Charities - Summer 2012

Editor's comment

A taxing issue

An early mini-heat wave, hosepipe bans and the threat of severe drought all seem like fond memories. Having endured a period of seemingly continuous rain, we are now having what might be thought of as a traditional English summer: generally warm, but make sure you pack both sun cream and an umbrella.

The changeable weather seems to be reflected in the Government's behaviour: having announced various Budget measures and getting all hot and bothered justifying them, the Government has now cooled off and is happy to drop them.

While the imposition of VAT on Cornish pasties might have discomforted bakers, the proposed cap on charitable giving tax relief could have had a dramatic, adverse affect on the sector. The news that this proposal is to be binned is therefore welcome. Our article, A taxing issue for charities, explains the background to the proposal, the Government's change of heart and the various tensions involved between increasing the tax take and encouraging the Big Society.

I hope you enjoy this publication and your summer.

TIME TO NURTURE YOUR TRANSACTIONAL BANKING RELATIONSHIPS

By Victoria Flynn

When the economic going gets this tough, it is crucial that charities draw on their banking relationships to explore more efficient and effective ways of attracting donations and managing their transactional banking requirements.

Making improvements need not involve reinventing the wheel. To some extent, it simply means working smarter using existing processes, such as processing a payment using the faster payment system¹ instead of the more costly CHAPS route. However, technological developments, including automation, e-invoicing and mobile payments, also offer opportunities to be explored.

Embracing automation

Digital technology continues to transform our world and adapting to emerging realities also demands change.

Recent research undertaken by the UK's Payments Council into how charities make and receive payments found that 90% still use cheques to make payments, while 82% receive payments by cheque.² Processing cheques remains costly and time consuming. Additionally, there is a risk that charities that fail to move with the times will miss out on a new generation of potential donors who have never even signed a cheque.

Put simply, automated payment solutions are the way ahead and educating donors about the benefits is vital to charities. The good news is that banks and other digital technology providers have combined forces to develop numerous automated tools that are more efficient, cost effective and donor friendly than cheques. RBS offers a range of proven payment instruments particularly suitable for charities and donors alike. These include direct debits, standing orders, BACS, card processing, internet and telephone banking, among others.

E-invoicing, another automated solution, can help charities make significant process improvements and cost savings. When sending or receiving a paper invoice, the processing cost ranges between £9.20 and £14.50. Switching to e-invoicing can reduce this overhead by 60%.³

Dedicated support

Charities should take the opportunity to review their in-house accounts payable and receivable processes and banks are here to advise and educate accordingly.

Upwardly mobile

Smartphones and tablets will continue to have a profound impact on the handling of finances. RBS is actively using mobile technology to innovate new tools to give charities faster, more efficient and cost effective ways to manage, monitor and report their finances and receive donations.

With the popularity of mobile payments set to rise, the UK Payments Council is looking to introduce a national mobile payments scheme to facilitate P2P (person-to-person) and P2B (person-to-business) transactions. VOCA-Link has been appointed to build the infrastructure with a view to having the new scheme launched in 2013. We at RBS have plans to add free-form faster payments to our suite of applications.

RBS continues to support charities that choose to use cheques. But our ultimate aim is to work in partnership with charities to ensure they embrace automation, drive efficiencies and deliver maximum benefit to the causes they support.

Footnotes

1 Using faster payments system at RBS is more cost effective where payments are below £100,0 00.

2 Payments in Focus, A report on UK charities and community organisations, Payments Council, Januar y 2012 .

3 Billent is 2012. Overhead reduction percentage is typically based on volumes over 30,000 (invoices) for either accounts payable or receivable.

A TAXING ISSUE FOR CHARITIES

By Adrian Wild

In his March Budget the Chancellor announced that he was planning to introduce a limit on all uncapped income tax reliefs with effect from 6 April 2013. In addition to business losses and interest, it was announced that the limit was intended to apply to charitable donations.

This came as a shock to the charitable sector, bearing in mind the Government's emphasis on the 'Big Society'. Furthermore, just two weeks earlier Danny Alexander, chief secretary to the Treasury, had said in a speech to the National Council for Voluntary Organisations: "We are committed to helping charities maximise the funding potential from donations. In particular, I recognise just how important tax reliefs for charities and donors are for the sector..."

