A number of large international businesses are getting some heat at the moment on account of the ostensibly minimal amounts of tax being paid, a problem referred to as the BEPS (base erosion and profit shifting). The issue relates to how existing tax rules in different tax jurisdictions allow taxable profits to be allocated to locations beyond where the actual business activity takes place. Taxpayers world-wide pay more tax because some businesses don’t.
Closer to home, some businesses that would otherwise pay tax, do not do so because the business is charitable. As well as being exempt from tax, charities can also receive donations for which the donor receives a tax deduction. All taxpayers have a stake in this as, hardly surprisingly, every dollar of tax a charity doesn’t pay and every donation refund means that taxpayers have to pay more tax to fund Government. Obviously this view is overly simplistic as charities also carry out much work that would otherwise be carried out by Government organisations at the taxpayers’ cost.
The difficulty is that when the Government’s work is carried out by the legion of charities that exist in New Zealand, accountability can be somewhat diminished. While charities must file accounts, few charities have their accounts audited (even if their own rules require this – see the discussion paper “Auditing and Assurance for Larger Registered Charities” at med.govt.nz).
This lack of accountability has been highlighted in a recent Herald report on the Cancer Research Charitable Trust, a registered cancer charity that has donated just over 4% of the $1.1 million it has collected from New Zealander donors over four years.
In two of those four years no money was paid out to the charity’s purposes, in this case financial support for the advancement of matters including the promotion of research relating to cancer. The most recent accounts show that in the last year for which accounts were filed, no research grants were made and it appears that all of the funds donated or derived from the the business operation were mainly utilised meeting staff costs. Whether those costs relate to active promotion of the charity’s purposes is unclear.
It is unlikely that this is a particularly unusual situation. A trawl through the charities register reveals large numbers of charities whose income (whether from donations and / or business activity) is either largely exhausted by the charity’s own costs; or even where there are substantial funds or profits, these are accumulated without comment.
The early scenario raises questions of accountability; the latter is more complex. Perhaps surprisingly, the charitable business income exemption is not lost if income earned is not applied immediately for the charitable purposes; that is the income may be held in reserve in the course of carrying on the business (Calder Construction Co Ltd v C of IR). While it can be presumed that there must be a point at which the income reserves must be applied to the charity’s purposes, when this is, or how this is to be enforced is unclear. The same can be said in the context of accumulated donations and bequests.
The issue of when a charity or a charitable business must pay its accumulated reserves to its charitable purposes may seem somewhat arcane and of technical interest only. However, this is not the case. The BEPS position highlights the ability of some businesses to grow and prosper due in no small part to their effective exemption from tax, and provides what some might consider an unfair taxpayer-funded advantage. The same can be said where a charity is able to grow through retaining its earnings when the taxpayer who is in effect funding this advantage, cannot.
Requiring charities to specifically report on the extent to which funds are accumulated and when funds are or will be paid to a charity’s purposes could provide some useful transparency that would assist a determination as to whether there is a charitable equivalent of BEPS in New Zealand.