Kate Lazier, Toronto
Charities and non-profit corporations that are federally incorporated should prepare for the changes to their governing legislation, which is expected to come into force in the Spring of 2011. The Canada Not-For-Profit Corporations Act (the “CNPCA”) received Royal Assent on June 23, 2009 and will be effective on a day to be named. Industry Canada has indicated that the day will be named in the Spring of 2011.
The CNPCA will replace the Canada Corporations Act (CCA). Once the CNPCA is in force, all corporations incorporated under the CCA will have three years from that date to continue the corporation under the CNPCA (i.e., until the Spring of 2014). If a corporation does not continue under the CNPCA within the three year period, it can be dissolved.
Parts of the CNPCA also apply to federal corporations established by Special Act. We will provide further information on this topic in an upcoming newsletter.
The differences in the CNPCA compared to the previous legislation will require each corporation to amend its governing documents to bring itself into compliance with the CNPCA when continuing under the CNPCA. Highlights of some of the differences in the CNPCA are summarized below.
Incorporation as of Right
Under the CNPCA, corporations can incorporate as of right. This should cut down the time to incorporate, as the application to incorporate need not be reviewed by Industry Canada.
Ultra Vires Discarded
Under the CCA, corporations were limited to carrying out activities in furtherance of the objects listed in the corporation’s Letters Patent. Under the CNPCA each corporation will have the powers of a natural person. Thus, a corporation’s activities will no longer be limited unless the corporation’s articles specifically restrict the corporation.
In order to continue to qualify as a registered charity, a charitable corporation will need to add restrictions to its objects to ensure that its objects remain exclusively charitable.
Under the CNPCA, a corporation will be a "soliciting corporation" if it receives more than $10,000 over 3 years from a government, another soliciting corporation or person (other than the corporation’s members, directors, officers, employees or persons related to such persons).
Soliciting corporations must have at least 3 directors, are subject to stricter audit requirements, must file financial statements with the government, and on wind-up must distribute assets to a qualified donee.
New Requirements for Articles Versus By-laws
The CNPCA requires that membership classes and voting rights be outlined in the Articles of Incorporation. The Articles of Incorporation are the equivalent to the Letters Patent under the CCA. This change will mean that the information regarding membership will be publicly available and cannot be changed without filing Articles of Amendment with the government.
Voting Rights for Non-voting Member Rights
As discussed more fully in our January 2010 newsletter, non-voting members in certain circumstances will get voting rights. A corporation that wants to avoid this result should amend its by-law as soon as possible before the CNPCA is in force.
Directors’ Fiduciary Duties
The CNPCA introduces an objective standard of care for directors. Directors must fulfill their duties to the level of care of a reasonably prudent person in similar circumstances. This is the same standard of care as included in many corporate statutes across Canada. The CNPCA allows directors to avoid liability through due diligence in carrying out their duties.
While the CNPCA introduces an objective standard of care, directors of charities are still considered “trustees” at common law and may be held to a higher standard of care.
No Ex officio Directors
The CNPCA provides that the majority of directors must be elected by members and up to 1/3 of the directors can appointed by the other directors. This means that the CNPCA does not allow for directors to become directors by virtue of their position in another organization. Such directors are called ex officio directors.
A corporation with ex officio directors will need to amend its governance structure under the CNPCA.
New Audit Requirements and Thresholds
Soliciting corporations with gross annual revenues above $250,000 must have an audit. The members of a soliciting corporation that has revenues between $250,000 and $50,000 can elect to have a review engagement in lieu of an audit. The member of a soliciting corporation that has revenues under $50,000 can elect not to have an audit or review engagement.
The lawyers in Miller Thomson LLPs Charity and Not-For-Profit Group can assist federal corporations to continue under the CNPCA.
Robert B. Hayhoe, Toronto
A recent decision of the Ontario Court of Appeal clarifies when a charity must indemnify its directors.
Pandher v. Ontario Khalsa Darbar was an appeal of the costs portion of an Ontario Superior Court of Justice decision in what appears to have been a bitter governance dispute between groups of members of a Sikh temple. Relying on the indemnity provision in the temple’s constitution, the appeal court decided that the costs of the successful minority directors were to be paid by the temple, not by the unsuccessful majority directors.
