Do Charities Pay Corporation Tax?

What Is Corporation Tax?

Corporation tax is a tax on profits made by limited companies and some organisations, including charities, if they earn income outside their main charitable purpose. In the UK, HMRC oversees how this tax is applied. For charities, it’s important to understand when and how this tax may apply to them.

When Do Charities Pay Corporation Tax?

 Charities in the UK are usually exempt from paying Corporation Tax, but they can become liable in certain situations. Tax liability may arise when a charity earns income that isn’t directly tied to its charitable purpose—such as running a café, gift shop, or offering paid services unrelated to its mission. Similarly, rental income or investment returns not used for charitable activities may also be taxable.

Trading activities can further affect a charity’s tax position. If the trading directly supports the charity’s goals—known as ‘primary purpose trading’—such as a museum selling educational material or a hospice running a charity shop, profits are generally exempt from tax as long as they’re used for the charity’s work.

However, ‘non-primary purpose trading’—activities unrelated to the charity’s core aims—could lead to Corporation Tax unless the income stays within HMRC’s small trading exemption limits:

– Income under £32,000: Up to £8,000 of non-primary purpose trading is exempt.

– Income between £32,001 and £320,000: 25% of total income is exempt.

– Income over £320,000: Up to £80,000 is exempt.

If a charity’s non-charitable trading exceeds these limits, it may need to pay Corporation Tax on the surplus. To manage this, many charities set up a trading subsidiary—a separate limited company that handles non-charitable business activities. This helps keep the main charity’s funds tax-free. The subsidiary can transfer its profits back to the parent charity using Gift Aid, which often results in tax relief on the profits.

It’s important for charities to carefully track and record all income sources and ensure they are correctly categorised. Failing to do so could result in unexpected tax bills or penalties from HMRC. Regularly reviewing income activities and seeking advice from a qualified accountant can help charities stay compliant while maximising funds for their cause.

Additionally, charities should register with HMRC to claim tax reliefs and exemptions and submit accurate tax returns if they have taxable income. Keeping up with the latest HMRC guidance is key to avoiding errors and ensuring proper use of available exemptions and reliefs.

What Income Is Tax-Exempt for Charities?

Charities in the UK can receive a variety of tax-exempt income, provided the funds are used exclusively for charitable purposes and proper records are maintained. Common sources of tax-free income include:

• Donations and legacies: Gifts from individuals, companies, or estates are generally tax-free.
• Grants: Funds received from government bodies or charitable foundations to support specific charitable activities.
• Gift Aid: Under the Gift Aid scheme, charities can claim an extra 25p from HMRC for every £1 donated by a UK taxpayer—at no additional cost to the donor. To qualify: 
  • The donor must be a UK taxpayer who has paid at least as much Income Tax or Capital Gains Tax in that tax year as the amount reclaimed by the charity. 
  • A valid Gift Aid declaration must be completed by the donor. 
  • The charity must be registered with HMRC to claim Gift Aid.
  • Accurate records must be kept for all declarations and claims.
• Fundraising events: Income from activities such as charity auctions, sponsored walks, or gala dinners is often tax-exempt when organised to support charitable goals.
• Income from charitable services: Charges for services that are directly aligned with the charity’s objectives—such as educational workshops, training sessions, or community support—are usually exempt from Corporation Tax.

However, to qualify for these exemptions:

– The charity must be registered and recognised by HMRC.

– All income must be used exclusively for the charity’s objectives.

– Accurate and clear records should be maintained to demonstrate that funds are spent appropriately.

Keeping within HMRC’s rules ensures charities can maximise income and avoid unexpected tax liabilities.

What About Investment and Property Income?

Charities often invest funds or own property to support their operations. Income from these sources can be tax-exempt under certain conditions:

• Investment Income: Interest, dividends, and other returns from investments are generally exempt from tax if the income is used solely for charitable purposes.
  
  
• Property Income: Rental income from property owned by the charity is also tax-exempt, provided the property is held for charitable purposes and the income is applied accordingly.
  
  

It’s important to note that if investment or property income is not used for charitable purposes, it may become taxable. Additionally, income from services associated with property—such as catering or conference facilities—may not qualify for exemption and could be subject to tax.

Do Charity Employees Pay Tax?

Yes, employees of charities are subject to the same tax obligations as those in other sectors. This includes Income Tax and National Insurance Contributions (NICs), which are deducted through the Pay As You Earn (PAYE) system.

Key Points:

• PAYE System: Charities must operate PAYE if an employee’s earnings reach the National Insurance Lower Earnings Limit (LEL). This involves calculating and deducting the correct amount of tax and NICs based on the employee’s tax code and NIC category.
  
• Employer Responsibilities: Charities are responsible for submitting these deductions to HM Revenue & Customs (HMRC) by the 19th of each month (or the 22nd if payments are made electronically).
  
• Benefits in Kind: Certain non-cash benefits provided to employees, such as childcare vouchers or employer pension contributions, may be tax-exempt. However, it’s essential to understand which benefits are taxable and ensure proper reporting.
• Volunteers: Volunteers are not considered employees and typically do not receive payments that would necessitate tax deductions. However, if a volunteer receives payments beyond reimbursed expenses, this could have tax implications.

How to Stay Compliant with HMRC

Maintaining compliance with HMRC is crucial for charities to uphold their reputation and avoid penalties.

Essential Compliance Steps:

• Accurate Record-Keeping: Maintain detailed records of all income, expenditures, and financial activities.
  
  
• Timely Filings: Submit annual returns and tax filings as required. Failure to do so can result in penalties and loss of tax reliefs.
  
  
• HMRC Registration: Ensure the charity is registered with HMRC to access available tax reliefs.
  
  
• Professional Advice: Seek guidance when engaging in complex or commercial activities to navigate potential tax liabilities effectively.
  
  

Non-compliance can lead to financial penalties and damage to the charity’s credibility.

Recent Tax Changes Affecting Charities

Staying informed about tax legislation changes is vital for charities to plan and operate effectively.

Notable Updates:

• Employer’s NIC Increase: From April 2024, the rate for employer’s National Insurance Contributions increased from 13.8% to 15%. Additionally, the threshold at which these contributions become payable was reduced from £9,100 to £5,000 per year.
  
  
• Employment Allowance: To offset the increased NICs, the Employment Allowance was raised from £5,000 to £10,500, providing relief to eligible employers, including charities.
  
  
• Gift Aid Considerations: Changes in income tax rates can affect the amount charities can reclaim through Gift Aid. It’s essential to monitor these changes to maximize the benefits of the scheme.
  
  

Common Misconceptions About Charity Tax

Understanding the realities of charity taxation helps in effective financial planning and compliance.

Myth: Charities are entirely exempt from paying taxes.

Fact: While charities benefit from several tax reliefs, they may still be liable for taxes on certain activities, especially those not directly related to their charitable purposes.

Myth: All income received by a charity is tax-free.

Fact: Only income used exclusively for charitable purposes is tax-exempt. Income from non-charitable trading or investments not applied to charitable activities may be taxable.

Myth: Volunteers can be paid without tax implications.

Fact: While reimbursing volunteers for legitimate expenses is acceptable, providing payments beyond this can have tax consequences and may reclassify the volunteer as an employee.

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Conclusion

Charities may not pay corporation tax on most income, but it depends on what the money is used for and how it’s earned. Being aware of tax rules helps charities stay compliant and make the most of their funds. Seeking advice from an accountant or tax expert is a good way to ensure you’re following the rules and using reliefs correctly.