How should a non-profit foundation invest its endowment capital? Are alternative investments such as private equity too risky, too illiquid, or too costly? What is permitted, and what is possible? At what point does the foundation risk losing its non-profit status or at least the tax exemption on its income? And are there private equity investment opportunities that meet the ethical requirements and sustainability principles of non-profit foundations?
The long-term asset allocation of a non-profit foundation is a fundamental issue that requires careful economic consideration and balancing of various aspects.
Strategic Asset Allocation for Foundations
Foundations must think and act with a long-term economic perspective. Their asset strategy should therefore be broadly diversified. In addition to traditional investments such as real estate, stocks, or bonds, alternative investments in the private equity sector also come into consideration. Such investments promise higher returns but are usually associated with longer capital commitments and higher risks. For non-profit foundations, this raises special questions: How does a long-term capital commitment align with the requirement for profitable asset investment? Can the risk of a total loss be reconciled with the principle of capital preservation (Vermögenserhaltungsgrundsatz)? And which private equity strategies align with the ethical and sustainable goals of the foundation? A strategic allocation therefore requires a well-founded selection and professional advice.
Before addressing the prerequisites and possibilities for such investments by a non-profit foundation, the following section provides a brief overview of the key terms typically grouped under the concept of private equity.
Private Equity and Private Debt Funds
Private equity investments refer to equity and equity-like investments in non-listed companies. The core concept of a private equity fund is that the fund’s initiators possess expert knowledge and market access in a specific segment of the non-public capital market. This investment opportunity is made accessible to third parties (investors) through a collective investment scheme. In return, the initiators receive capital from investors, which they invest – via the fund company and in accordance with a predefined investment strateg – into specific target companies (known as portfolio companies).
A variation of this is the private debt fund, a collective investment scheme that primarily provides debt capital in the form of loans to selected portfolio companies. For investors, the distinction between private equity and private debt is particularly relevant due to the different types of returns generated. In a private equity fund, investors indirectly participate as shareholders in the profits of the respective portfolio company during the investment period (e.g., through dividends). After the planned holding period, the proportional sale proceeds are generated through the divestment of the investment (known as an exit). Profits are then realized by investors in the form of capital gains. In contrast, a private debt fund primarily generates interest income at the fund level, which is passed on to investors as ongoing returns.
Further Modifications Based on Investment Strategy
In principle, a distinction is made between private equity (or debt) funds that invest in stable, established (usually mid-sized) companies with growth potential – or provide corresponding loan – and those that invest in young companies (venture capital). There are also numerous intermediate stages, combinations, and more specific strategies, such as investments based on industry, type and size of individual portfolio holdings, and/or geographic location. Real estate funds on the other hand, invest in the asset class of real estate. Their returns come from rental income, which is typically distributed to investors through regular payouts, as well as from the proceeds of selling the properties.
Another option for non-profit foundations is investment in a private equity fund of funds. In this case, the investor participates via a fund company that itself invests in various private equity funds, each of which invests in one or more portfolio companies.
Investing in an impact fund can also be an interesting option for the asset management of a non-profit foundation. An impact fund invests with the explicit intention of generating a financial return while also achieving positive environmental or social impacts. The social or ecological impact is an integral part of the investment strategy and must be measurable. This distinguishes impact funds from traditional, purely return-driven investments, as well as from donations. Instead, impact funds represent a hybrid form of investment. Most impact funds are structured as debt funds, generating stable returns (interest) and focusing on the impact of providing financial resources rather than increasing company values. However, this can create tension with the principle of capital preservation (Vermögenserhaltungsgrundsatz), which is why this form of investment will be examined separately later.
Open and Closed Funds
The main difference between open and closed funds lies in liquidity: In open funds shares can be redeemed at any time (or as stipulated in the contract), whereas this is generally not possible with closed funds. In the latter case, a transfer to third parties is possible but typically requires the approval of the fund manager.
Private equity (and debt) funds are usually structured as closed funds to ensure a fixed capital commitment (typically at least seven to ten years). This allows fund initiators to engage in long-term planning and potentially achieve higher returns.
