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Economics References Committee
09/09/2011
Finance for the not-for-profit sector

BAIRD, Mr Murray Philip, Director, Australian Charity Law Association

[9.52 am]

CHAIR: We welcome you here. You have provided us with a copy of your statement. Would you like to briefly overview it for us for the Hansard record?

Mr Baird : Yes. They are simply my notes of what I had planned to address to the committee. Do you wish me to read through the notes?

CHAIR: You can just give a quick overview. We can read through them as you are talking.

Mr Baird : Firstly, thank you for the opportunity to meet with the committee. I represent the Australian Charity Law Association in my capacity as a director and I also bring apologies from ACLA’s President, Anne Robinson. Her duties as deputy chair of the Not-For-Profit Sector Reform Council keep her in Sydney today and it is certainly a very busy time in the not-for-profit sector.

I briefly set out the basis on which the Australian Charity Law Association has been developed. We address current legal issues affecting charitable entities in Australia and we assist the charitable sector as a whole. Our board comprises leading practitioners and academics in the not-for-profit sector.

My own personal experience comes from 30 years as a private practitioner with Moores Legal, advising the sector. I have been chairman of Ansvar Insurance, which is a specialist insurer to the sector, and I currently chair the National Housing Company, which is endeavouring to raise capital to provide 5,000 affordable homes utilising the NRAS incentives.

The sector has welcomed the climate of reform, especially reflecting the national compact, the new understanding of partnership between government and non-government organisations. This conversation recognises the value to a civil society of a well resourced not-for-profit sector and it extends, of course, to the problem of finance for the sector. When the Henry report was published, the Prime Minister and Treasurer quickly moved to assure the sector that reforms would do no harm to the sector, but the reality seems to be different. The sector perceives that ambitious or entrepreneurial activities are often regarded as a threat to revenue and inhibited by slow, inconsistent and unsympathetic treatment in policy and practice. There are a number of practical barriers to NFPs generating income to build a balance sheet.

I would like to refer you to the Word ‘Investments’ Case as a case in point. This was the case where a charity raised funds by running a funeral business. Justice Alsop, in the Federal Court, said that it is a bit like the lamington drive at the local school; it is not what you do, but it is the purpose of what you do. Yet when that decision came out it was largely neglected in the rulings of the tax office for two years until the budget announcement this year that it would be reversed. This will certainly inhibit the ability of charities not only to raise funding but also to accumulate it for future growth and future working capital. The legislation, by announcement, without sector consultation has led to uncertainty, expense and sometimes paralysis in the sector. It is not calculated to encourage innovation or investment.

I will turn to the unrelated commercial activities tax, known around the world generally as the unrelated business income tax, UBIT, announced in the 2011 budget. This intends to tax the surpluses retained by NFPs for working capital. It is really antithetical to building access to capital. There is no demonstrated mischief that it prevents. The forward estimates in the budget indicate that it will raise no revenue, and indeed that is the experience overseas. It has simply put another layer of compliance and structuring requirements over the sector. Implicit in it is that curious distinction between passive investment and active investment. Should an organisation become too entrepreneurial or take active business risk it will be penalised for that activity. The sector is encouraged to be passive in its fundraising. It is also encouraged to be small so as not to exceed the scope of the activity thresholds. We anticipate that there will be constant demarcation questions as to what is related and what is unrelated, adding to the compliance and planning expenses of the sector.

