Susan M. Manwaringsmanwaring@millerthomson.com416.595.8583 Social Enterprise and the Not for Profit Organization2012 OCASI Executive Directors ForumToronto, OntarioOctober 23, 2012
Overview1. Social Enterprise – What is it?2. Legal Structures Available and rules that apply3. New Ontario Not-For-Profit Corporations Act – what impact does it have on your organization and on the potential for your organization to embark on social enterprise?
What Is Social Enterprise?• Not a term of art• Social/mission driven organization• A business with social aims• A program or venture that fulfills a social aim
Social Enterprise Social enterprises are revenue-generating businesses with a twist. Whether operated by a non-profit organization or by a for-profit company, a social enterprise has two goals: to achieve social, cultural, community economic or environmental outcomes; and, to earn revenue. On the surface, many social enterprises look, feel, and even operate like traditional businesses. But looking more deeply, one discovers the defining characteristics of the social enterprise: mission is at the centre of business, with income generation playing an important supporting role. (Centre for Community Enterprises)
The Centre for Community Enterprises A social enterprise is an enterprise, owned at least in part by a non-profit organization, that is using entrepreneurial methods to accomplish social goals and providing its profits to its owner(s) for use in continuing their core missions.
The Centre for Community Enterprises(Cont’d) A social enterprise applies an entrepreneurial approach to addressing social issues and creating positive community changeor A social enterprise is a revenue-generating business with primarily social objectives whose surpluses are reinvested for that purpose in the business or in the community, rather than being driven by the need to deliver profit to shareholders
From the U.K.• Social enterprise has six defining characteristics: – Having a social purpose or purposes. – Achieving the social purpose by, at least in part, engaging in trade in the marketplace. – Not distributing profits to individuals. – Holding assets and wealth in trust for community benefit. – Democratically involving members of its constituency in the governance of the organization. – Being independent organizations accountable to a defined constituency and to the wider community.
What is Social Enterprise?• An entity that combines business-like activities with a social purpose – a not-for-profit that carries on business activities to generate revenue – a business with social/cultural/environmental objectives – a specific charitable program or venture that fulfills a social purpose
Structures1. Business Corporations,2. Tax-exempt non-share capital corporations (“non-profits”),3. Registered charities, or4. New Hybrid entities (CCC’s).
Business Corporation• Typically incorporated as a business corporation with shareholders• Taxable – may be possible to operate in ways that reduce or eliminate tax payable• Profits/revenues used for social aims may/may not be distributed to shareholders – shareholders can be not-for-profits/charities
Business Corporation (cont.)• Operates with triple bottom line/sustainable principles• Provides greatest flexibility in operations
Not-for-Profit• Typically incorporated as non-share corporation/society – members not shareholders• Tax exempt if meet Income Tax Act definition in ss. 149(1)(l)• Currently CRA is questioning whether such entities can intend to make a profit
An Org. Is Tax Exempt If: a) it is not a charity, b) it is organized exclusively for social welfare, civic improvement, pleasure, recreation or any other purpose except profit, c) it is in fact operated exclusively for the same purpose for which it was organized or for any other purpose in (b), and d) it doesn’t distribute to members.
What Does This Mean?• ‘Social welfare’ means – providing assistance to disadvantaged groups• ‘Civic Improvement’ includes – enhancement of value or qualify of community or civic life• ‘Pleasure or recreation’ – something fun!• ‘Any other purpose except profit’ – catch all for orgs operated for other than commercial reasons
CRA Interpretations• A number of CRA technical interpretations issued in 2009 appear to apply a stricter definition of “non-profit” than found in case law – profits must be “generally unanticipated” – “where the organization intends…….to earn a profit it will not be exempt…….even if it expects to use or actually uses the profit to support its not-for profit objectives” [emphasis added]
Recent CRA Commentary• Profits can be earned if they are incidental and arise from activities that are undertaken to meet the organizations not-for-profit objectives• Earning profits to fund not-for-profit objectives is not itself a not-for-profit objective
Recent CRA Commentary (Cont’d)• Capital contributions and incidental profits should be accumulated only if to fund specific capital projects or to meet operating costs• Maintaining operating reserves or bank accounts required for ordinary operations is okay – incidental income on such accounts or reserves is also okay• Limited fundraising is also okay – cannot become a “purpose” of the entity
Ontario Tax Conference (2011)• Questions for CRA re Audit of NPOs: – Many tax practitioners have non-profit organizations (NPOs) as clients, and many of these clients are undergoing an audit. Can you discuss this project? – Can you provide some more information on what the next steps will be on this issue?
CRA Response• Research project that is being used both as an educational tool and as a means to gather intelligence about a particular sector.• In cases of serious non-compliance the CRA will re-assess.• Over 3 fiscal periods CRA will examine approximately 1440 files to determine the future of the NPO compliance program.
