A taxing matter: Non-profits await change from Liberal government

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In mandate letters to his newly appointed ministers, Justin Trudeau told Finance Minister Bill Morneau, and his minister responsible for Canada Revenue Agency (CRA), Diane Lebouthillier, to:

"modernize the rules governing the charitable and non-for-profit sectors. …. A new legislative framework to strengthen the sector will emerge from this process."

Wonderful news, for both charities and non-profits (sometimes referred to as "non‑for‑profits"). For non-charitable non-profits, this was especially exciting, as their voice in political circles is regularly eclipsed by far-better organized charities.

The Harper government's attacks on alleged political activities of charities are well known.

Taking the prime minister at his word, the mandate to the ministers is well on its way to being addressed, for charities, although there are recent and disconcerting suggestions that the existing CRA audits of politically active charities will not be discontinued.

Non-profits, which don't have the automatic exemption from income taxation that charities do, faced a similar ideological attack from the Harper government: efforts to expand their revenue-generating activities, particularly where they compete with for-profit businesses, brought threats to revoke their tax-exempt status. Tax‑exempt status doesn't require any government application, but is assumed, if the requirements are met.

Most social housing projects (co-operatives and "private non-profits" -- as opposed to municipal housing projects) fit in that category: because they are often designed as mixed-income communities, and therefore don't exclusively serve the needy, they can't register as charities.

And many social enterprises, designed to pursue social goals by generating business revenue, have structured themselves as non-profits for good reason: why would they pay income tax on revenue that's better applied to further their beneficial activities?

CRA, under Harper, told non-profits, in "education" letters, that:

  • Any profits made from their operations have to be "unanticipated and incidental," or "incidental or directly connected to" non-profit objectives (strangely, this would essentially render the exemption unnecessary).
  • Accumulating capital is severely discouraged -- even if it is intended to be put to good use in time.
  • The mere possibility that a non-profit's surplus could be paid to members, even though it had internally forbidden such payments, suffices for CRA to revoke the exemption.
  • For co-operatives and condominiums that provide housing to their members, any ancillary income from cell towers or meeting room rentals could jeopardize their tax-exempt status.

Even the Canadian Chamber of Commerce objected. Its CEO, Perrin Beatty, said this, in a letter to the then‑minister responsible for CRA, Gail Shea, dated March 13, 2012:

I believe an error has been made that imperils the reputation of the agency [CRA] and is damaging many organizations that perform valuable services throughout Canada...

Minister, the almost 1,500 audits of not-for-profit organizations are creating widespread anxiety within the sector, which relies extensively on volunteer boards and provides important services to Canadians. ...

CRA did back off a bit -- it ceased issuing those "education letters" -- but the uncertainty and the chill remain.

That uncertainty has widespread impact: non-profits' managers and boards of directors value their reputations, and many are reluctant to take their non-profits in directions that CRA might object to.

That chill stifles the initiative and boldness so necessary for organizations to grow in order to better meet their communities' needs.

What should Trudeau's ministers do?

The framework is important: non-profits are a significant player in meeting the needs of Canadians -- in housing alone, there are 600,000 affordable housing units owned and operated by non-profit co-operatives and corporations.

Non-profits inherently are about the betterment of the community -- not just yet another actor in the economy. They provide value-added service to our communities, and public policy should be about finding ways to encourage, not discourage, the growth of the non-profit sector of our economy.

We need a dramatic expansion of non-profit affordable housing, to meet the desperate need for decent housing for Canadians of low to moderate income.

That can be done by encouraging, instead of discouraging, enterprising non-profits to generate revenues that they can use to build more affordable housing. As a coalition of housing advocates told the federal government in February:

While operating affordable housing for Canada's most vulnerable households will continuously require public investment, the development of some forms of affordable housing could be supported by more entrepreneurial approaches.

The same encouragement applied to the many other sectors of the economy that enterprising non-profits are active in.

What needs to change?

Mostly a change in attitude by CRA.

The actual wording of the exemption in the Income Tax Act is pretty clear.

It says, simply, that if

  • the non-profit's purpose and operations are exclusively for any purpose except profit, and
  • none of the (net) income is ever payable or otherwise available to a member,

then the income from any activity -- business or otherwise -- carried out by a non-profit is not taxable.

Central to this exemption from tax is the commitment to apply the assets and energies of the organization to a purpose other than profit. That is done by:

  • adopting, explicitly, a purpose that excludes pursuit of profit
  • operating the organization for a purpose other than profit, and
  • ensuring that no (net) income generated is paid, or available to members -- whether during its existence, or on dissolution through an effective and permanent asset lock.

The experience of anyone in the non-profit world confirms that organizations so structured are extremely unlikely to breach those rules, and there is, as a result, no demonstrated need for devoted policing by government.

If no one can benefit, then there is no real rationale for taxing, as the assets must be applied solely to the social objectives for which the non-profit has been established.

Two leading court decisions provide solid backup for that straightforward approach:

In Gull Bay, a logging business provided employment for members of a community, and the profits from that business were devoted to promote the economic and social welfare of members of that community. The court found that the purpose was not for profit, and upheld its tax-exempt status.

Similarly, when CRA challenged the Canadian Bar Insurance Association -- which provides insurance to lawyers "at a reasonable and stable cost" (a purpose other than profit) -- for making profits and accumulating cash, the court was persuaded that "erring on the side of caution" was prudent, and, "taking the broad view" was appropriate.

While CRA prides itself on being bound by decisions of the courts, it has consistently ignored these two decisions, when it ought to have been guided by them, and the spirit they embody.

There is an assumption CRA makes that is troubling: that non-profits aren't -- and shouldn't be -- engaged in economic activity; that this is best left to the private sector.

There is no justification for such an assumption.

In fact there are many non-profits engaged in economic activities -- a non-profit governance structure is one choice among many that should be available for consideration when determining how a new entity should be configured.

I'd suggest a rather different premise, consistent with those court decisions: that the non-profit alternative is one to be encouraged, and facilitated for all forms of economic activity, limited only by the imagination of their initiators -- and by the fundamental rule that non-profits' surpluses are to be applied only to further the social goals for which the organization was established.

Iler Campbell LLP is a law firm serving co-ops, not-for-profits, charities and socially-minded small business and individuals in Ontario.

Pro Bono provides legal information designed to educate and entertain readers. But legal information is not the same as legal advice -- the application of law to an individual's specific circumstances. While efforts are made to ensure the legal information provided through these columns is useful, we strongly recommend you consult a lawyer for assistance with your particular situation to obtain accurate advice.

Submit requests for future Pro Bono topics to probono@rabble.ca. Read past Pro Bono columns here.

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