I will mention briefly the NRAS, the National Rental Affordability Scheme. The response of the Australian Taxation Office when charities and public benevolent institutions intended to get involved in this was to effectively say that their tax concessions would be under threat because the beneficiaries of housing under the scheme would not be poor enough to deserve charity. Parliament applied a temporary legislative fix for the opening rounds, but those organisations not eligible at that stage and eligible in the subsequent rounds are now in contest with the Australian Taxation Office over eligibility for tax concessions because of their involvement in the NRAS scheme. Our plea is for an enabling of the sector, rather than treating the sector with suspicion or as a drain on civil society. Similarly in the area of ancillary funds. These funds exist for the purpose of funding other NFPs, but increased regulation and increased limitations on accumulation are hampering their growth and effectiveness. Trustees sometimes elect just to wind down their ancillary funds because of the increased burdens of compliance, limitations on accumulations and the requirement that the trustee be a constitutional corporation, which is going to create real problems for most of the funds in the religious sector, particularly where church wardens and church bodies corporate are the trustees. On the question of structuring, we submit that the structures available for the not-for-profit sector and particularly the company limited by guarantee are generally well suited to carry out the not-for-profit purpose. We say that the problems lie not so much in the structuring of the organisations but in the availability of viable fundraising instruments. The very nature of the NFP entity is that it cannot by definition access equity finance. It is prohibited from providing return for equity contribution. Equity risk and reward is inimitable to the concept of NFP. The NFP needs to make do with debt funding or accumulated reserves from its NFP business activities. Its ability to do the former is restricted by the absence of lower priority equity contributions and generally thin balance sheets. Its ability to do the latter is restricted by the looming UBIT. Its directors do not give guarantees. Its future income streams are uncertain and often limited by short-term government funding arrangements and, accordingly, it cannot get ratings. So, that exacerbates the difficulty of offering security to lenders, particularly larger lenders and market lenders.

You have seen the submissions of the Benevolent Society and Lifehouse at RPA concerning the early experience of social bonds in Australia. Converting initial interest into funding commitments is challenging; the spirit is willing, but the flesh is weak. The GoodStart Model had a number of unique features that meant that the market commensurate bonds were effectively mezzanine debt over a layer of government assistance and philanthropic giving. Government intervention by guarantee of principal and returns, franking credits, incentives to involve ancillary funds to invest in social bonds could help prime the pump, and certainly government guarantees to reassure markets are not unprecedented.

In short, we plead for a mindset of enabling the sector, but openness to creative approaches to delivering social outcomes and a realisation of the aspirations of a national compact in the treatment of not-for-profit entities. Finally, there is room for a greater alignment between government policy, Treasury proposals and ATO practice. Tax law is a blunt instrument for implementing the government’s policy intent. Our submission would be to leave it to the ACNC to develop and manage an appropriate and constructive compliance regime.

CHAIR: You implied that the government was a bit suspicious of your sector or not very supportive of it. Do you think that that might be a little bit self-induced? Is there enough transparency in your sector? I noticed that there was an article in the Sydney Morning Herald on 27 August about the McGrath Foundation headed ‘Good intentions but where is the money trail?’ The article in effect states that often charities are not open enough about where the money they receive is spent. Do you think there is a case for more transparency? This specifically referred to the McGrath Foundation. It stated:

It spent barely a tenth of the funds it raised from the public and corporate donors in 2009-10 on the good work it promised. Instead its accounts show it banked the donations for future operations and has accumulated $10 million in its piggybank.

That is a bit slanted in terms of the reporting. It stated further:

Another charity, the Shane Warne Foundation, does not produce any accounts. Each year it holds a glitzy poker tournament at Melbourne’s Crown Casino as its main charity fundraiser attended by many high-profile people. The takings from the event, its costs and the proportion that finds its way to the charities that cricketing great Shane Warne supports remains a secret.

Is that part of the problem? Are you not open enough about what your activities are?

Mr Baird : There seems to be a pattern of being associated with the Australian cricket team. Certainly, the sector ought to be accountable to the public for its activities. There are exceptions. It is inappropriate reporting if things are being hidden. However, sometimes the criticism is to do with how much you spend on fundraising and how much gets through immediately. There needs to be the opportunity to accumulate some fundraising to build capacity for the future. Good governance will articulate that, tell the public what its accounts are and why they are in that state, sometimes because of plans for the future.

CHAIR: I understand that, but I wonder whether the lack of transparency is a contributing factor to what you say is the tax department’s attitude to your group or your sector. Perhaps there is a case for greater transparency. Could you comment on the Mt Buffalo & Community Enterprises submission, which in reference to ASIC, states, ‘The ASIC regime does not appear to contemplate or recognise any rightful place in the Corporations Act environment for organisations which are motivated by social goals’, and they specifically refer to regulation 170, which they say is overrestrictive in terms of the two-year limitation it applies to forward looking financial information, which they say ‘does not support accurate, informative disclosure’? They also go on to state that regulation 170 is unfair in that it effectively discriminates against small retail investors while pretending to defend their rights. Do you wish to make any comment on that?

