CPD: Philanthropy and tax

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What are the mechanisms through which clients can engage in philanthropy and the tax benefits that arise from these actions?

Philanthropy has a double benefit; it plays an important role by supporting charities, not-for-profits and community groups and comes with tax benefits for the benefactor. This article, proudly sponsored by Allianz Retire+, examines the benefits of philanthropy.

Philanthropy plays a vital role in Australia. It supports a diverse range of charities, not-for-profits and community groups that form our ‘social capital’. This strengthens communities right across our nation. There is a growing need for giving; government funding is generally not tailored and inflexible, and doesn’t always deliver support where it’s most needed. The uncertainty prevailing in today’s economic environment sees increased competition for government support at federal and state levels, which may leave many critical charitable and not-for-profit organisations underfunded. Without the generosity of Australians, many of these organisations would be unable to operate.

That Australians are generous is not up for debate.

The Charities Aid Foundation has been producing its World Giving Index for more than a decade; it’s most recent index showed that Australia is the fourth most generous country in world, with 64 percent of our population donating money[1].

In Australia, there many ways people can be involved in philanthropy. It can be as simple as making regular donations to charities; these donations are tax deductible as long as the recipient organisation has been endorsed as a deductible gift recipient (DGR) by the Australian Tax Office. Of note is fewer than half of Australia’s charities have DGR status.

Being a deductible gift recipient allows donors to make tax-deductible donations to a charity. This means that donors can deduct the amount of their donation from their own taxable income when they lodge their tax return.

At the other end of the spectrum, individuals or family groups can establish a private foundation, such as a Private Ancillary Fund, a Charitable Endowment Fund, or contribute to a Public Ancillary Fund. These entities generally involve larger donations and make large multi-year grants to charitable organisations. As with simple donations, if the recipient organisation has DGR status, tax deductions are available. This is explored in greater detail later in the article.

Philanthropic giving

Philanthropy is the ‘planned and structured giving of time, information, goods and services, influence and voice as well as money to improve the wellbeing of humanity and the community’[2]. Most commonly, the focus is on the use of money to support charitable causes. It plays an important role in Australia by supporting a diverse range of not-for-profit organisations and community groups.

Using private wealth for the betterment of the public serves our community. It aids the less fortunate, fosters cultural enrichment and safeguards our environment. It reinforces endeavours that tackle the root cause of social and environmental issues. Importantly, it fills needs that governments are unable or unwilling to fill.

Private Ancillary Funds

A Private Ancillary Fund (PAF) is a charitable trust established by individuals, families or corporates to facilitate philanthropic giving. PAFs are structured to receive and distribute funds for charitable purposes, with the primary goal of providing long-term support to eligible charitable organisations and projects and make a positive impact on society. There are currently around 1,650 such Private Ancillary Funds in operation[3].

The key features of a PAF include:

Private control: The fund is controlled and managed by the trustees, who are typically the donors or their nominated representatives. This allows the donors to have a significant say in how the funds are invested and distributed.

Sustainable giving: The charity or causes supported by the PAF can benefit from the foundation in perpetuity.

Create a legacy: Individuals and family groups can create a giving tradition and name the PAF in honour of family or in memory of a loved one. A PAF can operate in perpetuity, ensuring the funds invested continue to be used for the intended purpose.

Investment growth: PAFs are structured to invest their funds in order to generate income and grow the capital over time, thereby increasing the impact of their charitable giving.

Distributions: PAFs are required to distribute a minimum of 5% of their net assets each year to eligible charitable organisations and projects.

Regulation: PAFs are regulated by the Australian Taxation Office (ATO) to ensure compliance with the relevant laws and regulations governing charitable trusts and philanthropic giving.

Tax benefits: As long as the PAF is a registered DGR, contributions made to it are tax-deductible for the donor, providing a financial incentive for philanthropic giving. Investment earnings are income tax exempt and franking credits are reclaimable.

To be endorsed under the DGR category for PAFs, the fund must meet all the following requirements:

  • have an Australian business number (ABN)
  • be in Australia
  • comply with the rules in the Private Ancillary Fund Guidelines 2019 and all the trustees of the fund must comply with these rules
  • have acceptable rules for the transfer of surplus gifts and deductible contributions on winding-up or revocation of endorsement
  • apply to the ATO for endorsement as a DGR.

A PAF is entitled to receive income tax deductible gifts from the date its DGR endorsement starts and while it is endorsed. Tax deductions for gifts to a DGR are claimed by the person or organisation that makes the gift (the donor).

During each financial year, apart from the year the fund is established, a PAF must distribute at least 5% of the market value of the fund’s net assets (as at the end of the previous financial year).

The fund must distribute at least $11,000 – or the remainder of the fund if that is worth less than $11,000 – during that financial year, if both of the following applies:

  • the 5% is less than $11,000
  • any of the expenses of the fund in relation to that financial year are paid directly or indirectly from the fund’s assets or income.

The ATO can apply penalties for failing to meet minimum annual distribution requirements; however, a PAF can apply to reduce the minimum annual distribution rate.

A PAF might be a suitable philanthropic option for clients who:

  • want control over the choice of organisations they support
  • would like to provide a sustainable gift to a chosen cause(s)
  • have a recommended minimum of $500,000 for an initial donation.

There are several favourable tax advantages applicable to PAFs. Over the longer term, these tax benefits can increase the amount available to distribute to the selected charities.

Tax deductibility: as long as the PAF has DGR status from the ATO and meets its obligations, all donors to the PAF receive a full tax deduction for every dollar donated.

