25 January 2000 Internal T.I. 1999-0006847 - REQUEST RECEIVED BY NPO

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the CRA.
Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle de l'ARC.

Please note that the following document, although believed to be correct at the time of issue, may not represent the current position of the Department.

Prenez note que ce document, bien qu'exact au moment émis, peut ne pas représenter la position actuelle du ministère.

Principal Issues:

Whether the receipt of a substantial bequest and the investment of the funds thereof would cause the organization to cease to be exempt from taxation by virtue of paragraph 149(1)(l).

Position:

Bequests are generally receipts of capital and not income. Existence and maintenance of tax exempt status under subsection 149(1)(l) is a question of fact. Key factors to be considered are how the income from the invested funds is used, the level of resources and energies devoted by the organization to the earning of investment income, whether the organization can use its investment income in its non-profit activities or whether it accumulates a surplus in excess of its reasonable requirements for carrying on its non-profit activities.

Reasons:

The Act

			January 25, 2000

	VANCOUVER TSO	HEADQUARTERS
			Income Tax Rulings
	Attention: Clarissa Demian	  Directorate
			Alison Campbell

			1999-000684

XXXXXXXXXX

This is in reply to your request for our assistance in determining whether XXXXXXXXXX (the "Society") is a non-profit organization for the purposes of paragraph 149(1)(l) of the Act, and whether the receipt of a sizeable bequest by the Society and the investment of the bequest to earn investment income, will be subject to taxation.

General Comments

The question as to whether the Society is a tax-exempt entity at the current time and whether it will continue to be one in future periods is not a question upon which we can provide a conclusion because the exemption under paragraph 149(1)(l) is one that must be determined on an on-going basis after a thorough examination of the operations of the organization. As you know, in order for an organization to be exempt under paragraph 149(1)(l) of the Act, it must be "a club, society or association that, in the opinion of the Minister, was not a charity within the meaning assigned by subsection 149.1(1) and that was organized and operated exclusively for social welfare, civic improvement, pleasure or recreation or for any other purpose except profit and no part of its income may be payable to or otherwise available for the personal benefit of any proprietor, member, or shareholder unless the proprietor, member, or shareholder was a club, society, or association, the primary purpose and function of which was the promotion of amateur athletics in Canada." Therefore, there are several criteria which must be met for an organization to qualify for exemption from tax pursuant to paragraph 149(1)(l).

Criteria for Exemption Applied to the Society

We have examined the documents you provided with respect to the Society in connection with the criteria for exemption under paragraph 149(1)(l) and have the following comments:

Charity

The first criteria that must be satisfied is that the Society must not be, in the opinion of the Minister, a charity within the meaning assigned by subsection 149.1(1). We have confirmed with the Charities Division, which makes the determinations as to whether a particular organization is a charity under subsection 149.1(1), that the Society is not a charity within the meaning assigned by subsection 149.1(1) because of the very broad nature of their stated objects.

Organization

To establish the purpose for which a society was organized, the Department will normally look to the instruments by which it was created. These instruments may include letters patent, articles of incorporation, memoranda of agreement, by-laws, articles and so on. A society may be organized for one or more purposes, but to qualify for exemption under paragraph 149(1)(l), none of those purposes can be to earn a profit.

We have reviewed the Society Act of the Province of British Columbia under which the Society was incorporated, and the Constitution, By-laws and financial statements for the Society, which were provided to us. While paragraph 2(1)(f) the Society Act, provides that a society may not be incorporated under the Society Act if it has as one of its purposes the carrying on of a business, trade, industry or profession for profit or gain, in our view, this does not clearly preclude the organization from carrying on an activity which would not be considered a business, trade, industry or profession for the purpose of earning a profit. While our review does not suggest that the Society is organized for any purpose that includes the earning of a profit, we are concerned that nothing in the Society Act, their Constitution or By-laws, specifically prohibits the existence of a profit purpose. We believe that the Society could make this clear by adding a By-law to provide that the Society may not have as one of its purposes, the making of a profit from any activity to be carried on by it.