A closed fund has a fixed, limited capital base and issues a specific number of shares. Once the fund volume is reached, the fund is closed. The fund’s term is determined at its inception and ends with the liquidation of the fund after the sale of the investment objects. There is no fixed interest rate. If the fund generates returns during its term, these can be distributed to investors. The amount of payouts at the end of the term depends on the success of the company investments, with a total loss also possible. For non-profit foundations, the closed fund structure is of particular importance because the long-term capital commitment must be taken into account in liquidity planning. The foundation must ensure that it has sufficient funds to fulfill its purpose even during the fund’s term.
Ethical Requirements and Sustainability of Investments
Nowadays, many investors place importance on ensuring that their investments align with ethical and sustainable principles. ESG criteria (Environmental, Social, and Governance standards) provide a framework for assessing the sustainability of an investment. Private equity funds have long responded to this development and are increasingly incorporating ESG factors into their investment practices.
The European Union has established binding transparency obligations with the Sustainable Finance Disclosure Regulation and the Taxonomy Regulation. Funds that commit to sustainability are subject to the requirements of Article 8 or Article 9 of the SFDR, depending on their objectives. A fund that promotes sustainable characteristics and investments is subject to the transparency obligations under Article 8 SFDR. If the fund’s investment strategy even aims to invest in sustainable assets, it falls under the extended transparency obligations of Article 9 SFDR.
The Taxonomy Regulation additionally provides a framework for ecologically sustainable economic activities in the real economy, which is specified in numerous legal acts. Funds that subject themselves to the disclosure requirements of Article 9 SFDR and/or commit to making Taxonomy-aligned investments are still the exception. Classification under Article 8 SFDR currently represents the status quo in the fund landscape, particularly as demanded by institutional investors – usually due to their own compliance guidelines or regulatory requirements.
The key difference from an impact fund is that the latter explicitly defines impact objectives and measures the impact of the investment. Thus, qualification as an impact fund conceptually represents an added value compared to the requirements of funds under Article 8 and Article 9 SFDR.
Negotiating information obligations regarding the specific scope and compliance with ESG factors, as well as extensive exclusion lists as part of an investor’s admission to a fund, has long been part of standard legal advisory services. Depending on the fund’s design, the manager can either agree not to make certain investments or at least exclude the investor from the respective investment. In practice, private equity fund managers now have standard ESG clauses ready, which are individually adapted during accession negotiations.
Regulatory Requirements for Investors
Private equity funds in Germany and the EU are subject to regulatory requirements and may generally only be offered to certain groups of investors. The German Investment Code (Kapitalanlagegesetzbuch – KAGB) distinguishes between professional, semi-professional, and private investors. Professional investors – such as banks, insurance companies, or large corporations – are considered sufficiently experienced and capital-strong. They can invest in private equity without significant regulatory restrictions.
Semi-professional investors are typically high-net-worth individuals or smaller institutions that do not qualify as professional but must meet certain requirements. These include a minimum investment of €200,000, a written risk disclosure, and proof of sufficient knowledge, such as through professional experience or prior investments. Private investors are considered particularly in need of protection and have very limited access to private equity. However, investments for private investors can be made possible through public funds with extensive prospectus requirements, often allowing investment amounts starting from €10,000.
Even if some foundations may not be classified as professional investors due to their size, they can often qualify as semi-professional investors if they make a corresponding minimum capital contribution, have professional asset management, and employ knowledgeable personnel.
Limits of Foundation Civil Law
With the Foundation Law Reform (Stiftungsrechtsreform) of July 1, 2023, the state foundation laws were replaced by a uniform federal foundation law in the German Civil Code (Bürgerliches Gesetzbuch – BGB). Central to this reform is the distinction made in § 83b BGB between endowment capital (Grundstockvermögen) and other assets (sonstiges Vermögen). According to § 83c (1) sentence 1 BGB, the endowment capital must be preserved in full; other assets may be used for fulfilling the foundation’s purpose. While the BGB does not contain specific investment rules, the limits arise from the foundation’s statutes, investment guidelines, the founder’s intent (Stifterwille, § 83 (2) BGB), as well as the principles of capital preservation and usage (Vermögenserhaltungs– und Nutzungsverwendungsgrundsatz, § 83c BGB).
Principle of Capital Preservation
The endowment capital is intended to permanently generate returns to fulfill the foundation’s purpose. According to § 83c (1) sentence 1 BGB, it must be preserved in full. The law leaves open whether this requires preservation in terms of tangible assets, nominal value, or real value.
