When a Canadian registered charity is established, it can be set up as a charitable organization, a public foundation or a private foundation, depending on its structure, source of funding and operations.
There are approximately 6,300 private foundations in Canada. They have been growing at a higher rate than any other type of Canadian registered charity. Although there are differences between a private foundation in comparison to charitable organizations and public foundations, over the last two decades those differences have diminished.
That being said, it is common in our practice to hear that there is confusion and misunderstanding relating to the operation of a private foundation and the rules that govern it.
Most of the confusion relating to the compliance requirements and regulation of private foundations is due to a lack of knowledge or out-of-date information, and not attempts at deliberate malfeasance. Our firm works with many private foundations to help them understand the regulatory framework and also the flexibilities that are available in the operations of private foundations.
Now, just in time for Giving Tuesday, here are some of the top fallacies we see about Canadian private foundations:
Myth: You need to donate millions of dollars to set up a private foundation (i.e. private foundations are for rich people only).
Not really. There has been a lot of media focus on the private foundations of wealthy philanthropists such as Bill Gates, Warren Buffett and Li Ka-Shing, or large for-profit companies such as Mastercard or Walmart. However, most private foundations are set up by individuals, families or corporations with far less wealth or prominence. Some are used as an incorporated vehicle to conduct their philanthropic work and funds are contributed only when needed.
One example of a private foundation we established was for a family interested in conducting educational activities in Haiti. The incorporated private foundation provided limited liability protection and also a vehicle for the family to organize their philanthropic activities. However, total contributions of the family (and other donors) to the charity was only about $30,000 per year and no long-term funds were contributed to the foundation.
Myth: Private foundations are expensive and complicated to establish and operate.
The cost of establishing a private foundation largely depends on how complicated the structure will be and who sets it up. For example, it could be set up as a simple foundation that simply makes grants to other Canadian registered charities, or it could be set up to conduct its own charitable activities, while also making grants to other Canadian registered charities.
A simple private foundation can be established for as little as $5,000 to $6,000 and may take only 3 to 4 months to create. If the private foundation conducts its own charitable activities, and if those activities are complicated or if foreign activities are involved, it can be more costly and time-consuming.
The actual operation of a private foundation is not any more complicated than that of a charitable organization and is, in fact, often much simpler to run when it is set up as a simple foundation, to only provide gifts to other registered charities/qualified donees.
That being said, despite the “simplicity” of running many private foundations, the degree of non-compliance in private foundations is high. This is largely because those who are responsible for running private foundations (although they may be very successful and talented) often are very busy, don’t understand the regulatory framework and its requirements and don’t treat their charitable endeavors with the same serious mindset that they treat other matters in their lives.
Myth: Private foundations are set up to give money to other charities and cannot carry on their own activities.
What a private foundation can and cannot do is largely dictated by its legal objects and the Income Tax Act (Canada). If a private foundation has legal objects that allow it only to make gifts to registered charities (as a simple foundation), then it is prohibited from conducting its own charitable activities.
However, if the legal objects are broader and worded in a manner to enable a private foundation to conduct its own charitable activities and programs, then the private foundation has more flexibility.
Whereas a charitable organization should spend more than 50% of its disbursements on its own charitable activities each year, and a public foundation should spend more than 50% of its disbursements on gifts to other registered charities, a private foundation can, for example, spend 90% of its disbursements on gifts to charities in one year and 90% on its own charitable activities the next year, if its objects are broad enough to allow for that. We assist many private foundations with expanding their legal objects to allow for greater flexibility in terms of grant-making and activities.
Myth: Private foundations cannot conduct foreign activities.
Canadian registered charities are allowed to conduct their activities both inside and outside Canada. However, as mentioned above, private foundations can only conduct activities that fit within their legal objects. If a private foundation has narrow objects such as to fund only qualified donees, then it can only fund qualified donees. The largest group of qualified donees in Canada is registered charities, followed by Canadian municipalities. Very few foreign charities are qualified donees, and they are mostly about 600 foreign universities that are registered with the Canada Revenue Agency (CRA).
If a private foundation has objects that are not limited to a specific jurisdiction such as Canada and that allow for their own charitable activities, they should have the flexibility to be able to conduct foreign activities within the parameters set by the CRA. You might find this article on Canadian charities conducting International Activities helpful. Also, if your objects are not broad enough, you should consult your legal counsel on approaching CRA to expand your legal objects. You should also be aware of CRA’s helpful guidance dealing with foreign activities, and we have a directory of resources on Canadian charities carrying out international activities.
