I share here the basics of avoiding income tax through the use of Charitable Trusts. I explain the principles of legally minimising (even eliminating) income tax at a personal or company level through the use of a Charitable Trust. I also discuss the morality of tax minimisation. Enjoy.
At a recent meeting called by the self appointed “go-to” people in Ohura, a small King Country town we’ve been looking at for one of our operations, I was asked to address my explanation of how tax can be reduced, even totally reduced by structuring a business alongside of a Charitable Trust.
“Disgusting; illegal; tut-tut; don’t want a bar of it!” was the essence of a charge levelled. “Everyone should pay taxes!” and “It has to be illegal!” were the hidden assumptions.
The Moral Issue
The first thing to understand is that TAX EVASION and TAX AVOIDANCE are totally separate things. Avoiding tax is what we all generally want to do – minimise our tax liability. This is legal. Tax evasion however is illegal. This is where we know that tax is due but we hide our income from the tax man. ‘Cashies’ anyone?
An example of legal tax avoidance is to give something away without charge . . . “No that’s OK mate – it’s on the house this time!” That’s not a taxable income as it is a gift with no pecuniary or tangible measurable gain. You can’t tax goodwill.
An example of tax evasion (which is illegal) is to take cash for something sold in business and not declare it as income . . . “I’ll take $50.00 cash but if you want a receipt I’ll have to charge you GST!” is tax evasion. It requires deceit. Regardless of legalities, deceit is widely regarded as immoral.
When structuring our financial affairs we have a range of structures to choose from. Most people establish a company if they are seriously in business; others will operate as an individual sole trader. Personal/family trusts, trading trusts and Charitable Trusts are also options.
The government has rules for the legal operation and taxation of all types of entities. If we want to manage our financial affairs intelligently, it is incumbent upon us to know these rules and to apply them in a way that achieves our objectives. Most people want to obey the law, but also to minimise their tax liability.
Morally, the essence of using a Charitable Trust to minimise our taxation is that the decision on how that tax is used comes back from the government to the community, usually ‘us’ as representative of that community. Charitable Trust trustees determine the use of money that would have otherwise been used for taxation. At a big picture level the community still receives the benefit, it’s just that the benefit is coming through the Charitable Trust structure, rather than central government and the taxman.
This is the same way that say, when a small community needs a bridge or to feed its poor and there isn’t a government that taxes and provides a centralised infrastructure or social support system, everybody pitches in and contributes what they have to make it happen. There is good reason to believe that society is heading back more toward this low-level community-driven social benefit as the globalisation movement gets speed-wobbles and centralised finance and its supporting political structure looks more likely to collapse as each day passes.
The morality issue is best asked with the question, “Who can generate benefit to the community better – the central government and the taxman or a community-based Charitable Trust?” Politicians having a “reputation”, it is rare that the former is naturally chosen.
I summarised the legal structure that minimises (even avoids) taxation for the Ohurians as follows:
[One of the communities leaders] showed particular interest in the use of Charitable Trusts for tax benefit, and I shared the basics of triads where a company and a charitable trust working together can minimise (indeed eliminate) income taxation. The key to this legal process is to establish a charitable purpose and Charitable Trust, a special legal definition that differs from the colloquial use of the word. The company then supports the CT to the exact extent of its profits. If managed correctly, the CT can feed business to the company that provides commercial services back to the CT. Basically the CT receives the primary value and the company incurs the primary expenses. The combined tax position is then neutralised. Morally this means that the value of tax is returned to the community legally and directly under your control rather than through the central government systems, IRD and politicians.
Let’s go through this point by point:
- A company and a Charitable Trust work together;
- Taxation can be minimised and in some cases eliminated;
- The process is legal;
- A charitable purpose must exist (which is a specifically designated legal description, not the colloquial use of “charity”)
- Tax is reduced/neutralised to the extent of charitable benefit to the community received;
- The essence of my explanation is that benefit (the tax that would have been paid to the IRD) is managed by the community , not central government.
A company is generally established to operate commercially – to make a profit – and it would usually return that profit to the shareholders. The company is taxed on that profit (income tax). There is however no reason that a company has to return a profit at all. Indeed many companies are deliberately run at a loss and gain huge tax benefit in the process.
Should the shareholders’ intent be to trade in order to assist the Charitable Trust’s purposes, it is perfectly possible to trade (as I say above “to the exact extent of its profits”) and make no profit. This can be smart practice.
Let’s take an example of this from real life. In Samoa, for seven years, our Charitable Trust (the SWAP Foundation) taught the Samoan culture. It received income by way of donations from the trading company that ran the associated backpackers and Village Stay services and its clients, the guests. As the SWAP Foundation helped people to understand and appreciate rural Samoa and the Samoan ways, the goodwill created in this process generated more business. The company donated to the Charitable Trust and had a neutral tax position overall. Samoa gained hundreds of guests as a direct result and a huge positive exposure of its culture. The company bought and sold, profited but returned those profits into the community. The Charitable Trust achieved its purposes and this was all done legally outside of the government and its taxation system.
