Public benefit organisations – lowering the distribution requirement

donations tax 1Author: Nicole Paulsen and Gigi Nyanin (DLACliffeDekkerHofmeyr)

On 17 July 2014 the National Treasury (Treasury) released the draft Taxation Laws Amendment Bill (TLAB) which aims to give effect to the various tax proposals announced in the 2014 Budget.

One of the proposals relates to the control measures, and more specifically the distribution requirement, prescribed for a defined conduit public benefit organisation (PBO).

PBO’s play an important role in society as they relieve the financial burden on the State in respect of undertaking public benefit activities. Tax exemptions and deductions are therefore available to assist PBOs in achieving their objectives.

In addition to the general tax exemption that applies to PBOs, s18A of the Income Tax Act, No 58 of 1962 (Act) provides for a deduction from the taxable income of any taxpayer an amount of any donation made by that taxpayer to defined PBOs and certain other organisations carrying on activities listed in Part II of the Ninth Schedule to the Act. This incentive is granted by government to encourage donations to organisations involved in public benefit activities.

A conduit PBO is a PBO approved in terms of s30 of the Act which provides funds or assets to other PBOs or entities conducting public benefit activities as contemplated in Part I and Part II of the Ninth Schedule to the Act. Conduit PBO’s are also entitled to issue receipts for the deduction of donations in terms of s18A of the Act, provided that they distribute at least 75% of donations received to other approved PBOs and qualifying statutory bodies within 12 months of the end of the year of assessment in which the donation was received.

According to Treasury, the purpose of the 75% distribution requirement is to prevent conduit PBO’s from amassing large reserves, and to align the timing in respect of when the donor claims a deduction and when the funds are pushed back into the economy (and presumably becomes gross income again).

However, the 75% distribution rule can actually hamper the effectiveness and sustainability of conduit PBOs. Recognising this, it was proposed in the 2014 Budget that the distribution requirement would be relaxed.

In terms of the draft TLAB the 75% threshold would be reduced to 50%. In addition, conduit PBOs will be allowed to earn passive income.

However, certain conditions will apply in respect of the use of undistributed funds, namely that 100% of returns on investments made by the conduit PBO must be distributed after 5 years from the date of the amendment, and every succeeding 5 year interval. Restrictions will also apply in respect of investing undistributed funds. Specifically, investments will be limited to certain financial institutions and speculative and/or illiquid investments will not be allowed.

Conduit PBOs should take note that they will have to amend their founding documents in order to reflect these new conditions.

It is proposed that the amendments come into operation on 1 March 2015.