The rationale for the proposals

The Treasury has shown the Chancellor statistics demonstrating that almost a thousand UK taxpayers earning more than £1m a year have a tax rate of less than 30% of their income. In addition, the Treasury also revealed that of the 200 taxpayers earning more than £10m a year, 12 are paying less than 10% in tax. There were also suggestions that some of the donations to foreign charities were not actually being used for bona fide charitable purposes.

In the Budget documents, the Government said: "Tax reliefs exist for good reasons, to promote activities such as business investment and philanthropy. But it is unfair that reliefs can be used without limit to reduce tax liabilities, so that some taxpayers with very high incomes have very low tax rates."

There were other indications that the move was really intended to help reduce the Government's borrowing. In a speech in April the economic secretary to the Treasury, Chloe Smith, told an audience of charity representatives and tax specialists that the proposed cap was part of a fair scheme to help ease the UK's national debt.

The industry's response

It quickly became apparent that the proposed cap on tax relief would have cost the charitable sector significant amounts of money. The Government estimated that the extension of the cap to charitable donations would have increased the tax take by £50m to £100m per year, which clearly would have represented a direct cost to affected charities.

But even more importantly, there was concern that this measure would discourage wealthy donors from giving. The ability to obtain tax relief on donations is unlikely ever to be a philanthropist's prime motivation for making donations, but there was grave concern that the proposed new rules would inevitably result in a reduction in total donations.

The charity industry responded swiftly to the proposal with one voice and over 1,000 charities signed up to the 'Give it back, George' campaign.

The campaign noted that 7% of the total donors contributed 45% of the total amount donated to charity, and any reduction in the income from these philanthropists could have had a drastic impact on the charitable sector's cashflow.

The charities also made the point that the proposal contradicted the Government's commitment to the 'Big Society'.

Budget U-turn?

To his credit the Chancellor listened to the industry's representations and on 31 May he announced that the proposal to include charitable donations in the planned cap on tax reliefs was to be dropped, before the formal consultation process had even started.

He said: "It is clear from our conversations with charities that any kind of cap could damage donations and, as I said at the Budget, that's not what we want at all. So we've listened."

This has been described in some quarters as "another Budget U-turn", but taking a more 'charitable' view this does show that the Government's Tax Policy Framework is working properly, whereby we now have proposals in the Budget, followed by a proper consultation process before the proposals become enshrined in legislation. The present system of tax relief for charitable donations will continue for the foreseeable future. This means that a 50% taxpayer who makes a charitable donation of £800 net will get a tax deduction of £300, irrespective of his other tax reliefs. In other words the effective cost to that individual of making a charitable donation will be £500 while the charity would receive £1,000 gross (including the 20% tax credit).

Other proposals

The Budget did contain some welcome news for charities, including:

• a reduced rate of inheritance tax where 10% or more of a deceased person's net taxable estate is left to charity
• simplification of the administration for claiming gift aid on charity shop donations
• a scheme to allow tax reductions where pre-eminent objects are gifted to charities
• the small donations scheme, which will enable charities to claim top-up payments without the need to collect gift aid declarations.

Conclusions

In many ways, George Osborne has an unenviable job: to have a chance of stopping the UK going the way of Greece, he must make substantial reductions in the Government deficit. He plans to do this by increasing the tax take by more than the increases in Government expenditure.¹

At the same time, company tax rates are being cut to ensure that the UK remains attractive to international business. The Chancellor therefore has limited flexibility in what he can do and (to borrow a phrase) "every little helps".

For the charitable sector as a whole, the success of the 'Give it back, George' campaign is welcome, as is the demonstration of the significant support which the sector enjoys.

However, charities should not assume that the status quo will continue: the debate did flush out arguments for the cap with one comment in the Daily Telegraph stating "A lot of 'charities' are pretty useless ... tax breaks ... should go".

While it is for the regulator to identify and act on any misuse of charitable funds and for HMRC to police the misuse of tax reliefs, charities can perhaps do more. In particular charities should be vigorous in explaining how the tax reliefs obtained are used to promote the public benefit, including, where possible, quantifying the reliefs and the value of the outcomes achieved.

