Foundations

As a service to our clients, we would like to explain some of the basics of starting a foundation. A foundation begins with a desire for philanthropy, but its charitable giving cannot begin without a lawyer, an accountant, a fund manager and a donor. Even though the government has been simplifying the process, starting up a foundation is still a complicated matter. As to the question of a private foundation’s size, there is no legal minimum to its size, and in fact 70% of Canadian foundations have holdings valued at less that $500,000. Additionally, about 45% of all Canadian foundations grant out less than $25,000 annually. Our position at Campbell & Lee is that a minimum size of $200,000 is required for a charity to be cost effective.

There are three types of registered charities: a trust, a corporation, or an unincorporated association of individuals working together for a common purpose. All 3 types of charities are registered with the Canada Customs and Revenue Agency- Charities Directorate. Trusts have the advantage of being easier to establish, but are only allowed to grant to charities, not just qualified contributors. The vast majority of private foundations are organized as corporations, and that is the form we shall focus on.

A foundation can be incorporated at either the federal or provincial level. Private foundations are most commonly incorporated under provincial legislation where they operate. Provincially incorporated foundations rarely need more than a small amount of paperwork for grants to out-of-province contributors. The advantage of a federally incorporated foundation is to avoid the need for obtaining a license in each province it operates.

For a foundation to become exempt from taxation and to have the ability to issue receipts on donations, it must be registered with the Canada Customs and Revenue Agency (CCRA). To do this, an application to register a charity (form T2050) under the Income Tax Act must be filed to CCRA-Charities Directorate with supporting documentation attached. In order to qualify for registration as a charity with the CCRA, a foundation has to operate exclusively for activity that is charitable or deemed charitable under the relevant Act. The funds in the foundation must not go to activities that are not considered charitable, nor should the foundation’s mandate be so broad as to allow for non-charitable usage of the funds. Just what constitutes a charity is defined in by the courts as an organization that works within four general aims:
A) the relief of poverty;
B) the advancement of religion;
C) the advancement of education;
D) other purposes beneficial to the community as a whole in a way which the law regards as charitable.

In the end, the onus to prove that the purpose of an organization is charitable lies with the incorporator. It must be established that the charitable organization operates without profit, gain or benefit for its members, and that any and all assets or profits or accretions to the charity are used to promote charitable objectives.

The Income Tax Act distinguishes charitable organizations from charitable foundations, with charitable foundations classified as either public or private. Re-designation is possible, if, for example, the capital in your private foundation grew to the point that a board of directors/trustees is required. It could be re-designated as a charitable organization. There is already an exemption of capital gains taxes for securities donated directly to charities, however, legislation to exempt capital gains taxes from securities donated to a charitable foundation have been proposed.

The operational difference between charitable organizations and charitable foundations is that charitable organizations usually use their funds and resources to directly perform charitable activities, rather than giving funds. Churches, Universities and Hospitals are all examples of charitable organizations. A charitable organization must have an independent board of directors, in which at least half of the members are arms length from the other directors. Beyond that, an organization that receives more than 50% of its donations from a single person or a group of individuals that do not operate at arm’s length cannot qualify as a charitable organization, and is treated like a private foundation.

Charitable foundations are designated as either public or private, under similar stipulations that a charitable organization requires. Namely, that at least 50% of the board of directors must be at arm’s length and that the foundation receives no more than 50% of its donations from a single person or group of person’s who are not at arm’s length. Private foundations are different in that they have a disbursement quota of 3.5% of the fund’s capital and 80% of the total charitable donations (not including enduring donations) from the previous year.

During periods of abnormally low interest rates or weak market performance, the CCRA has the discretion to relieve a private foundation of its divestment obligation, usually with the stipulation that the foundation make up the disbursement at a later date.

Once the foundation has been established and all of the paperwork is in order, the next step is to decide how the funds in the foundation will be managed. It is imperative that funds are invested in such a way that they are producing enough of a return to ensure that the capital does not depreciate, or else the foundation will eventually be “empty.” Worse, as the capital decreases, so to does the amount granted, and with a declining total dollar amount coupled with inflation, your foundation will have a smaller and smaller impact every year.