Mr Baird : I am not familiar with the details of that submission, but it is true to say that, where voluntary organisations are endeavouring to get something started, the extent of regulation can be difficult. There are some exceptions for the charitable sector in fundraising and in prospectus provisions. It is submitted that they are healthy and ought to be retained and encouraged, but I do not think I can take the matter much further than that.

CHAIR: Do you want to make any comments about the relationship of your sector with ASIC? Is ASIC friendly towards you? Are they helpful and cooperative or do you feel they are not?

Mr Baird : The structures that are administered by ASIC work well, and ASIC administers them well.

CHAIR: In its submission Social Traders argues that investment in social enterprise and other forms of social innovation is constrained by the lack of an effective legal structure and associated tax incentives for investors. Would you care to comment on that general issue?

Mr Baird : Yes. Our submission is that it is not so much the structures as the instruments and products that are available for raising funds that need to be innovative. Our submission is that the company limited by guarantee is a very flexible instrument and a very public reporting entity that allows for most things to be done.

CHAIR: Senator Stephens.

Senator STEPHENS: Thank you for your submission. I would like to pick up on something that we have just touched on, the issue of the structure of not-for-profit organisations and whether you have some views, particularly around the Productivity Commission’s report, which suggested two options for increasing access to equity capital for not-for-profits. The first one was increasing the use of cooperative structures for not-for-profits, and the second was the issue of legislating to establish a new incorporated entity to allow equity capital to be invested into organisations that provide community benefits. Do you have a view on that? Cooperatives are very strong in Victoria, but less active in other parts of Australia.

Mr Baird : Cooperatives do not appear to have the ability to attract substantial capital. They are very appropriate for members to bring their contribution and work very effectively. One reason that perhaps they are not as popular is that the alternative structures, such as the company limited by guarantee, or the association, which proved to be more suited to most organisations, and cooperatives have been very heavily regulated, which makes them less attractive as well. As to whether cooperatives are appropriate for raising larger sums of capital, there does not seem to be a great experience of using them for that purpose. The opportunity to have a hybrid model of entity would be an appropriate way forward. It would allow investors to get a reward on their investment whilst retaining the concept of membership and admission in a not-for-profit sense as well.

Our submission is that you do not necessarily need that structure as long as you have instruments and products that provide an appropriate return for the risk of investment and in that way separate out the not-for-profit nature of the entity from the profit nature of the instruments that it uses to raise funds.

Senator STEPHENS: That is where the Productivity Commission changed its view, between the draft report and the final report, around the need for a community interest company-type entity. It is helpful to understand that you do not think we need it either. In the last paragraph of your submission you make the point that tax law is a blunt instrument for implementing the government’s policy intent. Without putting words in your mouth, are you suggesting that the government would be better to bite the bullet on a modern charities act first and leaving aside the Treasury’s agenda that is currently out for discussion until the charities commission is established and creates the regime?

Mr Baird : Absolutely. A dedicated charities commission that understands the sector, that has the trust of the sector and consults widely, having the benefit of the international perspectives of others who have worked with charities commissions around the world, is an appropriate way to address the reform agenda. Until it is in place it seems that there are a number of initiatives that will not have the benefit of its consideration and its consultation. Our view is that those matters should be held back until the commission is in place.

Senator STEPHENS: The commission is due to be up and operating from 1 July next year.

Mr Baird : Yes.

Senator STEPHENS: Do you think a modern charities act needs to be in place at the same time? I would imagine that could delay the process.

Mr Baird : I do not think it is essential that a modern charities act be in place prior to the commission coming into effect. In fact, it may well be that the activities and the wisdom of the commission could well contribute to a more robust charities act than if it is rushed through prior to the commission. Use the experiences of the commission to inform the charities act.

Senator STEPHENS: I would anticipate that we will soon see the exposure draft of the legislation to create the charities commission.

Mr Baird : Yes.

Senator STEPHENS: Is that where we should be seeking to ensure that framing the regulator actually does away with some of these perverse issues that you have raised in your submission?

