When it comes to trading, entrepreneurism is a must – but there are additional rules for charities and careful planning is necessary. Law, risk and tax are key concepts, and in this article our Associate Member Michael Stubbings, Director of Turaco Consulting, takes a quick tour.
Trading in cultural enterprises helps to improve visitor experience, raise unrestricted funding, and build resilience through diversification. Primary purpose trading aligns with a charity’s objectives per its governing document, for example holding exhibitions at galleries and museums in return for admission fees. Trading of this nature is allowed to take place within charities with no requirement for a trading subsidiary (more on that later), no corporation tax is payable on profits, and “qualifying activities” are exempt from VAT.
Gift Aid is typically not available as these are exchange transactions, they are not gifts, however, it may still be available on the donations made for admission to view a charity’s property where “performances” also take place provided they are merely incidental; performances might include historical reenactments, demonstrations of processes or crafts, or interactive experiments in a science museum.
Ancillary trading, which contributes indirectly to a charity’s objectives, is treated as primary purpose trading for charity law and tax, and the Charity Commission gives an example of the sale of food and beverage in a restaurant or bar by a theatre charity, to members of an audience. However, for hospitality to entirely qualify as ancillary trading the restaurant or bar must be for the exclusive use of audience members, a captive audience, and not trading with the general public.
Non-primary purpose trading is trading intended solely to raise funds, distinct from trading which aligns with a charity’s objectives, for example a walk-in restaurant or bar trading with the general public. Charities may engage in non-primary purpose trading only when no significant risk is involved, and a benchmark for that risk is whether the trading exceeds the small-scale trading allowance, above which profits will be chargeable to corporation tax; the allowance starts at £8,000 p.a. then increases to 25% of total charity income up to a maximum of £80,000 p.a. Typically, non-primary purpose trading in excess of this allowance is deemed to be too risky to take place within charities and trading subsidiaries are required.
Trading subsidiaries ringfence risk, protecting a charity’s assets from commercial vagaries; this topic deserves a more in-depth discussion but in summary they are usually private limited companies wholly owned by a charity, with a board of directors, and to avoid corporation tax their profits are donated to their parent using a mechanism also called Gift Aid, unhelpfully! These payments are not dividends, they are pre-tax expenses, but they mirror dividends in that they must not exceed a trading subsidiary’s profits available for distribution; it is a mistake for a charity to consider 100% of a trading subsidiary’s forecast profits for the year as upcoming unrestricted funding if the trading subsidiary has retained losses to net off first.
Considering this tax avoidance practice limits the ability for a trading subsidiary to invest in its own growth, and a charity investing in the growth of a trading subsidiary can be challenging from a governance perspective, careful planning is necessary.
Let’s consider retail, a very common form of trading in cultural enterprises. In a similar way to a restaurant or bar, retail is usually a combination of ancillary trading, e.g. books relating to an exhibition or copies of a charity’s paintings, and non-primary purpose trading, i.e. everything else. Since 2006, for tax purposes, these must be considered as two separate trades, with receipts and expenses apportioned between each. If the non-primary trading exceeds the small-scale trading allowance, or if it adds to preexisting non-primary purpose trading causing the total to exceed the allowance, a trading subsidiary may be required.
Retail items are likely to be a combination of standard-rated and zero-rated for VAT. Zero-rated means VAT is chargeable, just at 0%, sales are within the scope of VAT and input VAT on associated costs can be reclaimed; this is different to sales exempt from VAT which are outside of the scope and input VAT on associated costs cannot be reclaimed. As always with tax the answer to most questions is “it depends” and VAT is notoriously convoluted so do be careful, e.g. printed matter is typically zero-rated, including dot-to-dot books, unless they depict scenes of violence in which case they’re standard-rated, unless they are scenes of violence from historical events, religious stories or dramatic works, in which case it’s back to zero-rated…
A final note on trading subsidiaries, in the private sector it’s common for all new business ventures to be separately incorporated, to mitigate risk and to more easily assess individual performance. In a charity this approach would produce ringfences within a ringfence, a corporate structure some finance teams may baulk at(!) but worth considering if a commercial portfolio is likely to include multiple different business ventures, some more risky than others; are you putting all your eggs in one basket?
Turaco Consulting helps charities to raise funds and build resilience through trading. Find out more at Turaco Consulting.
