There are three key direct tax issues which charities need to consider:
- Charitable status
- Tax status of income / gains
- Tax compliance
HMRC must formally recognise the charity for UK tax purposes – this includes the requirement for the charity to be established for charitable purposes only (charities already registered with the Charity Commission for England and Wales will meet the charitable purposes condition automatically.)
Tax status of income / gains
Most of the income and gains received by charities are exempt from Income Tax and Corporation Tax provided that the money is then used for charitable purposes only.
In particular, there are exemptions for:
- Tax relief on donations received through the Gift Aid scheme
A charity can claim exemption from tax and claim basic rate tax back from HMRC on income received from individuals through Gift Aid donations.
It can also claim exemption from tax on donations received from companies, although they don’t have tax deducted from them so there is nothing to claim back from HMRC.
A charity can give donors modest ‘benefits’ in order to acknowledge a gift – but there are limits on their value.
For donations between £0 and £100, the maximum value of benefits is 25% of the donation. (For donations between £100 and £1,000 the limit is £25, and for donations > £1,000 the limit is 5% of the donation, up to a maximum of £2,500.)
- Tax relief on investment income
A charity is exempt from UK tax on most types of investment income (and can arrange to receive bank or building society interest gross).
- Tax relief on trading profits
Any profits that a charity makes from trading activities – selling goods and services to customers – may be taxable. However, there are some exemptions, depending on the nature of the trading activities – for example, where there is a ‘primary purpose’ trade such that the charity’s trading activities are part of its main charitable objective, and for trading activities mainly carried out by the charity’s beneficiaries.
A charity can conduct all or part of any of its taxable trading activities through a subsidiary trading company, then transfer some or all of the profits of that company back to the charity as a donation.
- Tax relief on income from land and property
A charity is exempt from tax on income received from renting out land or property that it holds for charitable purposes (but there is no exemption from tax for any profits made from developing land or property).
- Capital Gains Tax relief for charities
A charity is exempt from tax on capital gains providing the proceeds of the disposal are used for charitable purposes only.
If a charity receives taxable (non-exempt) income or gains, it will need to complete a tax return – either Self Assessment or Company Tax Return depending on whether it is set up as a charitable trust or company/unincorporated association.
It will also need to complete a tax return when it uses income for any non-charitable purposes – known as non-charitable expenditure. This is widely defined – not just expenditure outside the charitable objects but also loans and investments which do not meet stringent criteria, or grants made overseas where the trustees have not done enough to confirm that the money has been spent charitably.
Most charities will be treated as companies (liable to pay Corporation Tax) for tax purposes (charities will only be treated as a trust if they were set up by a trust deed or a will.)
There are clearly a number of issues which charities need to consider, on an ongoing basis, to ensure that they pay no direct tax on their income and gains. In particular, not only must it have been established for charitable purposes, but the charity must continue to use the money it receives for charitable purposes only. It must also ensure that it can identify any potentially taxable trading activities and structure them so as not to taint its overall charitable status.
For more information on this, or any other questions you have on your charity, please contact Simon Brown or Anna Crawford from our charities team on 0191 285 0321.