It would also be most welcome to see a government-sponsored drive promoting the social and tax benefits of charitable giving, and providing direction as to where information on such matters can be found.

Footnote

1 Taxation is forecast to increase from £550bn for 2011/12 to £704bn in 2016/17, an average increase of 5% per annum, whereas expenditure is forecast to increase from £696bn to £756bn, an average increase of 1.7%. Allowing for other inflows and outflows, the public sector borrowing requirement is expected to fall from £124bn for 2011/12 to a modest £21bn for 2016/17, at which time the total accumulated debt will be nearly £1.5trn.

MANAGING RISK

By Julie Mutton

The requirements

Depending on the nature of the charity, trustees are either required or encouraged to state in their annual reports that they "have given consideration to the major risks to which the charity is exposed and satisfied themselves that systems or procedures are established in order to manage those risks".

Trustees need to consider carefully whether they can make such a statement when approving the annual report and accounts. For all charities, whatever their size or reporting requirements, it will be necessary to make some degree of risk assessment.

What is a 'major' risk?

A 'major' risk is an event whose occurrence would have a significant adverse impact on an organisation. It is an event which (in the absence of some form of control) has a degree of probability of occurring. A massive earthquake in the UK is not a major risk because it is not probable. Depending on the location of a charity, the risk of some other forms of natural disaster may need consideration, for example flood risk.

What is the benefit of risk management?

Failure to identify and manage a risk can be costly. Without proper management or control, regulations surrounding the vetting of care staff, for example, can easily be breached. Intervention by regulators could result in a charity no longer being able to function. Financial implications could include reduced funding and costs of closure. There would also be considerable reputational damage.

In this example, failure to meet regulatory requirements is a major risk. Such charities will in most cases have identified this and responded by establishing processes and controls to ensure that the correct checks on staff are always undertaken.

Identifying risks

Identification of risks is best done by those involved in running the charity, both management and trustees. The starting point should be consideration of what could go wrong: what could stop the charity meeting its objectives?

It is helpful to categorise risks and their potential impact.

Financial

• Funding is significantly reduced – the charity is unable to operate.
• Trustees receive inadequate management information – inappropriate strategic decisions are made.

Operational

• Breach of law or regulations – enforced closure of operations.
• Shortage of appropriate staff – deterioration in standards and reputation leading to reduced funding.

Governance

• Inability to recruit trustees with appropriate skills – poor strategic decision making.

External

• Changes in government policy – reduced demand for services or reduced availability of funding.

Responding to risks

For some risks positive actions will already exist or can be introduced in response.

Monitoring cashflow forecasts throughout the year should avoid an unexpected deficit which could trigger a rapid and costly withdrawal from certain services.

For some risks, charities will not be able to influence whether they occur or not. The charity's response to such risks is to mitigate the impact of that risk coming to pass. Risks associated with changes in government policy will usually fall into this category.

Ownership and monitoring

An individual should be tasked with responsibility for managing each risk in accordance with the charity's agreed response. There should also be a means by which the implementation of risk management is monitored and trustees should ensure that they review the risks and receive assurance that the charity's considered response to major risk is in place.

Documentation

Whatever the approach to risk management, it should be documented in some form. This could be a simple table or something more complex, such as a framework that involves the scoring of risks according to likelihood of occurrence and level of impact both at a 'raw' level and after taking account of mitigating factors and controls in place.

There should be regular reconsideration of what the major risks are as these will change over time. It is therefore important that the format of documentation is accessible and easily understood and is conducive to reassessment and revision.

For major organisations risk management will be a highly developed process but whatever the size of entity, trustees should be mindful of the major risks facing their charity. Where the risk is unavoidable, charities should take steps to mitigate any adverse impact of possible future events.

GETTING THE RIGHT MIX

by Fiona Reid

Trustees are responsible for controlling the management and administration of charities and therefore carry out a vital role. It is important that the trustees have an appropriate mix of skills and experience. However, since trustees cannot be remunerated for the execution of this role it can sometimes be difficult for organisations to attract suitable candidates.

What is a 'strong board'?

