DAF Co-Investment Risk Under IRC 4944

The One Big Beautiful Budget Act of 2026 (OBBBA) introduced new excise tax provisions governing donor-advised funds under IRC 4966 and related sections. Among the novel questions arising from these provisions is whether a private foundation that co-invests alongside a donor-advised fund's investment pool can invoke the program-related investment exception under IRC 4944(c), or whether the co-investment structure itself introduces IRC 4944 jeopardizing investment exposure through the DAF relationship.

The concern is structural: if a private foundation and a DAF managed by the same sponsoring organization (or a related investment vehicle) jointly commit capital to a venture or fund, the foundation must independently satisfy the IRC 4944(c) PRI three-part test for its own share of the investment. The DAF sponsor's investment rationale -- which may be driven by donor recommendations and the sponsor's own investment return objectives -- is not the same as the foundation's exempt-purpose analysis. If the co-investment lacks a primary exempt-purpose rationale that is independent of the DAF sponsor's investment return, the PRI exception may not apply to the foundation's share, and the investment may face IRC 4944 scrutiny as a speculative co-investment made without adequate documentation of the foundation's own prudent-investor analysis.

Practitioners advising foundations with DAF co-investment programs should document the IRC 4944(c) PRI analysis before capital is committed, not after. The contemporaneous record of the foundation's independent exempt-purpose rationale for each co-investment -- separate from the DAF sponsor's rationale -- is the evidence that would support a PRI position if the IRS later examines the investment under IRC 4944.

IRC 4944 Investment Reference Table

Compliance Traps and Practitioner Alerts

Note also that a foundation's investment in a fund or vehicle managed by a disqualified person may independently trigger IRC 4941 self-dealing rules. The IRC 4944 prudent investor analysis and the IRC 4941 self-dealing analysis are separate inquiries -- satisfying one does not satisfy the other. Both must be completed before the foundation commits capital to any investment with disqualified person involvement.

Form 4720 Reporting Mechanics

Jeopardizing investments and the related excise taxes are reported on Form 4720, Return of Certain Excise Taxes Under Chapters 41 and 42 of the Internal Revenue Code. Both the foundation's tax and the foundation manager's personal tax are reported on the same form, with separate schedules for each party.

Foundation Reporting (Schedule D)

The foundation reports each jeopardizing investment on Schedule D of Form 4720, identifying the investment, the date made, the amount invested, and the taxable period during which the initial tax applies. The 10% initial tax is calculated on the amount of each investment for each year of the taxable period, and the 25% additional tax (if applicable) is reported separately. If the investment was removed from jeopardy during the taxable period, the removal date and action taken must be documented.

Foundation Manager Reporting

Each foundation manager who is personally liable for the 10% initial tax reports that liability separately on Form 4720, Part II. Each manager subject to the 5% additional tax (if applicable) similarly reports on the appropriate part. The personal liability cap -- $10,000 per investment for the initial tax, $20,000 per investment for the additional tax -- applies per manager per investment, not in aggregate across all managers.

Filing Deadline and Coordination with Form 990-PF

Form 4720 is due on the same date as the foundation's annual return, Form 990-PF, including extensions. A foundation that discovers a potential IRC 4944 issue after filing Form 990-PF but before the Form 4720 deadline should file or amend Form 4720 before the deadline to minimize exposure to failure-to-pay penalties. The Form 4720 and Form 990-PF disclosures should be consistent; IRS examiners cross-reference the two forms during examination.

Frequently Asked Questions