Great care should be taken when establishing a Charitable Trust. A Charitable Purpose is a legal definition that must fit into the specific criteria that the laws of the land consider to be non-taxable. Generally educational purposes are charitable in the English-based legal systems. Many but not all objectives to help the poor or needy also fit into the legal definition of charitable. Religious and political purposes also have their own criteria and are possible in English-based jurisdictions. American-based law revolves around their own Tax code which is a little more restrictive in concept and enforcement.
GST or sales tax issues are a separate matter. Most purchases by a Charitable Trust will incur GST or sales tax. This exposure can also be minimised but that is outside the scope of this post.
IRD, the New Zealand taxation artistes (Te Tare Taki) place a lot of emphasis on our attitude and intent – establishing structures to deliberately avoid taxation is frowned upon, and heavily too! If you are establishing a Charitable Trust IN ORDER TO DELIBERATELY AVOID TAXATION and they can prove that, by convincing a judge that in court then you’ll be paying back taxes for sure! It is though perfectly legitimate to develop a business structure where IF THERE IS social benefit of the intended kind to the community through the CT, then you reduce, minimise or even eliminate your taxation.
The trustees of a Charitable Trust have a duty to ensure that the Trust Deed is honoured. This usually requires that no personal benefit is gained by the individuals associated other than what is commercially reasonable. Here’s the actual clause included in one of the CT’s that I’m associated with:
11 INCOME TO BE FOR CHARITABLE PURPOSES
11.1 Any income, benefit or advantage shall be applied to the Trust Purposes;
11.2 A Trustee is entitled to such remuneration for services provided as may be reasonable having regard to that Trustee’s duties and responsibilities for those services PROVIDED THAT any payment to a Trustee referred to in this clause must not exceed fair market value for services provided and no Trustee receiving such payment and no person associated with such Trustee may participate in, or materially influence, any decision made by the Trust in respect of the payment;
11.3 Each Trustee is entitled to be indemnified against, and reimbursed for, all expenses including travel expenses properly incurred in connection with the Trust and the Trustees duties;
11.4 Nothing expressed or implied in this deed will permit the Trustees’ activities; or any business carried on by or on behalf of or for the benefit of the Trustees in connection with the Trust, to be carried on for the private profit of any individual;
11.5 The provisions and effect of this Clause 11 shall not be removed from this Deed and shall be included in and implied into any document replacing this document;
Clause 11.5 is a requirement of the New Zealand authorities who administer CT’s.
This is a two-edged sword often perceived as a limitation. In fact it is also an opportunity for if the trustees want (for example) a manager, CEO, marketing person or whatever, then it is perfectly possible for one of the trustees to perform this role and to be remunerated for this with their associated expenses (Clause 11.2 in the example above). After-all who is best placed to achieve the CT’s objectives than one of the trustees who knows, understands and is motivated to do the needful?
Misunderstanding/moral do-gooders will doubt, attack and mistrust the moment you set up operations. Suspicion is normal for things we do not understand. The nature of your operations in tax minimisation (or even tax elimination) will inevitably raise questions. Think about your own response when somebody comes a-knocking on your door with a request for donations to the next ‘worthy cause’. “Where is this going to end up?” is a very valid questioning process. Understand also that you will be needing to address naysayers and doubters. Our Samoan operations continued doing amazing things for seven straight years and a large portion of the Samoan government is still agin us! Think primarily of those whom you are working with and for through your Charitable Trust. They are the ones that matter, aren’t they? I get feedback on a daily basis from those that our operations touch and the little people know the score. They can tell!
We can all understand the value to recipients but what about the giver? Why would a company give all of its profits away? I’ll now give some examples showing ways that the company can benefit.
A web development company donates to a CT involved in helping the poor with emergency housing. It designs, develops and hosts the CT’s online presence, even paying for its domain name. Taxable value of the donation may be thousands of dollars in value – staff wages, RRP and in other costs. It could receive ongoing and substantial commercial work as a result of this one donation, especially if there was agreement to do this.
A plumbing company owns a 1.5 ton digger which sits idle for most of the time. A CT with a friendly mechanic can provide storage and/or servicing and may lease it out to neighbouring farmers for occasional use. The farmers help the CT in various ways. The plumbing company reduces storage, servicing and security costs, gets tax benefit from gifting commercial use of the digger to a CT and everybody wins.
An accountant determines to donate his companies year’s taxable income to his wife’s favourite charity – a horse education programme for the disabled. More horses arrive and the value returned to the accountant is unmeasurable on the home front. He’ll use Mastercard for the rest of the expenses, I’m sure!
Have fun out there reducing your taxation and helping the community you live in people!
Thanks for stopping by today. It’s been a blast!