The Superior Court of Justice costs decision had found that “[t]o an extent it will be unfair to look to the Ontario Khalsa Darbar to pay costs. Surely the costs arose as a result of the action of its Board of Directors. In the end result it is appropriate that all defendants except the Ontario Khalsa Darbar be jointly and severally responsible to pay these costs” (of over $200,000).
However, the appeal court confirmed that absent male fides, it would give effect to the director’s indemnity provision in the temple’s constitution, and ordered that the costs of the successful directors be paid by the temple rather than the directors. The appeal court observed that “the primary purpose of indemnification is to provide assurance to those who become directors that they will be compensated for adverse consequences that ensue from well-intentioned acts taken on behalf of the corporation. This policy applies with force to not-for-profit organizations.” It turned down a new argument that the court should rely on its inherent jurisdiction over charities to refuse to apply the indemnity, but went on to doubt that the court had such a power.
The court’s willingness to apply the indemnity is an interesting conclusion that calls into question a long-standing position of the Ontario Public Guardian and Trustee (PGT). The PGT takes the position, consistent with the common law of trusts, that a director of a charity is not permitted to benefit directly or indirectly from the directorship. The PGT has traditionally extended its view of a director benefit to include director indemnities or insurance. As of 2001, a regulation under the Ontario Charities Accounting Act provides that it is not a breach of trust for a charity to indemnify its directors if it considers certain items prior to indemnifying:
- the degree of risk involved in administering the charity;
- how likely it is that the director, officer or trustee will suffer a financial loss through administering the charity;
- whether there are other practical means of significantly reducing the risk;
- whether the amount and cost of the insurance is reasonable given the risk to the director, officer or trustee of suffering a financial loss. If the risk of loss is low, the cost of insurance purchased by a charity should also be low;
- whether the cost of the insurance is reasonable given the revenue of the charity?
- it is not usually reasonable for a charity to spend a significant part of its income on liability insurance;
- whether the charity will benefit by giving the indemnity or buying the insurance. For example, the charity may attract better directors or be able to get more income if it buys the insurance.
This regulation confirms by implication the PGT’s view that absent this regulation, indemnity is a breach of trust as a matter of common law. In principle, this would be the case in provinces other than Ontario, notwithstanding that no such analogous saving provision exists.
The decision of the Ontario Court of Appeal suggests that the purpose of giving a directors’ indemnity is to assist the corporation by protecting directors, not to benefit the directors. After all, there would be no need for the indemnity absent being a director, so the indemnity is designed to put the director in the position that he or she would have been in without the office (a neutral position), not to provide a benefit. Thus, the court’s decision should give charity directors in Ontario and in other provinces considerable comfort about the enforceability of director indemnities absent male fides. Nonetheless, Ontario charities should continue to comply with the Charities Accounting Act regulation out of an abundance of caution.
Andrew J. Roman, Toronto
Brittany Benning, Articling Student, Toronto
On December 16, 2010, the telemarketing firm Xentel DM Inc. (“Xentel”) made national headlines when the Canadian Radio-Television and Telecommunications Commission (“CRTC”) announced that the company had agreed to pay $500,000 in penalties for telephoning individuals whose names were registered on the CRTC’s National Do Not Call List (“DNCL”). Four days later, the CRTC announced that Bell Canada had agreed to pay a $1.3 million penalty for similar violations. The two sets of penalties were the largest ever paid by Canadian companies for a contravention of the DNCL; indeed, prior to these two substantial penalties, the CRTC had imposed only 25 modest penalties. This recent expansion of enforcement by the CRTC raises obvious concerns for charities and not-for profit corporations that regularly promote their organizations through telemarketing initiatives.
The Unsolicited Telecommunication Rules
The Federal Telecommunications Act gives the CRTC the authority to create a national DNCL, which the CRTC put into force on September 30, 2008. The DNCL is enforced through the CRTC’s Unsolicited Telecommunication Rules (the “Rules”). The Rules state that no company may make a telemarketing telecommunication to a consumer whose number is listed on the national DNCL.