Flexibility to spread deduction: for a donation of cash, publicly listed shares or other property worth more than $5,000, the donor is able to claim a tax deduction over a period up to five tax years. This enables to the donor to claim the tax deduction in a manner that best suits their individual circumstances.

Imputation credits: The tax-exempt status of a PAF means imputation tax credits can be claimed as a rebate from the ATO for any franked dividends received.

Testamentary trusts

As part of estate planning, individuals can establish a testamentary trust to support nominated charitable endeavours. This is established by the will of the benefactor and does not come into operation until after the individual’s death.

The will or trust deed can nominate family members and colleagues to be initial trustees and can specify appointment processes and other requirements of trustees in perpetuity. The trustees are responsible for and control governance, compliance, investments and giving strategies.

A testamentary trust can attain income tax exemptions, but donations are not tax deductible. Testamentary trusts must use their income to fund the charitable purpose as specified in the individual’s will.

Subject to the terms of the will, a donation to an existing DGR approved PAF through an individual’s will removes capital gains tax on any assets donated. This increases the value of the foundation, allowing it to provide more support for the individual’s chosen charities.

Public Ancillary Funds

A Public Ancillary Fund (PuAF) is a type of charitable trust that is established for the purpose of distributing funds to eligible charitable organisations and projects. Unlike Private Ancillary Funds, which are controlled by individual donors or families, Public Ancillary Funds are established for public benefit and are open to receiving donations from the general public.

Key features of a Public Ancillary Fund include:

Public benefit: PuAFs are established for the public benefit and are designed to receive contributions from multiple donors, rather than being controlled by a single individual, family group or organisation.

Support for charitable causes: PuAFs are required to distribute a minimum of 4% of their net assets each year to eligible charitable organisations and projects. These distributions support a wide range of charitable purposes, including (but not limited to) health, education, social welfare, environmental conservation and the arts.

Investment growth: PuAFs are structured to invest their funds in order to generate income and grow the capital over time, thereby increasing the impact of their charitable giving.

Regulation: PuAFs are regulated by the Australian Taxation Office to ensure compliance with the relevant laws and regulations governing charitable trusts and philanthropic giving.

Governance: The management and governance of a PuAF is typically overseen by a board of trustees or directors, who have a fiduciary duty to manage the fund prudently and in accordance with the fund’s charitable objectives.

Tax deductibility: Contributions made to a PAF are tax-deductible for the donor, as long as the PuAF is a registered DGR. This provides a financial incentive for philanthropic giving.

For a PuAF to be endorsed as a DGR it must meet the following requirements:

  • have an Australian business number (ABN)
  • be in Australia
  • comply with the rules in the Public Ancillary Fund Guidelines 2022; all of the trustees of the fund must comply with these rules
  • have acceptable rules for the transfer of surplus gifts and deductible contributions on winding-up or revocation of endorsement
  • fall within the DGR category for PuAFs.

The PuAF must also have following characteristics:

  • it is a ‘fund’
  • it is established and maintained under a will or an instrument of trust
  • it is established and operated on a not-for-profit basis
  • it is allowed, by the terms of the will or instrument of trust, to invest money in ways that an Australian law allows trustees to invest trust money
  • it is established and maintained solely for the purpose of providing money, property or benefits to DGRs (except other PAFs or PuAFs) or the establishment of such DGRs.

While individuals and family groups can donate to a PuAF that supports charities that resonate with the individual or group, those with a philanthropic bent are more likely to establish a feeder fund into that PuAF, such as a charitable endowment fund. Such structures are offered by a number of organisations, such as Australian Philanthropic Services.

Charitable Endowment Funds

Individuals, family groups or corporations can establish a Charitable Endowment Fund (CEF), which is generally a sub-group of a PuAF. It is a flexible, professionally managed tax-effective structure that can be used to manage long-term charitable giving. It enables the donor/s to provide enduring gifts to charitable organisations without the administrative burden associated with the establishment and management of a Private Ancillary Fund.

The key features of a CEF include:

Reduced administrative burden: Those managing the PuAF into which the CEW feeds are responsible for the ongoing management and compliance of the fund.

Tax deductibility: Contributions/donations made to a CEF will entitle the donor to claim a tax deduction (as long as the underlying PuAF is a DGR).

Flexibility to spread deduction: for a donation of cash, publicly listed shares or other property worth more than $5,000, the donor is able to claim a tax deduction over a period up to five tax years. This enables to the donor to claim the tax deduction in a manner that best suits their individual circumstances.

Incorporating philanthropy into financial advice is crucial for fostering a holistic approach to wealth management that extends beyond individual financial goals. The integration of philanthropic considerations into financial planning allows your clients to align their financial resources with their personal values and aspirations for social impact. This approach empowers clients to make a meaningful difference in their communities and the world, leveraging their financial resources to support causes and organisations they care about deeply.

Furthermore, integrating philanthropy into financial advice encourages long-term thinking and strategic giving, maximising the effectiveness of charitable contributions and leaving a lasting legacy for future generations. Philanthropy can also be used as tax management tool, providing deductibility to reduce personal income tax, as well as concessions for the ancillary fund in receipt of the donation.

Ultimately, by incorporating philanthropy into financial advice, you can help clients achieve not only financial success but also a sense of fulfillment and purpose in their charitable endeavours, to enrich their lives and make a positive impact on society.

 

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References:
[1]Charities Aid Foundation, World Giving Index 2022
[2] Philanthropy Australia, Policy priorities for a more giving Australia, March 2019
[3] Charities Aid Foundation, World Giving Index 2022

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