CRA Response• NPO can earn incidental profits.• NPO can maintain reasonable operating reserves.• NPO should not operate a business in competition with for profit businesses.• NPO should not be used for personal or tax planning purposes.
CRA NPO Initiative - The Status• Project of the CRA to review a relatively large sample of NPOs with respect to their compliance with S.149(1)(l) of the Income Tax Act (the "Act")• Auditing about 1400 Non Profit Organizations• Educations letters issued in first two years but stopped now – audits will continue notwithstanding
Implications for Social Enterprise• Social entrepreneurs used tax exempt non share capital corporations to pursue social enterprise• Tax exempt NPO’s were thought to be less constrained by rules under the Income Tax Act than charities• Flexibility to earn a profit however may be problematic today
Implications for Social Enterprise• Social enterprises often founded in entrepreneurial strategies to achieve social benefits• Consistent with 149(1)(l) or not?• Charities may have greater flexibility to earn profits from related businesses to support charitable purposes than NPO
Implications for Social Enterprise• Surpluses generated from activities directly linked to non profit objectives (i.e. community, recreation or social welfare purposes ) may be okay if used to expand the activities of the entity but otherwise any “profit” may taint the NPO and make it taxable• Uncertainty requires consideration of other structures.
Charities• All charities must be non-share capital and cannot distribute income to members• Charities can earn revenue and operate profit making activities provided these activities are related to their otherwise charitable purposes
Charities and Related Business• Limited entitlement to carry on related business – only charitable organizations and public foundations – not private foundations• The term “related business” is not specifically defined
Charities and Related Business• Section 149.1 does provide that “related business”, in relation to a charity, includes a business that is unrelated to the objects of the charity if substantially all persons employed by the charity in the carrying on of that business are not remunerated for that employment;• Substantially all means ≥ 90%
What is Related Business?• No other statutory reference• Case law: – Alberta Institute on Mental Retardation v R – Earth Fund v Minister of National Revenue – House of Holy God v A.G. of Canada
What is Related Business? (Cont’d)• Case Law ultimately rejected the destination of funds test in Canada but hasn’t clearly stated what fits• CRA Guidance CPS-019 outlines Current Charities Directorate view
CPS-019 What is a Related Business?• Broad and flexible interpretation• Public charities can raise revenues from charitable activities and/or related business activities
CPS-019 What is a Related Business?(Cont’d)• So what is a related business? – it is a business activity that is both linked to a charity’s purpose and subordinate to that purpose• First question – is it a charitable or business activity?• Second question – Is it linked and subordinate?
Nature of Activity• Analysis: – is the activity a charitable activity? (charitable activity can generate profits) – Is the activity a business activity? – if no, (and presuming the activity is charitable) charity can conduct activity without restriction
Nature of Activity (cont’d) – if yes, is it related to charitable purposes? – if not, charity cannot perform activity – if yes, then charity can perform business activity within certain limitations
Linked and Subordinate• CRA says that a related business must be linked and subordinate to a charitys charitable purposes.• The four types of "linkages" that CRA recognizes are as follows: – (i) A usual and necessary concomitant of charitable programs – (ii) An off-shoot of a charitable program – (iii) A use of excess capacity – (iv) The sale of items that promote the charity or its objects
What is subordinate?• The factors which will be evidence that a business is subordinate are: – (i) Relative to the charitys operations as a whole, the business activity receives a minor portion of the charitys attention and resources – (ii) The business is integrated into the charitys operations, rather than acting as a self-contained unit
What is subordinate? (cont’d) – (iii) The organizations charitable goals continue to dominate its decision-making – (iv) The organization continues to operate for an exclusively charitable purpose by, among other things, permitting no element of private benefit to enter in its operations
Implications for Social Enterprise• Charities can pursue social enterprises and earn surpluses which are exempt from tax provided the enterprise is a related business• Charities have operated related businesses for years• If enterprise is related the charitable structure may be more flexible than a non profit organization
Community Contribution Corporation(B.C.)• First seen in U.K. (CIC’s) and U.S. (L3C’s)• Possible new hybrid corporation under the Business Corporations Act (B.C.)• Combines socially beneficial purposes and a restricted ability to distribute profits to shareholders within traditional business corporate law framework
British Columbia CommunityContribution Corporation (“CCC’s”)• Similar to UK model• Asset lock• Amendments to the Business Corporations Act• Must have a community interest purpose• Special accountability provisions• No public regulator
CCC’s• Bill currently before BC legislature to create ‘hybrid’ social enterprise structure• Creates a for-profit business with entrenched social purposes – no special tax status at this point• Designed to attract socially conscious investment
CCC’s (cont.)• Cap on shareholder dividends or floor on distributions to purpose (or both)• Limited return to shareholders on dissolution• Taxable, but potential for investment tax credit• Could be used as a subsidiary of a charity to carry on an unrelated business
Implications for Social Enterprise• Uncertain• Surpluses earned in a CCC would be taxable• Social enterprise in a CCC may be able to attract investors• Difficult to know how much this structure will be used until introduced• Will Ontario introduce a similar entity??
