Charitable trusts and non-charitable purpose trusts - Advantages of charitable status

Learning Outcomes

This article outlines the significant advantages conferred upon charitable trusts compared to non-charitable purpose trusts. It details the distinct legal framework, including enforcement mechanisms and perpetuity rules, the fiscal benefits relating to various taxes, and the operational flexibility afforded by the cy-près doctrine. Understanding these benefits is essential for advising on the creation and administration of trusts and for answering SQE1 questions involving the distinction between charitable and non-charitable purposes. This will enable you to identify the implications of charitable status in assessment scenarios.

SQE1 Syllabus

For SQE1, you are required to understand the key differences between charitable trusts and non-charitable purpose trusts, particularly the advantages that charitable status brings. This includes appreciating the legal framework governing charities, their fiscal privileges, and how they differ from trusts established for private purposes. Your understanding will be tested on applying these principles to practical scenarios, often involving advising on the validity or implications of specific trust provisions.

As you work through this article, remember to pay particular attention in your revision to:

  • The legal requirements for charitable status, including charitable purpose and public benefit.
  • The key advantages charities possess regarding perpetuity rules compared to non-charitable purpose trusts.
  • The main tax exemptions and reliefs available to charitable trusts.
  • The function and application of the cy-près doctrine.
  • The enforcement mechanisms specific to charitable trusts.
  • The limitations faced by non-charitable purpose trusts due to the beneficiary principle and perpetuity rules.

Test Your Knowledge

Attempt these questions before reading this article. If you find some difficult or cannot remember the answers, remember to look more closely at that area during your revision.

  1. Which rule restricts the duration of non-charitable purpose trusts but generally does not apply to charitable trusts?
    1. The rule against perpetuities (remoteness of vesting).
    2. The rule against accumulations.
    3. The rule against inalienability.
    4. The beneficiary principle.
  2. Which body is primarily responsible for the regulation and registration of charities in England and Wales?
    1. The Attorney General.
    2. HM Revenue & Customs (HMRC).
    3. The High Court.
    4. The Charity Commission.
  3. Which doctrine allows a court or the Charity Commission to redirect charitable trust funds to a similar charitable purpose if the original purpose fails?
    1. The doctrine of lapse.
    2. The cy-près doctrine.
    3. The doctrine of resulting trusts.
    4. The doctrine of ademption.

  4. True or False: Charitable trusts are exempt from Income Tax, Capital Gains Tax, and Inheritance Tax on funds applied for charitable purposes.

Introduction

Trusts can be broadly categorised based on their objectives: those benefiting specific individuals (private trusts) and those established for a purpose. Purpose trusts themselves divide into non-charitable purpose trusts and charitable trusts. While both aim to achieve an objective rather than benefit named individuals directly, charitable trusts enjoy significant legal and fiscal advantages due to their recognised benefit to society. These advantages stem from specific statutory provisions and common law principles that differentiate them markedly from non-charitable purpose trusts, which often face validity issues related to certainty, enforceability, and duration. Understanding these differences is essential for advising clients and managing SQE1 assessments.

LEGAL AND ADMINISTRATIVE ADVANTAGES

Charitable trusts operate within a unique legal framework that offers distinct advantages over private trusts, particularly non-charitable purpose trusts.

Certainty and the Beneficiary Principle

A fundamental principle of trust law is the beneficiary principle, which requires a trust to have ascertainable beneficiaries who can enforce it (Morice v Bishop of Durham (1804)). Non-charitable purpose trusts often fail this requirement as they lack human beneficiaries.

Charitable trusts, however, are a key exception. They do not need ascertainable individual beneficiaries because their purpose is deemed beneficial to the public.

Key Term: Beneficiary Principle
The general legal rule that a private trust must have ascertainable human beneficiaries capable of enforcing the trust duties against the trustees.

Enforcement

The lack of specific beneficiaries in non-charitable purpose trusts creates an enforcement vacuum. Charitable trusts overcome this through dedicated enforcement mechanisms:

  • The Attorney General: Acts on behalf of the Crown as the ultimate protector of charity, with the power to enforce charitable trusts in the courts.
  • The Charity Commission: The statutory regulator for charities in England and Wales, overseeing their administration, ensuring compliance, and intervening where necessary.

This oversight ensures accountability and proper administration, a feature absent in non-charitable purpose trusts (except for the rare anomalous exceptions).

Perpetuity Rules

Trust law imposes rules against perpetuities to prevent property being tied up indefinitely. These rules impact non-charitable purpose trusts significantly but apply differently to charities.

  • Rule Against Remoteness of Vesting: Requires interests to vest within a defined period (typically 125 years for trusts created post-April 2010). This applies to the initial vesting of property in a charitable trust, but gifts between charities can take effect outside this period.
  • Rule Against Inalienability: Prevents capital from being locked up indefinitely for a non-charitable purpose. Non-charitable purpose trusts must typically be limited in duration (often to 21 years) or allow trustees to spend all capital on the purpose. Charitable trusts are exempt from this rule, allowing them to exist in perpetuity to fulfil long-term objectives.

Key Term: Rule Against Perpetuities
A set of legal rules designed to prevent property being tied up in trust for too long. Key aspects include the rule against remoteness of vesting and the rule against inalienability (or indefinite duration).

