When do charities pay tax and when don’t they?

Oct 27, 2023 | Charities, Tax

Charities are driven by a sense of purpose, dedicating their efforts to improving society and the world as a whole. Yet, in their endeavours, charities can face unique tax challenges.

Understanding when your charity needs to pay taxes and when it’s exempt is vital for achieving its mission and ensuring the long-term success of your organisation. Here’s what you need to know.

Tax exemptions for charities

Corporation tax

Charities are not profit-driven entities, which means they don’t usually need to pay corporation tax. However, not all money a charity receives will be automatically exempt.

Profits that are not directly used for charitable objectives may incur a corporation tax charge. For example, if a charity invests in an organisation deemed unrelated to its cause or uses its income to fund other non-charitable activities.

Interactions with HMRC

While charities rarely need to file a corporation tax return, you may still need to complete a return if you use any profits for non-charitable purposes or if HMRC requests it.

Charities that use trading activities to fund their mission often need expert guidance to ensure they remain compliant. With the right accounting and financial reporting support, charities can focus on their purpose while staying compliant.

Understand charitable purposes

Typically, income channelled for “charitable purposes” remains untouched by tax, but what does this mean?

As laid out in the Charities Act, these activities support the public’s interests and promote the charity’s established objectives.

Examples include endeavours related to education, arts, poverty alleviation, and animal welfare, to name a few.

Operational expenses, including rent or staff salaries, are also categorised as serving these purposes. This means they’re generally exempt from tax.

Small trade exemption limit

There’s a cap on the amount charities can earn from non-charitable trading activities (e.g. running a cafe or shop) before incurring tax. The specifics of this limit depend on the charity’s annual earnings, ranging from £5,000 for smaller organisations to £50,000 for more sizable charities.

As a trustee, it’s in your best interest to manage your charity finances carefully to ensure they don’t incur additional costs.

Tax obligations for charities

Here are some key tax obligations for charities that don’t fall into the above categories.

  • Dividends: Charities must pay tax on any dividends received from UK companies before April 2016. Additionally, if there are profits from land or property development, these are taxable.
  • Land and property development: Your charity may face extra tax implications if it is involved in the development of land or property.
  • VAT on purchases: While charities are granted specific VAT reliefs, they aren’t entirely exempt. Special VAT rules denote that charities are subject to a reduced 5% or flat rate on select goods and services. This list includes construction services and aids for disabled individuals.
  • Business rates on buildings: Although charities need to pay business rates for non-domestic buildings, they do receive a generous 80% discount.

In conclusion

While charities enjoy significant tax benefits, it’s essential to understand the nuances of their setup and structure.

Given the tax rules and regulations, charity trustees often need to access expert guidance to remain compliant and optimise their resources.

At Simpson Wreford, we know how to make your charity thrive. From keeping you in line with the Companies Act to helping you draw up budgets and forecasts, we’re dedicated to helping you further your charity’s mission.

Get in touch to find out more about our tax services for charities.

Other posts you might like:

There’s a better way to manage your finances.

Let’s find it together.