The Rules technically do not apply to telemarketing calls made by or on behalf of a registered charity. Nonetheless, the CRTC requires registered charities to comply with other rules it created in the Rules with similar effects. For example, an exempt charity participating in a telemarketing initiative must still register its business information with the National DNCL (www.LNNTE-DNCL.gc.ca). As part of this registration, the organization must inform the CTRC that it qualifies for an exemption under the Rules. Additionally, an exempt charity is required to maintain its own internal DNCL. The Rules provide that an exempt organization must add a consumer’s name to the organization’s DNCL within 30 days of the date of the consumer’s Do Not Call request.
Following the implementation of the National DNCL, the CRTC was initially criticized by members of Parliament for failing to impose penalties against companies that violated the Rules. Perhaps in response to this criticism, the CRTC recently significantly increased its investigations – by November 2010, there were 102 ongoing investigations of potential violations of the DNCL. Additionally, the CRTC implemented a new enforcement program to address promptly complaints from consumers on the DNCL.
On December 16, 2010, the CRTC announced that the telemarketing firm Xentel agreed to pay a record-breaking $500,000 penalty for contraventions of the DNCL. Xentel was charged with two violations of the Telecommunications Act. First, between June and November 2009, Xentel had made calls to individuals on the DNCL on behalf of organizations that were not registered charities within the meaning of the Act. Some of these companies had also failed to subscribe to the national DNCL. Second, the CRTC found that Xentel had phoned individuals registered on the national DNCL on its own behalf. Since Xentel is not a registered charity, such calls would constitute a further violation of the Telecommunications Act.
Four days later, on December 20, 2010, the CRTC announced that Bell Canada had agreed to pay $1.3 million in penalties. The CRTC found that Bell Canada had employed a third party telemarketing firm that improperly initiated communications to individuals on the DNCL. Additionally, the CRTC found that some of the individuals contacted by the telemarketing firm should have been on Bell’s internal DNCL.
These recent penalties demonstrate that the CRTC is taking an increasingly aggressive role in supervising and disciplining organizations that fail to comply with the Rules. The Xentel case shows that the CRTC will demand large penalties from corporations that the CRTC believes improperly make calls when they do not qualify for the charities exemption. Moreover, the substantial penalty imposed upon Bell Canada demonstrates that the CRTC is prepared to penalize any corporation, large or small, that employs third parties to initiate telecommunications if those third parties violate the Rules.
Based on this recent enforcement history, three key factors must be considered by charities and not-for-profits seeking to avoid liability. First, the organization should ensure that it is in fact a registered charity. Second, even such an exempt organization must register with the National DNCL, and must maintain its own DNCL. Third, the charity must carefully monitor any telemarketing companies used by the organization to make calls, as well as any employees of the organization who make telemarketing calls, to ensure compliance with the Rules.
Arthur B.C. Drache, Toronto
Charities are required under the Income Tax Act to maintain books and records related to their operations. Such “books and records” include minutes of meetings of both directors and members. Most organizations, whether they are incorporated or not, keep at least some sort of minutes of meetings, though the detail and scope vary enormously. They may range from a record of decisions made to almost verbatim descriptions of what transpires, with the views of all participants being recorded in detail.
There may be all sorts of implications stemming from the minutes of meetings, both positive and negative.
One classic explanation of the need to maintain minutes is as follows:
“It is characteristic of all committee discussions and decisions that every member has a vivid recollection of them and that every member’s recollection of them differs violently from every other member’s recollection. Consequently, we accept the convention that the official decisions are those and only those which have been officially recorded in the minutes by the officials, from which it emerges with an elegant inevitability that any decision which has been officially reached will have been officially recorded in the minutes by the officials and any decision which is not recorded in the minutes has not been officially reached even if one or more members believe they can recollect it, so in this particular case, if the decision had been officially reached it would have been officially recorded in the minutes by the officials, and it isn’t so it wasn’t.” (Sir Humphrey Appleby in episode 9 of Yes, Prime Minister)
In one case decided by the Federal Court of Appeal, the board of the organization consisted of three people, each of them very busy professionals. Their meetings were haphazard at best and almost always by telephone. No minutes were kept, though there is no doubt that decisions were made and implemented. One of the several reasons given for revoking the organization’s registration as a charity was that under the Income Tax Act, a charitable organization must keep “records and books of account”. Failing to do so is one ground for revocation of charitable status. In this case, the failure to keep minutes, while not a crucial element, was part of the reason why the organization lost its appeal against revocation.