Key Term: Charitable Trust
A trust established for purposes recognised by law as charitable (e.g., relief of poverty, advancement of education) which benefits the public or a section thereof, and is exclusively charitable.

The exemption from perpetuity rules grants charities significant operational advantages, allowing for long-term planning and impact.

Worked Example 1.1

A testator leaves £50,000 in their will 'to campaign indefinitely for the abolition of income tax'. The executor seeks advice on the validity of this gift.

Answer: This is likely a non-charitable purpose trust. Campaigning for a change in law is generally considered a political purpose, which is not charitable. As a non-charitable purpose trust, it is likely void for offending the beneficiary principle (no one to enforce it) and the rule against inalienability (intended to last indefinitely). The £50,000 would likely fall into the residue of the estate.

Flexibility: The Cy-près Doctrine

If the original purpose of a charitable trust becomes impossible or impracticable, the cy-près doctrine allows the High Court or Charity Commission to apply the funds to another charitable purpose that is as close as possible ('cy-près') to the original one.

Key Term: Cy-près Doctrine
A legal doctrine allowing the funds of a charitable trust to be applied to a different charitable purpose if the original purpose becomes impossible, impracticable, or has been fulfilled. Requires a general charitable intention if the failure occurs before the trust takes effect.

This ensures that charitable funds are not wasted if circumstances change. For initial failure (purpose fails before trust starts), cy-près usually requires evidence of the settlor's general charitable intention. For subsequent failure (purpose fails after trust starts), general charitable intention is not required.

Non-charitable purpose trusts lack this flexibility; if their purpose fails, the property typically results back to the settlor or their estate.

Revision Tip

Remember the key distinction for cy-près: initial failure generally requires general charitable intent, subsequent failure does not. This is a common point of confusion tested in exams.

FISCAL ADVANTAGES

Charitable trusts benefit from significant tax reliefs, enhancing their ability to apply funds towards their objectives.

Tax Exemptions

Subject to conditions (e.g., funds being used for charitable purposes), charities generally enjoy exemptions from:

  • Income Tax: On investment income, rental income, trading profits (if related to primary purpose or donated).
  • Capital Gains Tax (CGT): On gains made from disposing of assets.
  • Inheritance Tax (IHT): Gifts to charities (lifetime or on death) are typically exempt.
  • Stamp Duty Land Tax (SDLT): Relief is often available on property purchases.
  • Business Rates: Charities usually receive mandatory (80%) and potentially discretionary (further 20%) relief on rates for properties used for charitable purposes.

These reliefs mean more funds are available for the charity's work compared to non-charitable entities undertaking similar activities.

Worked Example 1.2

A non-charitable trust owns a building generating £50,000 annual rental income, used for its non-charitable purpose. A separate charitable trust owns an identical building generating the same income, used for its charitable purpose. Explain the likely difference in their tax position regarding this income.

Answer: The non-charitable trust will likely pay income tax on the £50,000 rental income (subject to deductible expenses). The charitable trust, provided the income is applied for its charitable purposes, will generally be exempt from income tax on this rental income, meaning the full £50,000 (less expenses) is available for its work.

Exam Warning

Do not assume tax reliefs apply automatically. Charities must meet specific conditions and apply income/gains for charitable purposes only. Failure to comply can lead to loss of reliefs. Be mindful of any conditions mentioned in SQE1 scenarios.

COMPARISON WITH NON-CHARITABLE PURPOSE TRUSTS

The advantages of charitable status become clearer when contrasted with the limitations of non-charitable purpose trusts.

Key Term: Non-Charitable Purpose Trust
A trust established for a specific purpose that is not recognised by law as charitable. Generally void unless falling into specific anomalous exceptions (e.g., care of specific animals, maintenance of graves/monuments) and complying with perpetuity rules.

Key limitations of non-charitable purpose trusts include:

  • Beneficiary Principle: Often void for lack of ascertainable beneficiaries to enforce the trust.
  • Perpetuity Rules: Must comply with the rule against inalienability, limiting their duration, unless trustees can spend all capital at any time.
  • Enforcement: Lack of a dedicated enforcement body like the Attorney General or Charity Commission.
  • Lack of Flexibility: No access to the cy-près doctrine if the purpose fails.
  • No Fiscal Advantages: Subject to standard tax rules on income, gains, and transfers.

These limitations make non-charitable purpose trusts unsuitable for long-term or large-scale objectives compared to charitable trusts.

Key Point Checklist

This article has covered the following key knowledge points:

  • Charitable trusts require a charitable purpose, public benefit, and exclusivity.
  • They are exceptions to the beneficiary principle and are enforced by the Attorney General/Charity Commission.
  • Charities are generally exempt from the rule against inalienability, allowing perpetual existence.
  • The cy-près doctrine provides flexibility if a charitable purpose fails.
  • Charities benefit from significant tax exemptions (Income Tax, CGT, IHT) and reliefs (SDLT, Business Rates).
  • Non-charitable purpose trusts are generally void due to the beneficiary principle and perpetuity rules, unless they fit narrow exceptions.
  • Non-charitable purpose trusts lack the enforcement mechanisms, flexibility, and fiscal advantages of charities.

Key Terms and Concepts

  • Beneficiary Principle
  • Rule Against Perpetuities
  • Charitable Trust
  • Cy-près Doctrine
  • Non-Charitable Purpose Trust
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