A recent decision handed down by the High Court of Australia has attracted a great deal of attention due to its ramifications for charities and not-for-profit organisations. Following the decision in Commissioner of Taxation of the Commonwealth of Australia v Word Investments Limited  HCA 55, charities have substantially broader fundraising capacity and not-for-profit organisations which have a clear charitable purpose may now be eligible for recognition as a charity, despite any for-profit operations that may previously have acted as a barrier to tax exempt status. Businesses and social entrepreneurs will also find increased opportunity to exploit tax concessions to generate revenue for charitable purposes.
Implications for existing charities
In the past, charities in Australia may have been reluctant to establish any commercial operations to raise funds, due to the fear that by doing so, the entity could lose its charitable status with the ATO.
For example, some years ago a well known charity produced a publication which was originally intended as a community resource. Demand for the publication grew over time and a number of businesses began to purchase the publication for use in relation to their business purposes. When the publication became an income producing asset, the charity was advised to dispose of the asset to ensure that it did not lose its charitable status.
Through its decision in Word Investments, the High Court has confirmed that charitable institutions can maintain beneficial tax treatment whilst engaging in profitable business activities, provided such profits are directed solely towards the organisation's charitable objects. Charitable entities may now expand their operations to include for-profit ventures, to raise funds, without the risk of losing charitable endorsement.
For example, an existing charity which works with remote Indigenous communities may establish a fundraising venture selling Indigenous art, provided the funds raised are applied to the entity's charitable objects.
Implications for other non-profit organisations
The decision highlights that an organisation can be granted charitable status in circumstances where the organisation does nothing more than raise funds through commercial activities and distribute such funds to other charitable organisations with charitable objects.
Existing not-for-profit organisations may now qualify for charitable tax exempt status, notwithstanding the commercial nature of their activities, provided that the entity has only charitable objects. For example, a not-for-profit that raises funds through the sale of Christmas cards may qualify for tax exempt status. Provided the objects of the organisation are clearly and solely charitable and these objects are stated in the constitution of the organisation, it is likely that it will attract charitable status even though it engages in profit-making activities, and despite the fact that it may not have any inherently charitable activities of its own.
In the past, the Australian Taxation Office has taken the view that an organisation can only be considered a charity if any profit-making activities are incidental or ancillary to the entity's charitable activities. However this case affirmed that commercial activities will not prevent an entity from being classified as charitable if all profits are used in aid of a charitable purpose.
Implications for business
In the past many businesses have created product lines which support a charitable cause. The creation of a charitable product line is often motivated by a desire to increase brand empathy and improve corporate reputation. Such product lines often involve a consumer product being marketed on the basis that all profits from the sale will be diverted to a particular charity.
As a result of the decision in Word Investments some businesses are investigating the establishment of subsidiary entities which will be responsible for charitable product lines.
Provided that the new entity has an appropriate legal structure, and a clear charitable purpose can be established based on the constitution of the entity, it may be eligible for endorsement by the ATO as a tax exempt charity.
The decision also increases the opportunities for entrepreneurial philanthropists to establish for-profit business ventures for the benefit of particular charitable causes.
For example, a self-funded retired corporate executive may wish to set up a small business which manufactures and wholesales dog food. The purpose of the business is to make profit, and the business may have no charitable activities, but all the profits of the business are to be directed towards animal protection charities. In such circumstances, the entity may be entitled to tax exempt status even though the entity has no charitable activities. It will be enough that the objects of the new entity are charitable.
Nicolas Patrick is the Pro Bono Director, and Alison Ewart a Pro Bono Lawyer, at DLA Phillips Fox.