NOT-FOR-PROFIT CORPORATIONS ACT,2010• Royal Assent received October 25, 2010• In force day to be named – (July 1, 2013?)• Draft regulations - fall 2012?• Guides• Repeals Part III of Corporations Act (Ontario)
Implications for Social Enterprise• ONCA states that nor for profit corporations can engage in commercial activities where the profits are reinvested in the corporations not-for-profit purposes• Question of tax exemption is not impacted by this because it is determined by rules of the Income Tax Act• All organizations must come into compliance
APPLICATIONOntario Corporations without share capital – Previously under the Corporations Act (Ontario) – Letters Patent – Ontario – Ministry of Government Service – Not Canada Corporations Act, Industry Canada
TRANSITION• Automatic• No action to continue• ONCA applies the day the statute is named into force (July 1, 2013?)• Governance documents three year grace period, then deemed amended to the extent necessary
RECOMMEND AMEND GOVERNANCEDOCUMENTS• Effect of deemed compliance can be unclear – Example, member delegate voting. ONCA says at least one class must vote – Deemed compliance, does every member of all class now vote? Are the delegates a class of members?• Gain certainty by amending by-laws and amending and restating articles
KEY DIFFERENCES IN ONCA1. Powers of a Natural Person2. Public Benefit Corporation3. Member rights strengthened4. New audit requirements5. Delegate voting not allowed6. Directors need not be members
ULTRA VIRES• Formerly limited to objects• Powers of a natural person• Are purposes necessary? – To be listed in the corporations’ Articles – Registered charity status (Income Tax Act)
WHAT IS A PUBLIC BENEFITCORPORATION?• A charitable corporation; or• A non-charitable corporation that receives more than $10,000 in one financial year from – any level of government; or – gifts from persons other than members, directors, officers or employees of the corporation• Effective at AGM
CONSEQUENCES OF PUBLIC BENEFITCORPORATION• Stricter audit requirements• On wind-up must distribute assets to a similar Ontario corporation• Not more than 1/3 of directors can be employees
CHANGES TO MEMBERSHIP CLASSES• Non-voting members vote & class votes on fundamental change & changes to membership classes• Consider: – dilution of membership voting rights – limiting who can become a member – categories of supporters where need non- voting category
AUDIT REQUIREMENTS• Ontario thresholds (Public Benefit): – Audit required unless members pass an extraordinary resolution – No audit required where gross annual revenues are less than $100,000 – Engagement where gross annual revenues are between $100,000 and $500,000 – Audit is mandatory where gross annual revenues are above $500,000
STEPS - OVERVIEW• Review current governance documents• Draft by-laws• Draft restated articles• Obtain director and member approval• Submit to MGS, CRA and PGT
REVIEW CURRENT GOVERNANCEDOCUMENTS• Consider existing by-law and letters patent• What is working?• What needs to be changed?• What is possible under the ONCA?
ARTICLES• Replaces letters patent• Corporation name, purposes, location of registered office, prescribed information• Restate articles if want to change or comply with ONCA• Must conform with ONCA (not just deemed compliance)
ARTICLES (Cont’d)• Articles of Amendment• Special resolution (change name, provisions regarding members, number of directors, purposes, dissolution clause, notice to members, voting method)• class votes (membership rights)
BY-LAWS• Will need to amend to conform with ONCA• Effective once passed by a resolution of the directors• Members pass at next meeting to remain effective• Can pass before the ONCA, to be effective on the date that the ONCA comes into effect
PUBLIC GUARDIAN AND TRUSTEE• There remains uncertainty as to whether the Public Guardian and Trustee will review applications to establish a charity under the ONCA – likely not• However PGT will likely review documents filed to amend or change a charity’s incorporation documents (not bylaws) – The PGT has particular interest in the charitable objects
REGISTERED CHARITIES• Must file new articles, by-laws with CRA• Question whether current charitable purposes need updating• If changing, CRA may request activities description
NEXT STEPS:Do you have membership class changes to makebefore July 1, 2013?• If yes, act as soon as possible to passdocuments before July 1, 2013• If no, recommend governance review – articlesand by-laws
What is Social Enterprise?• An entity that combines business-like activities with a social purpose – a not-for-profit or charity hat carries on business activities to generate revenue – a business with social/cultural/environmental objectives – a specific charitable program or venture that fulfills a social purpose
Conclusion• There is lots of scope for organizations to pursue social enterprise under the rules• Careful consideration has to be given to structure used for social enterprise given the myriad of rules that apply• All organizations must come into compliance with the ONCA
Thank you! Susan M. Manwaring email@example.com 416.595.8683