1 April 2015 saw the introduction of some new and significant tax implications for deregistered charities in New Zealand, and those on the verge of deregistration. The addition to the Income Tax Act 2007 of section HR 12 introduced a tax on all net accumulated assets held 12-months after the day a charity is deregistered.
In the six-month period from 1 April 2015 to 30 September 2015, 593 charities were deregistered. The last submitted financials for these charities stated a total asset value of $250 million, and depending on the date of deregistration this represents a potentially significant tax impost.
Reason for change
Up until April 2015, charitable trusts which voluntarily wound down, or were deregistered by the Charities Registration Board (administered by the Department of Internal Affairs – Charities Services), could distribute the trust’s remaining assets as the trustees saw fit, subject to the terms of the trust deed.
Anecdotal evidence suggests that there was little, if any, tracking to ensure this was done in line with their trust deed or for charitable purposes. It seems the responsibility sat squarely on the shoulders of the trustees, and trust was placed in their integrity.
Tax changes: tax on total net assets for deregistered charities
New tax rules have been introduced into the Income Tax Act 2007 to address the tax consequences arising for entities that are deregistered from the Charities Register. Inland Revenue has said “The very small minority of deregistered charities that have wilfully refused to meet their registration requirements could still face onerous tax consequences (including retrospective tax liabilities) under the new rules.”. These new rules clarify when a deregistered charitable entity should start its life as a taxpaying entity and how it should treat its assets and liabilities.
From 1 April 2015, any deregistered charitable entities now have a 12-month period from the date of their deregistration to either re-register, disburse their remaining assets, or face certain adverse tax consequences. If the entity doesn’t distribute (or elects to retain) any income and assets which it has accumulated over its lifetime as a registered charity, tax will be payable 12-months after deregistration on the accumulated net value of income and assets the entity held at the date of deregistration.
This would mean a tax of 28% to 33% on net assets (at the company or trust tax rate). For example, if you had $1 million in cash assets, this could be at least a $280,000 tax bill.
For those charities deregistered in the first two-quarters of 2015 (1 April 2015- 30 September 2015) the 12 months grace they had to disburse their assets or re-register has now passed.
Reason for deregistration from Charities Register
Of the 593 deregistered charities in this 6-month period, 243 sought voluntary deregistration, 268 were removed for failing to submit their annual returns, 3 were removed for serious wrongdoing while another 79 were deregistered as their contact details were invalid (Notice of intention to remove “NOITR” attempted and returned as undeliverable) and may not yet even know they have been deregistered.
The combined total assets for these 593 deregistered charities at the date of their last annual returns totalled $250 million (with total liabilities of $112 million). This 6-month period alone represents potential for significant tax revenue for the IRD which they can now pursue.
The IRD have some examples of what this tax could look like and guidance on applying these rules to accumulated income and assets. It appears quite complex and trustees should seek professional tax advice on this, and refer to TIB Vol. 26, No 7 (pages 65 to 69)
With charitable status removed, any income derived by a deregistered charity, such as income from services or interest on savings accounts is also liable for applicable tax from the date of deregistration.
What can be done?
As suggested above, one option is to seek re-registration, and to have that decision backdated to the date of deregistration, so that there is no period at all that the trust is not a charitable trust. If the Charities Board refused to backdate re-registration it would be necessary to apply to the High Court.
The second option is to distribute the assets according to the terms of the trust deed, but these options can be limited to what charitable trusts are available to accept such a distribution, whether it would be a valid recipient, and whether it has the desire or capacity to accept further amounts of cash, investments or property to administer.
A potential solution - Donor-Advised Giving
For deregistered charities, particularly grant-makers, scholarship funds and foundations, who have cash or assets they need to disburse before their 12-month deadline and tax implications take effect, donor advised giving can provide a quick and permanent solution.
It provides the comfort that the charitable giving objectives of the founding documents continue, without the hassle of maintaining a stand-alone charitable trust or foundation. The trustees can be satisfied they will be acting within the terms of the trust deed in making the distribution, and their action should be beyond criticism by public or regulatory authorities.
The Gift Trust is solely focused on donor advised gift accounts in New Zealand, providing an equivalent to a private foundation, where a sub-fund is held under the charitable umbrella of The Gift Trust, itself a registered New Zealand charitable trust.
The Gift Trust Donor-Advised Gift Accounts lets you:
- Remove the potentially adverse income tax consequences of deregistration, if donated to a Gift Account within the 12-month period from deregistration.
- Retain grant-making privileges as a donor adviser and nominate future grants to fulfill your trust’s original mission (e.g., to a scholarship recipient, a grant to another charity, or for another charitable purpose).
- Reduce overheads and administration - there is no need for the new annual financial reporting* as this is covered under The Gift Trust’s charitable status.
- Continue to accept tax-deductible donations via your named fund.
- Invest funds for growth through The Gift Trust's fund management options, for growth, tax-free.
- Set up an account in 24 hours, and any remaining funds can be donated into this account.
- To name this account to reflect your original trust name.
If you are involved in a deregistered charity and are looking to continue in some way after deregistration, this may be an option that gives you what you need, while removing potential tax implications. Read more at www.thegifttrust.org.nz/existing-trusts or contact firstname.lastname@example.org to discuss if this could work for you.
Written with support from Keith Turner, Turner Legal in assisting in the review of this document.
*New Reporting Standards
Historically there has been no legal requirement for charities to comply with any prescribed accounting standards. New mandatory XRB financial reporting standards for charities has been covered elsewhere in detail by others and includes tiered accounting styles depending on size and non-financial reporting.
In the coming years this should provide more transparency in accounting for New Zealand’s 27,000 charities. It is likely those who fail to comply with the new reporting standards will see themselves removed from the Charities Register.
The Gift Trust may also be an option for existing charities looking to wind down and avoid this new reporting burden.