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  • Cam Anderson

Altering the Disbursement Quota for Charities in Canada – Part Two


Part One outlined the Distribution Quota's (DQ) history and discussed some concerns about charities accumulating capital, which was a stated goal for having a DQ in the first place.


Part Two:

With the numerous reasons against accumulating capital discussed in Part One, you could well think that giving charities the ability to accumulate capital is not a good idea. You would be agreeing with the status quo. But before we decide, let's consider the possible benefits of a charity accumulating capital.


In the future, charities could:

  • Offer more programs to meet the charitable need holistically

  • Be in control of finances for programs

  • Save significantly on fundraising costs

  • Provide staff job security, team continuity, saving hiring and training costs

  • Help other charities

  • Reduce reliance on government grants and tax deductions


Aren't the above objectives precisely what we want for charities? Taking the affirmative position, I conclude we should find a balanced and responsible way for charities to accumulate funds.


One option would be to permit charities to fund their growth. Just as we encourage workers to save for retirement, we could encourage charities to save so they eventually can support themselves.


Here is a specific case to consider - modify CRA rules on DQ to permit relatively rapid investment growth within a charitable foundation:

  • Allocating from 1% to 25% of new donations as exempt from the DQ for long-term growth.

  • Having the donor select a payout plan from several which are pre-approved by the CRA. The payout plan pre-sets either target dollar level or time-driven triggers.

  • Moving money per the selected payout plan from the DQ exempt portion of the fund to the DQ applies portion of the charity's funds.

  • Auditing the charity to ensure compliance with the CRA approved payout plan.


There could be infinite possibilities for payout plans. The following example will illustrate the benefits:


Assume a donor gives $100,000 in a legacy end of life gift. With the gift, the donor allocates 25% for long term growth. The payout plan is to transfer 25% of the fund every 30 years into the DQ applies funds. The growth rate, without the 3.5% DQ, averages 6.7% based on Dow Jones returns, with re-invested dividends, after allowing for investment and admin costs and 2% inflation, excluding any taxation. With market fluctuations, actual growth rates vary significantly, however, the average results shown below indicate the potential.


As per the payout plan of 25% of the DQ exempt investment funds every 30 years, the first transfer in Year 30 moves $46K to the charity. Effectively, in 30 years, the original $25K become of use for the charity, along with an additional $21K bonus. The charity avoids fundraising costs on that $21K. Tax deductions are avoided by the CRA, calculated above assuming a taxpayer would get 30% back on each donated dollar.


Benefits:

  • Charities can grow immensely and save on high fundraising costs.

  • Governments can save millions in tax deduction incentives and grants to charities.

  • Wealth management companies have a vast and growing market opportunity.

  • Larger starting amounts can create social impacts in shortened timelines.


Looping back to our objectives for a charity, we see that the above example addresses them all. Charities can indeed: offer more programs, be in control of finances, save fundraising costs, improve staff job security, team continuity, help other charities, all while reducing reliance on government grants and tax deductions.


Perhaps the strong results above at some point could drive the powers that be to slow or stop further growth. A few final considerations about that:

  • If desired, the CRA could shut the DQ exemption down, requiring 100% of the remaining funds to go to the DQ applies funds held by the charity.

  • A better alternative is to expand the charity or give the money to other charities or governments every time the money matures.

  • To cap the growth, increase the percent transferred from 25% to 50%. The interval can change from every 30 years, to make a payment of 50% every time the fund doubles.

  • At a 6.7% growth rate, the fund doubles every 11 years, triggering a donation. If this began in the example above in year 120, then in year 131, a donation of almost $20 million would follow and repeat every subsequent 11 years.


How might the CRA alter the current DQ?


The Income Tax Act has a possible exemption as Section 149.1 Subsection 8 illustrates regarding Accumulation of property:


(8) A registered charity may, with the approval in writing of the Minister, accumulate property for a particular purpose, on terms and conditions and over any period of time that the Minister specifies in the approval. Any property accumulated after receipt of and in accordance with the approval, including any income earned in respect of the accumulated property, is not to be included in calculating the prescribed amount in paragraph (a) of the description of B in the definition disbursement quota in subsection (1) for the portion of any taxation year in the period, except to the extent that the registered charity is not in compliance with the terms and conditions of the approval.


Under current CRA practices, the application of this section is tightly interpreted. A charity must define a large project to accumulate funds and ask the Minister for up to ten years of DQ exemption. Usually, these projects are for new buildings.


Instead of limiting this to 10 years, the CRA could expand the above law's application by creating on-going DQ exemptions covered by written permission of the Minister.


If a pre-approved payout plan can satisfy the Income Tax Act requirements and is duly followed by the charity, why must the plan be limited to 10 years? The Minister can and should approve some payout plans that remove the time limit.


Specifically, a DQ Exemption application could state:

The particular purpose: A sustainable capital endowment fund that grows over time in support of the charitable purpose of the charity

The amount: $2 Million

Note: to balance today's need with future needs, the charity would limit the portion of a donation to be DQ Exempt in agreement with the donor. This $2 Million may only be 10% of the total funds raised.

Time: Five years for accepting new donations and 500 years of DQ exemption.

At year 30 and every 30 years until year 120, 25% transfers from DQ Exempt to DQ Applies funds. After year 120, when the after inflation amount doubles, 50% of the DQ Exempt fund transfers to the DQ Applies funds.


In conclusion, a slight change in the application of DQ policies by the CRA could benefit the CRA, the donor, the charity, and usher in a new world of possibilities for our society.

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