The Charity Commission considers a 'strong board' to be one of the hallmarks of an effective charity. Its guidance states that a charity should demonstrate this by:

• ensuring that the board is constituted in accordance with the charity's governing document
• identifying the mix of skills, knowledge and experience necessary for that particular charity
• ensuring that recruitment of trustees allows for achievement of the necessary mix
• having the optimum number of trustees – enough to have a range of skills but not so many that decisionmaking becomes difficult
• having a clear understanding of the roles of trustees and staff
• having clear terms of reference for Committees
• ensuring that trustees are appropriately vetted (for example, if necessary, CRB checks)
• having suitable induction and training Plans
• having a framework for evaluating the board's performance
• ensuring that trustees have a good understanding of their duties, in particular that they must act only in the charity's best interests
• having a conflicts of interest policy
• identifying and complying with relevant legislation and seeking professional advice when required.

What is an appropriate skills mix?

Deciding upon an appropriate skills mix can be difficult, especially for a small charity aiming to have a relatively small trustee board. In addition to having appropriate skills, potential trustees should be enthusiastic about the charity, willing to devote their time freely and be capable of active participation in board level decisions. It is always useful to have an 'operations' trustee or trustees, and generally this individual will be one of the easiest to identify and recruit. These individuals might or might not be closely involved in the day-to-day running of the charity, dependent on the size of the organisation.

For a larger charity it is important to have this knowledge on the board, to provide guidance and advice for the senior management team. For example, a medical charity will require trustees with specific knowledge in this area. This will give the charity credibility in its particular sector and should mean that operational decisions are always well-informed at board level.

It might also be considered helpful to have a trustee with a finance background and one with legal expertise, but this should be considered taking into account the size and complexity of each charity's activities. A small and simple charity might not require its treasurer to have formal financial training.

Diversity

It is generally considered best practice to have a diverse board of trustees as this is more likely to give a wide range of experience and help ensure that the charity is fair in all its dealings. A diverse board containing a range of ages and ethnic backgrounds can increase public confidence in charities.

How to find new trustees

Many charities still use word of mouth and personal recommendations to find new trustees. If this works well and gives the mix of skills required, there is nothing wrong with continuing to use this method of recruitment. However, it is sometimes difficult to get an appropriately diverse mix of candidates when using this method as it limits the population from which potential trustees come.

Advertising reaches a greater group of people and gives the charity the opportunity to publish a job specification detailing the role and responsibilities. There are many forums for such advertising, including free resources specifically for charities (for example, The Trustee Finder service run by The Charity Network).

Internal recruitment can be a good source of relevant skills and knowledge, whether from volunteers or paid employees. Note that trustees cannot be paid for their role as trustee and if they are to continue as a paid employee there are legal requirements that will have to be considered and complied with.

It might be appropriate to appoint a trustee from the charity's beneficiary group. The trustees have a duty to run the organisation for the benefit of current and future beneficiaries and it could be argued that existing users are in an optimal position to comment on the provision of benefit from first-hand experience. They can also serve to enhance their fellow trustees' understanding of the needs of beneficiaries. In these cases, conflicts of interest can easily arise and must be properly managed. Additionally, trustees who are also beneficiaries must understand that they have the same legal duties as the other trustees and they are not on the board solely for their perspective on service provision. Indeed it is vitally important that all trustees are aware of their responsibilities; all trustees have a general duty of care and those with specialist knowledge should use their specialist skills to ensure that the charity is operating effectively.

Appointment of new trustees is just one of the many responsibilities of a trustee board. Identification of the skills required and then finding candidates who meet the requirements can be challenging, but if it is executed successfully your charity will have a strong board that will deliver good governance in order to protect the interests of current and future beneficiaries.

EXPENDITURE OF PERMANENTLY ENDOWED PROPERTY

by Sarah Chiappini of Charles Russell LLP

It is not uncommon for charities (especially long established charities) to have assets that are held as permanent endowment. Put simply, the term 'permanent endowment' covers any land or funds (typically comprising investments or other assets) of a charity which the trustees cannot spend (other than the income arising from such an asset) because of a restriction in the charity's governing document(s) or restrictions imposed by the donor.

The law on the expenditure of permanent endowment

The Charities Act 2006 relaxed the legal position on the expenditure of permanent endowment. The relevant provisions on permanent endowment are now found in sections 281 to 284 of the Charities Act 2011 (the 2011 Act).