Mr Baird : Yes, I think that is the case. If the regulator has the power to make recommendations, they will be the best placed to understand the sector and the appropriate regulation of the sector.

Senator STEPHENS: I am looking at your personal involvement in the National Housing Company. Could you elaborate a little more on the issues around the NRAS taxation situation and how it is impacting the company?

Mr Baird : The challenge for housing associations generally is that they enjoy tax concessions, because they have a social program. Often they enjoy public benevolent institution concessions. However, should they show initiative in projects such as NRAS, they are criticised for going outside the area where the tax office considers them to be benevolent. So, should they help people who are not abjectly poor, that is said to be no longer a benevolent activity and then they have to argue to justify their concessions. It means that they are always looking over their shoulder in doing anything that is entrepreneurial lest they lose their concessions. I think that is an unhealthy way to be working. There is a technical interpretation of matters that means that they constantly have to get rulings on whether they can do the next thing they wish to do. That takes time, it slows down the activity and it adds expense.

Senator STEPHENS: Can you explain to us where the challenges are in the work that you are doing to raise capital to provide 5,000 affordable homes?

Mr Baird : The funding instrument that we intend to use is social bonds, but the challenge of starting from scratch with no layer of philanthropic or government assistance at that level—albeit there is the NRAS incentive that will help with cash flow in the long term—is to provide appropriate comfort and security to lenders who we intend to issue bonds to, but the first layer of those bonds has the difficulty of providing appropriate security and comfort, and making them attractive enough for investors to entrust those funds to us.

Senator STEPHENS: Would that not be the case for any developer?

Mr Baird : No, because the developer would have a layer of equity, of people prepared to risk for reward, at that layer. It is easy to give comfort and perhaps guarantees to those who take the layers of debt.

Senator STEPHENS: Thank you.

Senator MARK BISHOP: I was a bit intrigued by your written comments on the NRAS scheme. My memory—and I stand to be corrected on this—was that the NRAS scheme was designed to raise additional funding for social housing essentially through the private sector. That was the genesis of the thought. I recall being extensively lobbied on this issue in Western Australia by a range of firms who had legal, taxation and superannuation issues deriving from bad policy decisions made by the relevant government departments. I do not really understand the linkage between that original policy intent of government and your criticism here in terms of the role of charitable or public benevolent institutions.

Mr Baird : The intention of NRAS was to create affordable housing and to effectively give a subsidy for the annual return of rental so that it stacked up as an investment.

Senator MARK BISHOP: Correct.

Mr Baird : The social housing sector said, ‘We want to provide affordable housing. We would like to access this subsidy, but we must provide the rental accommodation at 75 per cent of its market value to access the subsidy.’ In trying to get it to contribute in that way the response of the tax office was, ‘No. People who come into this sort of affordable housing aren’t poor enough to warrant your intervention and, therefore, we will take away your tax concessions if you move into that sector.’

Senator MARK BISHOP: The original aim was a very targeted market of essentially lower middle class income earners to get them into affordable housing in particular areas—nurses, tradesmen, teachers, technicians and that sort of thing—with whatever shortcomings they might have in their material income are not generally regarded as poor people. That is the first point. If the government’s intent was to leverage into the private market to raise funding for affordable housing for a defined targeted market, which essentially by its own definition defines a lot of people that traditional community housing and the like might cater to, I do not understand how or why your criticism exists in this form.

Mr Baird : The housing associations were saying, ‘We have experience and we will be good at marshalling resources and creating affordable housing. We’ve done it for social housing, particularly for disadvantaged people, and we believe that we can deliver it here.’

Senator MARK BISHOP: I understand all of that and I do not think I particularly quarrel with that, but that was not the purpose of the government’s policy objective in this field of debate. It was to raise money, additional funds, from the private sector and the like as an add-on in this area.

Mr Baird : It was to get the market to contribute more to that sector.

Senator MARK BISHOP: Yes. Not to rearrange funding from existing markets into areas from which they are not traditionally involved.

Mr Baird : The outcome was effectively to say to the housing associations, ‘You ought not get involved here to encourage affordable housing, in accordance with the government policy, but we want more affordable housing.’

Senator MARK BISHOP: In that area?