Myth: A private foundation can receive donations only from the family establishing the private foundation.
While many private foundations are supported by a single donor or family, these foundations can generally fundraise and receive donations from the general public and issue charitable donation receipts for these donations in the same way as other registered charities.
A small number of private foundations, however, preclude themselves from accepting outside funds in their constating documents or through operational policy. Some organizations may wish to avoid receiving external funds, to avoid becoming a soliciting corporation or to have great external accountability. This approach obviously limits fundraising opportunities. It is, however, a choice and can be generally changed by amending the constating documents or policy if the foundation decides later to receive outside donations.
A properly established private foundation should be able to carry out the same fundraising activities as charitable organizations and public foundations.
Myth: Private foundations cannot fundraise.
Generally, a private foundation can conduct its fundraising in the same way as other registered charities. The CRA has a “Fundraising by registered charities” guidance that applies to all registered charities, regardless of their designation. While some private foundations don’t need to or don’t want to fundraise, many others do.
Myth: Private foundations can pay for children’s wedding expenses or for gala fundraising tickets for their directors.
This is not acceptable and is prohibited by the CRA as an undue private benefit.
This rule applies to all private foundations, all charitable organizations and all public foundations. Private foundations must be very careful to avoid providing any undue private benefits or using their funds for inappropriate expenditures or creating even the perception that they are applying their resources for improper purposes.
Myth: Private foundations can carry on business activities.
One significant difference between private foundations and other registered charities is that private foundations are prohibited from conducting business activities.
In contrast, public foundations and charitable organizations can carry on related business activities as set out in CRA’s guidance, but private foundations cannot conduct any business activities. There is only one narrow exception in that private foundations are able to invest in limited partnerships, which is still considered a business activity, but a change to the Income Tax Act now allows for it.
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To the extent a private foundation would like to carry on a business activity, the foundation can change its structure (sometimes not difficult to do at all) to be re-designated as a charitable organization or public foundation. Alternatively, another charity, for profit or non-profit that is not a charity could be established to carry on the business activity. Existing foundations should occasionally review their structures to ensure that they have enough flexibility to achieve their goals.
Myth: All directors of a private foundation must be family members.
The board of directors of a private foundation can be structured in several ways. Some boards may be composed of a majority of or all individuals from the same family. Some boards may be composed of individuals related by close business ties. These people are considered “non-arm’s length” from each other.
On the other hand, some private foundations have arm’s-length board members where no one is related by family or close business ties. If most of the people on the board of a registered charity are non-arm’s length from one another (i.e., related to each other), then the organization must be a private foundation.
Some clients might feel that if they aren’t being audited every year, maybe they aren’t being aggressive enough and they’re paying too much tax.Quillan Quarrington, PwC Canada
However, a private foundation is not required to have most of its board at arm’s length. With the increasing scrutiny of private foundations, some have brought in “independent” arm’s-length board members to increase the skill set and diversity of the board. Diverse boards of charities tend to make fewer big mistakes.
Myth: Private foundations cannot conduct political activities.
All Canadian registered charities, regardless of their designation, have the ability to engage in non-partisan political activities that are related to their stated purposes, as long as they comply with CRA guidance and other legal requirements for political activities.
If a private foundation wants to have great impact, it should carefully consider the possible involvement in non-partisan political activities. Significant changes were made in late 2018 to the Income Tax Act (Canada) that allow registered charities, including private foundations, to conduct unlimited public policy dialogue and development activities (PPDDAs) connected to the stated purposes of the charity, as long as they do not support or oppose any political party or candidate for public office. If the private foundation has objects that allow gifts only to registered charities or qualified donees, then it is CRA’s view that they generally cannot conduct their own PPDDAs. As we have discussed above, such foundations can go back to CRA and broaden their objects.
Mark Blumberg, Lynn Gluckman and Uma Karthigeyan are lawyers at Blumberg Segal LLP in Toronto, Canada. To find out more about legal services that Blumbergs provides to Canadian charities and non-profits please visit Canadiancharitylaw.ca or CanadianCharityLaw.ca or SmartGiving.ca or CharityData.ca or email us or call us at 416-361-1982. This article is adopted from an article titled Top Fallacies About Private Foundations in Canada by Mark Blumberg, Kate Robertson and Lynn Gluckman (April 11, 2016) and Top Fallacies About Private Foundations in 2019 by Mark Blumberg, Lynn Gluckman and Taylor Teasdale.
This article is for information purposes only. It is not intended to be legal advice. You should not act or abstain from acting based upon such information without first consulting a legal professional.