This creates a tension: The foundation must generate sufficient returns but must not unreasonably endanger the endowment capital. Higher return opportunities often come with higher risks. The key factor here is the risk-return structure of the overall portfolio, not the risk of individual investments. The responsibility of the relevant foundation body is therefore to develop a balanced investment strategy that meets both requirements. The decisive factor is not whether an individual investment turns out to be successful in hindsight, but whether the investment decision was based on a careful assessment of information at the time, was reasonable in the context of the foundation’s entire assets, and was free of conflicts of interest. In this regard, § 84a (2) sentence 2 BGB contains the so-called Business Judgment Rule, according to which a breach of duty does not exist if the board member could reasonably assume – while complying with legal and statutory provisions – that they were acting on the basis of adequate information for the benefit of the foundation. Additionally, § 84a (1) sentence 3 BGB provides that the liability of board members can be limited by the statutes to cases of intent and gross negligence – a practically significant regulation for foundation boards deciding on riskier investments.
Foundations are therefore not restricted to conservative investments. Even riskier investments can be permissible if they offer higher return opportunities and the overall risk remains reasonable. However, speculative transactions where a reasonable return is unlikely are not permitted.
§ 83c (1) sentence 3 BGB allows the use of capital gains from portfolio restructuring for fulfilling the foundation’s purpose, provided the statutes do not exclude this. Profits from private equity exits can therefore be used, as long as the endowment capital is preserved. Furthermore, § 83c (2) BGB allows the statutes to permit a temporary partial use of the endowment capital. In such cases, the statutes must, however, oblige the foundation to restore the used portion of the endowment capital within a foreseeable period. § 83c (3) BGB also provides the possibility for the competent authority to grant the foundation a time-limited exception from the preservation requirement for a specific portion of the endowment capital, provided that the permanent and sustainable fulfillment of the foundation’s purpose is not impaired. In individual cases, these flexibilities can expand the foundation’s options when planning private equity investments.
With a private equity fund investment, the foundation commits to a capital contribution that finances both the investments and fund costs. These costs are permissible as long as they are market-standard and proportionate to the return opportunities. Therefore, the fees set should be reviewed and, if possible, limited during accession negotiations.
Even investments with a potential total loss are not per se impermissible, provided they are balanced within the overall portfolio and can otherwise be classified as free from discretionary errors. It is also advisable to establish investment guidelines that document the fulfillment of the responsible asset management duty by the body responsible for the investment. In advisory practice, a private equity allocation of around 5% of the endowment capital is often cited as a reference value. However, a general figure is not possible, as the specifics depend on the type of private equity strategy and the composition of the rest of the portfolio. Therefore, the selection should be prepared by external advisors and decided and documented internally with care.
The various private equity strategies have different risk profiles. Venture capital investments are riskier than investments in established companies; funds of funds offer more diversification but involve higher costs due to their dual fund and management structure. When assessing risks, it is also important to note that private equity contracts are typically complex. A legal due diligence before investment is essential. Additionally, side letters – bilateral agreements between the fund manager and the investor – can help minimize risks. These agreements allow for the individualization of the contractual terms of the investment but require extensive industry experience. Therefore, investors in private equity funds typically seek advice from specialized lawyers and tax advisors during the accession process.
Principle of Usage for Purpose Fulfillment
According to § 83c (1) sentence 2 BGB, the foundation’s purpose must be fulfilled using the returns from the endowment capital. The term returns (Nutzungen, § 100 BGB) includes not only income but also usage benefits. The foundation must therefore regularly generate returns. This raises the question of how illiquid an investment can be – especially if it does not generate ongoing returns for a long time and cannot be liquidated at any time. However, participation in a closed fund often does not contradict this principle.
Debt funds regularly generate interest income, while equity funds generate returns through dividends and exits, and real estate funds generate regular rental income, which is also distributed on an ongoing basis. Capital is provided over several years through individual capital calls, and initial returns often occur before the end of the fund’s term. Additionally, the overall portfolio perspective is crucial: If ongoing returns from the rest of the assets ensure the fulfillment of the foundation’s purpose, a private equity investment without regular distributions is not harmful.
Limits of Non-Profit Tax Law
For non-profit foundations, the decisive factor in asset investment is that the investment strategy complies with non-profit tax regulations and that the income can be attributed to tax-exempt asset management (rather than a taxable economic business operation).