The current procedure

There are now different procedures regarding the expenditure of permanent endowment depending on the size of the charity. However, in all cases the statutory power can only be used if the trustees: 1. are satisfied that the purposes of the charity could be carried out more effectively if they used some or all of the charity's permanent endowment as well as its income; and 2. pass a formal resolution that the permanent endowment restrictions should be removed from all or part of the endowment concerned.

Small charities

Section 281 of the 2011 Act provides that a charity is a small charity if:

• its gross income in the last financial year was £1,000 or less; or
• the endowment which the trustees wish to spend has a market value of £10,000 or less.

The trustees of small charities do not need to obtain the prior consent of the Charity Commission with regard to this process. However, for the sake of good order a copy of the relevant minutes/resolution should be sent to the Commission for their records.

Larger charities

Section 282 of the 2011 Act provides that a charity will be considered a larger charity for these purposes if:

• its gross income in the last financial year was over £1,000; and
• the market value of the endowment fund which the trustees wish to spend (as recorded in its accounts for the last financial year, or if none, the value determined by a special valuation carried out for this purpose) is over £10,000.

Once the trustees of a larger charity have followed steps 1 and 2, above (i.e. determined that the objects of the charity could be carried out more effectively if all or some of the permanent endowment were expended and they have passed a resolution to this effect), they must then send a copy of the resolution to the Commission, together with a statement of the trustees' reasons for passing it.

The Commission has three months to decide, after having taken various factors into account, whether or not it will concur with the trustees' decision to spend the permanent endowment asset.

Functional or investment permanent endowment property?

The Commission makes a distinction between functional permanent endowment and investment permanent endowment in relation to the ability of the trustees to use the new statutory power. In its guidance entitled Permanent Endowment: What is it and when can it be spent, available on its website (www.charitycommission.gov.uk), the Commission takes the view that generally the statutory power to spend permanent endowment will only apply to permanent endowment assets held as investment and not as functional assets unless there is a power, express or implied, to dispose of functional permanent endowment and not to replace it.

It appears that the only circumstance in which the Commission considers that the statutory power could be used is where trustees propose to sell functional permanent endowment while preserving the purpose of the trusts relating to that asset. This might be the case where, for example, in relation to the sale of permanently endowed land, the proceeds of sale could be regarded as investment permanent endowment to generate an income to be applied for the maintenance and upkeep of any retained permanently endowed land. The trustees could then resolve, under section 282 of the 2011 Act (and subject to the Commission's approval of the resolution), to expend the capital as well as the income of the sale proceeds for the upkeep and maintenance of the retained permanently endowed land. We have recently worked with a charity to achieve a result along just these lines.

It will be clear from the above that this issue is by no means straightforward and we understand that the Commission is still developing its policy in this area. If charity trustees have functional permanent endowment property that they wish to sell, it would be advisable to approach the Commission at an early stage to seek guidance on whether or not the Commission considers that the new statutory power would apply.

VAT UPDATE

By Ian Stinson

New definition of 'charity' for VAT purposes

Since the last edition of Charities newsletter, HMRC has announced a change to the definition of 'charity' for VAT purposes. From 1 April 2012, the definition for VAT purposes is the same as the definition given for charities that claim gift aid.

In order for a charity to obtain VAT relief on the purchase of certain eligible goods and services, a charity will need to ensure that it meets the new definition in order to provide the relevant certification required by the supplier for zero-rating.

More information on the new definition can be found on HRMC's website at www.hmrc.gov.uk/news/charity-definition.htm

Cost-sharing exemption

HMRC has published draft legislation relating to the implementation of the costsharing VAT exemption. The legislation will be enacted when the Finance Bill receives Royal Assent in the summer.

Budget round-up

This year's Budget contained some VAT changes that will be of interest to charities. The zero-rating of approved alterations to certain listed charitable and residential buildings is to be withdrawn from 1 October 2012. HMRC will, however, extend the grant scheme currently offered by the department for culture, media and sport to reimburse an amount equal to the VAT charged on alteration works to listed places of worship.

The reduced VAT rate (currently 5%) for the installation of energy saving materials in certain charitable buildings will also be withdrawn, but not until 2013.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.