Taxing the business income of charities

Charities in New Zealand

Section 5 of the Charities Act 2005 defines ‘charitable purpose’ as including ‘every charitable purpose, whether it relates to the relief of poverty, the advancement of education or religion, or any other matter beneficial to the community.’  

From time to time, public debate arises over organisations that have been granted charitable status, particularly where that status is seen as controversial. For example, Greenpeace has gained and lost charitable status a number of times, and Family First has had charitable status declined by the Supreme Court. After serious allegations of abuse and law-breaking, Gloriavale’s charitable status is under review.

One charity in New Zealand has been controversial for some years. Sanitarium, the company that makes Weet-bix and other breakfast cereals, is owned by the Seventh-day Adventist Church. 

As a general rule, where a charity owns a business, and receives business profits, tax does not need to be paid on those profits, because they are being distributed to a charity which can only use them for charitable purposes. This tax exemption was closely scrutinized by Inland Revenue in the Issues Paper.

Taxing business income

The Issues Paper suggested that businesses owned or operated by charities have certain competitive advantages over non-charitable businesses. These businesses:

• Can accumulate funds without paying tax, and therefore invest in and grow their businesses faster, and
• May not face the same compliance costs as tax-paying businesses.

This led to Inland Revenue’s proposal to tax charities’ business profits where they were not related to the charitable activities in question.

The charitable sector argued that it would be very difficult to identify what business activities were related to furthering a charitable purpose and what activities were unconnected.  

The Salvation Army’s thrift stores might remain untaxed, but what about Sanitarium’s production of healthy breakfast cereals?  Sanitarium might argue that it provides free healthy breakfasts in more than 1,400 schools as part of the overall charitable endeavours of the Seventh-day Adventist Church. (It might also make the point that John Kellogg invented cornflakes in the late 1800s because he believed that eating bland breakfast cereals facilitated godly morality.)

More specific counterarguments were also made in submissions. Charities said that they faced a number of competitive ‘disadvantages’ which for-profit businesses did not face; these include a limited ability to raise finance and differences in their ability to claim imputation credits. Any advantages their businesses might enjoy were offset by disadvantages.

Submissions also said that where business profits were taxed and then distributed to the charity which owned the business, they would always have to be used for charitable purposes, and a tax credit would need to be given to the charity in due course. It was argued that it would be time-consuming and costly (for both the charities and Inland Revenue) to make a tax payment and later receive a credit in respect of the same funds.   

A number of charities also said that they face much greater compliance costs than small businesses. They have, for example, much more stringent audit requirements; if the law changed, there might need to be an income threshold whereby small charities are exempted from having to distinguish between types of income earned.   

Sue Barker, a well-known tax and charities lawyer, said that the Issues Paper did not start by asking the fundamental question of whether there is a problem in the charitable sector regarding the payment of business income tax? If charities are misusing funds and not using them for charitable purposes, this would justify more scrutiny over charitable activities and perhaps better enforcement of existing laws, but it would not justify a law change.

Government response

Recently, Revenue Minister, Simon Watts confirmed that Inland Revenue is unlikely to pursue the proposal to tax charities’ business income. He suggested that there might be more scrutiny over the way charities use funds to ensure that existing laws are being followed, and there may be changes yet to come regarding ‘donor controlled’ charities, including rules about minimum distributions which must be made each year.   

Charities seem to agree that better enforcement of existing laws is preferable to more law changes. The not-for-profit sector has already responded to considerable change in recent years; charitable trusts were impacted by the Trusts Act 2019, and incorporated societies have been significantly affected by substantial law changes under the Incorporated Societies Act 2022.

The most common criticism of New Zealand law relating to charities seems to be that ‘advancement of religion’ qualifies as a charitable purpose, even where the religion (or a popular figure associated with it) has a questionable reputation. There are, however, no current proposals to review that aspect of the law.

Read the full issue here