27 March 2020 - Article
The Charity Commission has withdrawn its longstanding endorsement of donations to a parent charity that exceed the donating subsidiary’s distributable profits in light of a report by the Institute of Chartered Accountants in England and Wales.
The Charity Commission withdrew section D5 of its Guidance Note CC 35 late last month. This guidance had endorsed the practice by which a charity’s wholly-owned trading subsidiary transferred all of its profits to the parent charity.
However, company law rules prohibit a company from making distributions from that part of its profits that are deemed to be non-distributable. The Commission’s guidance addressed these rules by regarding the donation by the trading subsidiary as a payment that did not amount to a ‘distribution’.
This view has been questioned by the Institute of Chartered Accountants in England and Wales in a technical release issued on the subject. Due to the lack of definitive legal precedent on the point, the Institute commissioned an opinion from legal counsel who advised that such donations are ‘distributions’ caught by the relevant company law rules. Therefore, any part of a donation (by a charity’s wholly-owned trading subsidiary to the parent charity) that exceeds the company’s distributable profits is, according to this opinion, unlawful.
HMRC have not yet responded to this but have apparently said that they will issue guidance in due course. In the meantime, the technical release makes the following points and suggestions for those charities affected:
- The charity probably needs to recognise a liability for any excessive unlawful payment made by the subsidiary company.
- Whether there needs to be a prior year adjustment in the accounts is perhaps debatable but may well be needed and any affected charities should seek professional advice on this aspect.
- For complex technical reasons it does not appear possible for the charity to avoid having to make good the overpayment. However, the release discusses the possibility of the sum being deemed payable as a dividend, a possible set-off of the over-payments against future distributable donations, or possible subscription for new shares. But in the absence of comment by HMRC, these approaches need to be considered very carefully, and will have tax consequences in themselves.
The release does not give an indication of the proportion of donations from subsidiary companies which are believed to be affected by this issue. Experience suggests that most subsidiaries make donations which fall within its distributable resources, and in such cases there is not a problem. The first task for charities which believe they may be affected is to check whether that is the case. If you are concerned about this issue please contact us and we can advise accordingly.