But this can be contrasted with a second case heard by the same court. The evidence before the court included minutes of board meetings. The Board was quite large and composed of very active members, all of whom had strong views on just about every topic. The minutes reported heated debates about the approaches being used in carrying out their charitable mandate.
These debates, recorded in great detail in the minutes, became fodder for the CRA when arguing in support of the organization’s revocation. By selecting parts of the minutes of several meetings (often out of context) and reading them to the court, the Justice lawyer attempted to show that the organization was “out of control”, even though a review of all the minutes would disclose nothing more than internal debates about how the highest level of efficiency could be achieved. Those directors arguing for change at the meetings had put “horror scenarios” forward, and it was these which the CRA seized upon. The charity lost by a 3-0 decision.
In another situation, the charity’s secretary was in the habit of keeping almost verbatim notes. At the end of a meeting and likely after adjournment, the Chair informally asked the members whether any of them were willing to canvass on behalf of a candidate for Parliament during the election which was in progress. The secretary had that matter noted. Five years later a CRA audit used the statement to bolster its case that the charity was improperly involved in politics.
The lessons we take from these experiences is that while it is absolutely necessary that formal minutes of meetings be kept, particularly to show that the directors or trustees are doing those things which are legally required of them, recording every slight difference of view within the board may be asking for trouble in the future.
We also have run into a situation though, where the keeping of good minutes saved a non-profit from serious trouble.
In one case, the CRA was proposing to retroactively strip an organization of its status as a non-profit because, in its view, the organization had accumulated too great a surplus and appeared to have no plans to reduce it. Representatives of the Board said that to the contrary, the intention was to create a charitable foundation and to transfer the excess funds to the foundation. The CRA auditor said, in effect, “prove it”. Lo and behold, the minutes from a board meeting eighteen months before showed that the issue of setting up a foundation was not only discussed, but steps were being taken to ascertain from their lawyer and membership what the proposed foundation would be set up to do. Though the consultation process with members was not as yet complete, the CRA accepted that the intention was there and gave the organization a year to set up the foundation, transfer the funds and retain its non-profit status.
In most cases, documented minutes (along with other internal documents, such as agreements or correspondence) will never be closely examined by anybody outside the organization. But all these documents should, while retaining accuracy, be drafted with the view that they might be the subject of intense and even hostile scrutiny by the CRA or a court. Thus they should be prepared with a view to meeting the statutory and operational requirements while at the same time trying not to reveal matters which could be potentially embarrassing.
One option in extreme cases, is to have the meeting go into either an in camera or off the record session which would allow full and frank debate (this is not uncommon, for example, when personnel issues are discussed) with the record simply reflecting the fact that after such a discussion, the board made certain decisions which are, of course, to be recorded. This approach allows the members to properly exercise their obligations to offer their views while at the same time simply reflecting decisions, with negative votes or abstentions duly recorded.
Doing minutes of meetings should be a mundane exercise in most cases but the statutory obligation to maintain books and records under subsection 230(2) should be kept in mind…tempered with a certain level of common sense, knowing that at some stage, minutes could become public.
Amanda J. Stacey, Toronto
A question regarding the use of an alter ego trust (or a joint partner trust) as a charitable remainder trust was raised at the CRA roundtable at the 2010 CALU Conference (CRA document number 2010-0359461C6). Generally speaking, a charitable remainder trust (“CRT”) is a trust that is set up to provide an income stream to one or more individuals, usually for their respective lifetimes, and that names one or more charities as the ultimate beneficiary (i.e. the capital beneficiary), of the property held by the trust. The term “charitable remainder trust” is not defined in the Income Tax Act. As such, CRTs are not currently treated as a separate type of trust for the purposes of the Act. The current tax treatment of CRTs is based on the general rules applicable to charitable donations and the taxation of trusts.
In its Registered Charities Newsletter #27, the CRA states the following concerning setting up a CRT:
Generally, a charitable remainder trust involves transferring property to a trust whereby the donor or beneficiary retains a life or income interest in the trust, but an irrevocable gift of the residual interest is made to a registered charity. A registered charity can issue an official donation receipt for the fair market value of the residual interest at the time that the residual interest vests in the charity.
In order to qualify as a CRT, the terms of the trust cannot allow for any capital encroachments. The transfer of property to the CRT must also be irrevocable.
