Helping you prosper

Charity investments: Trustees beware taking action without proper professional advice

Trustees have an overall responsibility for the investment of a charity’s funds. This means that they have a crucial role to play in making strategic decisions about how to use a charity’s assets to achieve its aims. 

Trustees should be clear about investment by setting charity investment objectives. This will be different for each charity depending on its aims, operating model, timescales and resources.

Trustees that make investments directly have a number of charity law and tax matters to consider and must ensure that they are only making “approved charitable investments”. Trustees who engage a competent UK investment manager on a discretionary basis can be confident that all investments will be appropriate ones for a charity to make.

What can a charity invest in?

Charities can invest in 12 different types of "approved charitable investments" without jeopardising their charitable tax reliefs. The first 11 are specific types of investment, most of which are uncontroversial, such as land, bank deposits and shares in listed companies. The final type, known as "Type 12", is a catch-all provision, covering "a loan or other investment as to which an officer of Revenue and Customs is satisfied, on a claim, that it is made for the benefit of the charitable trust and not for the avoidance of tax (whether by the trust or any other person)".

Investment which is not an “approved charitable investment” will be regarded as non-charitable expenditure and the charity’s tax exemption will be reduced by the amount of the non-charitable expenditure.

The Reb Moishe Foundation story

The Reb Moishe Foundation received donations totalling about £2.4m from a company that was run by people connected to the charity. The charity had planned to use the donated funds to pursue educational purposes by constructing schools abroad. However, the charity was not immediately in a position to begin these projects and the funds were therefore surplus to the charity’s immediate needs. The charity made an almost immediate loan of £2m back to the donor company, which was in the property finance business. The loan was to be a short-term one, providing the charity with the prospect of a significant return.

HMRC’s enquiry concluded that the loan arrangements did not meet the relevant conditions for tax relief and assessed the charity to UK income tax in the region of £240,000. The charity appealed.  

HMRC had objected to the lending arrangements on the basis that the charity had loaned the money without undertaking sufficient due diligence into the investment opportunity, verifying the borrower’s general creditworthiness, or taking any independent professional advice. The charity claimed it had done but did not have a record of meetings etc.  

The case went to a tribunal which considered two discrete issues. Firstly, the quantification of any non-charitable expenditure on unapproved charitable investments; and secondly the scope and meaning of the relevant statutory requirements for an eligible Type 12 charitable investment.

On the first issue, the tribunal held in favour of the taxpayer charity. 

On the second issue, the charity was unsuccessful. The tribunal considered that the legislation imposed two separate and cumulative tests for Type 12 investment eligibility: 

  • a benefit to the charity, and
  • an absence of tax avoidance.

In relation to the first test, the tribunal concluded that the loan was made for the benefit the charity as the charity stood to gain a significant return from the loan.  

In relation to the second test, the tribunal’s view was that the true reason for the arrangement had been to enable the borrower to benefit from dual UK tax deductions for the same amount, once by donating a sum to a charity and then in respect of tax-deductible borrowing costs. It is noted that at the time of the transaction, the “substantial donor” rules and “tainted charity donations” rules were not yet in force which would have caught the transaction anyway.

The need for professional advice

It serves to remind trustees of the importance of record keeping in respect of investment decisions and advice – while the tribunal was satisfied in the end on the benefit point, key aspects of the trustees’ thinking and procedure were lacking. The case also highlighted a number of HMRC errors – a good reminder that an HMRC case officer’s assessment is not always right and requires proper scrutiny from taxpayer and professional adviser.

The next step

If you need assistance developing an investment policy and strategy for a charity, need advice on particular investment transactions or need investment advice as a charity trustee, contact Michael Fitch LLB FCA on or your usual UHY adviser.

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