Preserving Non-Profit Status
A non-profit foundation is subjectively tax-exempt if it is recognized as non-profit under §§ 51 et seq. of the German Fiscal Code (Abgabenordnung – AO), § 5 (1) No. 9 of the German Corporate Tax Act (Körperschaftsteuergesetz – KStG), § 3 No. 6 of the German Trade Tax Act (Gewerbesteuergesetz – GewStG). §§ 51–68 AO form the legal framework for the asset investment of non-profit foundations. These sections stipulate which funds may be invested and whether the principles of selflessness, exclusivity and timely use of funds are adhered to.
a) Available Funds
Three categories of assets must be distinguished:
- Funds to be used promptly (§ 55 (1) No. 5 AO) must be used for statutory purposes within two years and are not available for long-term private equity investments.
- Endowment capital (§ 83b BGB) can be invested in private equity, provided that non-profit tax regulations are complied with.
- Free reserves (§ 62 AO), which – depending on their classification – can also be invested.
b) Principle of Selflessness
According to § 55 (1) No. 1 sentence 1 AO, the funds of a non-profit corporation may only be used for the purposes specified in its statutes. This corresponds to the principle of selflessness (Selbstlosigkeit).
In this context, losses from asset management can be problematic. However, the decisive factor today is not the loss incurred but the investment strategy. The foundation’s bodies have a margin of discretion. The ex-ante perspective is crucial – i.e., whether the investment decision was made carefully at the time. An investment is therefore not impermissible simply because it later turns out to be loss-making. The non-profit tax requirements largely correspond to the civil law principle of capital preservation (see above). The key difference: A violation of the principle of selflessness can lead to the revocation of non-profit status. If the foundation’s bodies act with the care of a prudent business manager, a loss incurred later does not generally conflict with the principle of selflessness.
In this context, participations in funds are not per se detrimental to non-profit status. The decisive factor is whether they are part of a balanced and diversified investment strategy that ensures the long-term preservation of the foundation’s assets. Under these conditions, even a loss realized later does not generally lead to the revocation of non-profit status.
Funds of a non-profit foundation are fundamentally required to be used promptly (§ 55 (1) No. 5 AO). However, the endowment capital and capital gains from portfolio restructuring are not subject to this obligation. Returns generated at the fund level but not distributed do not need to be used promptly. Reinvestment at the fund level therefore does not violate the principle of timely use of funds.
c) Principle of Exclusivity
Non-profit foundations must pursue exclusively their tax-privileged purposes. Asset management and economic business operations are permissible as long as they serve to finance the tax-privileged purposes and do not become the dominant purpose. A violation could occur, for example, if a private equity investment does not serve to finance the foundation’s purposes but instead primarily promotes the interests of the fund or participation company or other investors.
The pursuit of non-profit, charitable, and church purposes is comprehensively privileged in German tax law. Non-profit foundations must therefore observe not only the civil law provisions of foundation law but also the non-profit tax requirements of §§ 51–68 AO if they wish to maintain their tax exemption.
Distinction Between Asset Management and Economic Business Operations
Objectively, income from idealistic activities and asset management is tax-exempt. Income from an economic business operation is subject to taxation (§§ 64 (1), 14 AO). The tax treatment therefore depends on the source of the income.
Private equity (and debt) funds are typically established in the legal form of a domestic or foreign partnership (Personengesellschaft). These are not subject to the German Investment Tax Act (Investmentsteuergesetz) but to the regular taxation of partnerships. Corporations (Kapitalgesellschaften) are rarely used as fund companies for collective capital investments in Germany, as they are not tax-attractive for all investor groups and would generally be subject to taxation at the corporate level. A partnership usually offers high flexibility in the articles of association. In practice, the legal form of a limited partnership (Kommanditgesellschaft, structured as a GmbH & Co. KG) and comparable foreign legal forms, particularly the limited partnership under Anglo-Saxon law, have become established. These also have the advantage of limiting the liability of investors as partners. Investors typically participate as limited partners in the respective fund company.
The crucial question is whether the foundation generates commercial income through its participation. This is the case if the activity is commercial or if there is commercial infection (gewerbliche Infizierung according to § 15 (3) No. 1 of the German Income Tax Act (Einkommensteuergesetz – EStG)). Pure commercial characterization (rein gewerbliche Prägung according to § 15 (3) No. 2 EStG) is, however, harmless as long as the fund engages in asset management.