An alter ego trust is a trust that is defined in the Income Tax Act. To qualify as such, the settlor of the trust must be at least 65 years of age at the time the trust is created, the settlor must be entitled to receive all of the income earned in the trust during the settlor’s lifetime and the settlor must be the only person entitled to any of the capital of the trust prior to the settlor’s death. A joint partner trust is similar, but the benefiaries are the settlor and a spouse or common-law partner.
Generally speaking, where an individual transfers property to any type of trust, there is a disposition of the property transferred at fair market value and any resulting capital gain is taxed in the hands of the transferor. Where property is transferred to a CRT (or any charity for that matter), there is an election available under the Income Tax Act that allows the transferor to choose the value of the property transferred for the purposes of calculating any gain. The transferor can elect a value between the cost of the property and its fair market value. Where the transferor elects at cost, this will ensure that there is no capital gain on transfer. With respect to alter ego trusts, whether they qualify as CRTs or not, where a settlor transfers property to an alter ego trust, there is a rollover available under the Act which allows the transfer to occur without triggering any capital gains. As such, where a transfer is made to a CRT that is also an alter ego trust, there is no need to make the election discussed above because of the available rollover.
In the question put to the CRA at the CALU 2010 Roundtable, the CRA confirmed that the transfer of property to an alter ego trust that was also a CRT could occur without triggering a capital gain and that a donation receipt could be issued by the charity that is named as the ultimate beneficiary of the CRT. This receipt must be issued for the value of the charity’s residual interest in the trust, and in most cases this will require a professional valuation to determine.
In a later technical interpretation that refers to this question at the CALU 2010 Roundtable (CRA document number 2010-0369261E5), the CRA was asked whether an individual’s claim for a donation tax credit as a result of a gift to a CRT would be limited if immediately after the gift the individual and the trust are affiliated. The concern here is the application of what are known as the “non-qualifying security rules” in the Income Tax Act, which the CRA points out were designed to defer the opportunity for certain donors (i.e. individuals not dealing at arm’s length with their corporations) to receive a tax benefit by making gifts to charity of securities in those corporations. Under these rules, the tax benefit associated with making a gift to charity is generally restricted unless the charity disposes of the security or the security ceases to be a non-qualifying security. The CRA states that it is a question of fact whether the non-qualifying security rules will apply to a gift in this context. The CRA provides the following example: the non-qualifying security rules would apply where a donor transferred to an alter ego CRT a share of a corporation that was, immediately after the transfer, a corporation with whom the donor was not dealing at arm's length. Similarly, if a donor transferred a beneficial interest of the donor in a trust that was, immediately after the transfer, affiliated with the donor, the non-qualifying sercurities rules would also apply.
These are complicated provisions that require careful planning to ensure they are utilized properly. We would be happy to provide advice to both donors and charities dealing with CRTs (whether alter ego or otherwise) and gifts of complicated property to such trusts.
What's Happening at Miller Thomson
Hugh Kelly, Q.C. led two workshops for Ontario Catholic School Trustees’ Association on “What you need to know about Conflict of Interest” on January 14, 2010.
Robert Hayhoe presented “Elimination of the 10-year Rule: What are the implications for your organization?” at the 8th Annual Foundation, Endowment & Not-For-Profit Investment Summit Strategy Institute held at the Metropolitan Hotel on January 18-19, 2011.
Susan Manwaring joined a panel of speakers presenting as part of the Rotman Net Impact Series at the Rotman School of Management on the topic of “Using Social Innovation to Impact Change” on January 24, 2011 held at the University of Toronto.
Susan Manwaring and Robert Hayhoe have co-authored an article titled “Breaking Down the Borders: Operating Charitable or Tax Exempt Organizations Across the Canada/US Border“ in the 2011 Lexpert®/American Lawyer Guide to the Leading 500 Lawyers in Canada .
Arthur Drache wrote “Charities and Tandem Entities”, “Briefly Noted in January”, “Public Accountability for Some Ontario Charities”, Parliamentary Prognosis”, Minutes of Meetings Still a Vague Area in Terms of Style”, “The Value of a Donated Life Insurance Policy” in the February 2011 issue of Canadian Not-for-Profit News.
This publication is provided as an information service and may include items reported from other sources. We do not warrant its accuracy. This information is not meant as legal opinion or advice.
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