Mr Baird : Yes, ‘Lest you lose your concessions.’

Senator MARK BISHOP: Let us accept the legitimacy of your complaint. What has been the response of Treasury and Housing to your complaint?

Mr Baird : The initial response came through the tax office to say, ‘Be careful about getting involved, because you will lose your tax concessions’, but parliament put a patch in to say, ‘No. This is an acceptable activity to get involved in and we will not take away your concessions.’ It was addressed at that stage.

Senator MARK BISHOP: Do you have ongoing—

Mr Baird : The new rounds are coming up. The patch was only for rounds one and two.

Senator MARK BISHOP: You are refighting the same battle?

Mr Baird : We are refighting the same battle. There is also another battle in terms of the directness of providing the accommodation. If someone does the developments as a housing association and gets another housing association to provide the day-to-day management, the tax office will then say, ‘You’re not providing the accommodation. Therefore, we will not allow you to access the GST concessions involved.’ There are a couple of battles on a couple of fronts.

Senator MARK BISHOP: Is this a particularly Victorian issue?

Mr Baird : No, it is national.

Senator MARK BISHOP: The reason I ask is that a range of issues on this NRAS funding and the like have been raised with me in other states, but not this issue of the desire of charities/housing associations to become more heavily involved. Is it a Victorian issue as opposed to a national issue?

Mr Baird : No. I believe it is a national issue, although housing associations are structured differently in each state because it is state legislation.

Senator MARK BISHOP: They are very much a Victorian feature. The history of mutuals is not so prominent in the outlying states.

Mr Baird : That may well be the case.

Senator MARK BISHOP: Not raised at all in the outlying states. I am trying to get an idea of the scale of this, because a range of other matters has been raised with funding in terms of current and future rounds, but this is the first time that the issues of charities has been brought to my attention. Thank you.

CHAIR: I would like to ask you some other questions about your submission regarding the Unrelated Commercial Activities Tax or Unrelated Business Income Tax announced in the 2011 budget. You said that there will be disadvantages, that it is antithetical to building access to capital and that there is no demonstrated mischief that it prevents. What kind of policy objective do you think the government was seeking to achieve by introducing this measure? What do you think is the rationale for it from a government point of view?

Mr Baird : One of the stated objectives is the level playing field; that should a profit and not-for-profit organisation conduct an activity they ought to be taxed in the same way, but that has been consistently debunked in all the significant inquiries. It is hard to see why that would continue to be a justification. It seems that there is no mischief. It seems to simply come out of an unhappiness with the outcome of the High Court’s view in Word Investments. It is a purpose test. What is the purpose of raising the money? The purpose is to apply it to charity, whereas there appears to be some understanding in Treasury that it is an activity test, where the activity itself ought to be suspect regardless of its purpose. That gets you into all sorts of demarcation questions about what activities is an op shop, with a purpose of providing clothing to people who are disadvantaged? Or is it there to raise funding to do that further down the track. Either way it is a charitable purpose, it is submitted. I do not understand the justification. It is just a curve ball that arrives on budget night.

CHAIR: Yes. It is acting against the purpose of the charity in effect by restricting its accumulation of funds.

Mr Baird : Yes. It prevents—

CHAIR: That seems to be hard to see as being a policy in the public good, if you like, in terms of the objectives of charities.

Mr Baird : That is our submission.

CHAIR: Do you have any specific examples to add weight to your point of view that you would like to put on the record?

Mr Baird : Perhaps Word Investments Case would be a good example. A charity wishes to raise funds. It looks for an appropriate way to do so. It appears that under the budget statements lamington drives and sausage sizzles will be all right, but please do not become too entrepreneurial and look for another form of business to raise your funds. We will cut you off somewhere on that continuum between small and substantial or safe and entrepreneurial. There would be a number of charities who raise their funds through commercial activities of that nature and scope.

CHAIR: Yes, I understand that. Your central point really is that the purpose should be the overriding consideration in the application of this tax regime. If the purpose is charitable, then the organisation should be allowed to accumulate the funds for its intended purpose?

Mr Baird : That is certainly what the High Court said in the Word Investments case and it is submitted that has always been the situation.

CHAIR: Thank you for appearing this morning.