Two options exist:
- The foundation participates only in asset-managing funds which requires a stable tax classification based on the Federal Ministry of Finance criteria catalog (BMF-Kriterienkatalog).
- The foundation invests via an interposed blocker entity (Blockergesellschaft), where a corporation is placed between the foundation and the fund. The participation is attributed to tax-exempt asset management as long as there is no organ identity (Organidentität – i.e., board members may not also be managing directors) and the management acts independently.
The choice between these two options must be carefully considered. Participation in asset-managing funds is the simpler tax solution but requires a stable tax classification. The blocker structure offers more flexibility but incurs additional costs and can lead to withholding taxes in the case of foreign corporations. Early tax and legal advice is essential in both cases.
Impact Investments as an Investment Form for Non-Profit Foundations
According to the definition of the Global Impact Investing Network (GIIN), impact investments are investments made with the explicit intention of generating a measurable positive social or environmental impact in addition to a financial return. Impact investing differs from ESG-compliant investments (risk minimization, Article 8 SFDR) and sustainable investment objectives (Article 9 SFDR). Impact investments additionally require explicit impact objectives and their measurement. Unlike philanthropy, impact investing aims for a financial return.
Principles of Impact Investing
Impact investing is based on three principles:
- Intentionality – Achieving impact is an integral part of the investment decision.
- Measurability – The impact must be verifiable (e.g., using the IRIS+ Framework of the GIIN).
- Financial return expectation – The spectrum ranges from market-rate returns (finance first) to intentional below-market returns (concessionary returns).
Classification Under Foundation Law
The central question is whether impact investments are compatible with the principle of capital preservation (§ 83c (1) sentence 1 BGB). If they aim for market-rate returns, there are no fundamental concerns (§ 83c (1) sentence 1 BGB, Business Judgment Rule). A deliberate sacrifice of returns in favor of greater impact may, in individual cases, conflict with the requirement to preserve the endowment capital in full. Permissibility depends on whether the return expectation can still be considered reasonable in an overall portfolio assessment and whether the long-term earning capacity of the endowment capital remains guaranteed.
The founder’s intent (§ 83 (2) BGB) can either favor or restrict impact investments. If the founder has laid down or at least not excluded an impact-oriented asset investment in the statutes, this supports the permissibility of impact investments – even with moderate return sacrifices. Conversely, a founder’s intent clearly focused on return maximization may limit the possibilities. In any case, the decision for or against impact investments should be documented and justified in the investment guidelines to meet the requirements of the Business Judgment Rule.
Classification Under Non-Profit Tax Law
Impact investments must comply with the principle of selflessness (§ 55 AO). They are classified as asset management and do not conflict with tax privileges as long as they are financed from endowment capital or free reserves. If an impact investment is not primarily used as an asset investment with the intention of generating returns but as a measure of direct purpose promotion (so-called program-related investment), it can be classified under idealistic activities or purpose-related business (Zweckbetrieb). In this case, different non-profit tax standards apply, particularly regarding the use of funds. A precise legal classification of the respective measure is therefore essential beforehand.
Practical Relevance
Impact investments enable foundations to align their asset investments more closely with their purpose. In particular, impact debt funds can be a meaningful addition. It is advisable to anchor impact investments in the investment guidelines and to define the portfolio share, impact objectives, any return sacrifices, and documentation.
Conclusion and Outlook
Private equity is an interesting but challenging investment form for non-profit foundations. The following key findings can be summarized:
The Business Judgment Rule grants foundation bodies discretionary leeway in carefully prepared and documented investment decisions. Even riskier investments with the possibility of total loss can be permissible if they offer higher return opportunities and the overall risk remains reasonable.
Private equity investments are not per se detrimental to non-profit status. Endowment capital and free reserves are available for investments. The distinction between asset management and economic business operations must be ensured through asset-managing funds or blocker entities.
Foundations considering private equity investments should:
- Develop and document a professional investment strategy that takes into account the founder’s intent, statutory requirements, and legal obligations.
- Adopt investment guidelines that regulate the type and amount of alternative investments.
- Have the tax classification of each fund reviewed in advance and, if necessary, use a blocker structure.
- Individually negotiate ESG clauses, information rights, and fee structures during accession negotiations.
- Carefully document all investment decisions to meet the requirements of the Business Judgment Rule.
Excerpts from this article have also been published in: private banking magazin, August 27, 2026.