It should be noted that the condition with respect to profit is not that the entity will necessarily, immediately and automatically cease to be exempt under paragraph 149(1)(l) if any of its activities, that are carried on for a purpose other than earning a profit, actually result in a profit. We also recognize that many organizations will undertake activities, including the purchase of investments (term deposits, for example), which are undertaken specifically to generate a profit, and that this will not necessarily cause the entity to cease to be exempt under paragraph 149(1)(l). It is situations where the organization devotes an unreasonable amount of its resources or energies to the investment activities, that would cause the organization to lose its tax exempt status under paragraph 149(1)(l). This is because the income generating activity would no longer be simply a means of funding the non-profit activities of the organization (i.e. a means to an end), but rather that the earning of income, in an of itself, has become one of the objectives of the organization.

Operated

A determination of whether an organization was operated exclusively for, and in accordance with, its exempt purposes in a particular taxation year is based on the facts of each case. This information can be obtained only by reviewing, during the course of an audit, all of its activities for that year. Such a determination cannot be made in advance of or during a particular year but only after the filing of a return reporting the operations and claiming exemption for the year having ended. Whether or not the Society has been operated exclusively for and in accordance with its exempt purposes cannot be made by us, but must be determined by the tax service office responsible for the Society after reviewing the activities of the Society during the period for which the determination is required.

Income Available to Members

The final criteria to be satisfied by the Society to qualify for exempt status by virtue of paragraph 149(1)(l), is that "no part of its income may be payable to or otherwise available for the personal benefit of any proprietor, member, or shareholder unless the proprietor, member, or shareholder was a club, society, or association, the primary purpose and function of which was the promotion of amateur athletics in Canada". Subsection 2(2) of the Society Act provides that while paragraph (2)(1)(f) precludes a society incorporated under the Society Act from having as one of its purposes, the carrying on of a business, trade, industry or profession for profit or gain, "the carrying on of a business, trade, industry or profession as an incident to the purposes of a society is not prohibited, but a society must not distribute any gain, profit or dividend or otherwise dispose of its assets to a member of the society without receiving full and valuable consideration except during the winding up or on dissolution and then only as permitted by section 73." Under section 73, of the Society Act, on the winding up and dissolution of a society, unless provided otherwise by the society's bylaws or members resolutions, any assets not disposed of to pay debts or by transfer to another institution for charitable purposes, must be delivered to the Minister of Finance and Corporate Relations.

XXXXXXXXXX

With respect to the Society's position, when the By-laws and the Society Act are read together, it is clear that none of the income of the Society can become payable to the members of the Society, on the dissolution of the Society. This is a factor which we consider favourable in determining that no income is payable to or otherwise available for the benefit of members. Subsection 2(2) is also supportive of an argument that no income of the Society may become payable to a member (except by means of a fair market value sale), however, it is not conclusive that income from other sources may not be distributed to members or that income from any source cannot be "made available for the benefit of members", as is required by paragraph 149(1)(l). The Society could make it clear that no income of the Society can become payable to or otherwise available for the benefit of any member, by adding a By-law to that effect.

As is the case for satisfying the criteria that the Society be operated for any other purpose except profit, it is necessary to determine, on an ongoing basis, whether the Society actually has, in fact, made amounts of income payable to or otherwise available for the benefit of members, which requires a review of the Society's activities for the time period under consideration.

Investment of Bequest

If it is determined that the Society is exempt from taxation by virtue of paragraph 149(1)(l), for a particular period, the receipt of bequest funds that are in excess of their current operational needs, would not in itself cause the Society to lose its tax exempt status. A bequest is considered to be an amount received on account of capital by the organization rather than income earned by the organization. A tax exempt organization is not generally permitted to accumulate a surplus in excess of its operational requirements, but this refers to a surplus of income earned by the organization over its expenditures. Generally this would not refer to a receipt of capital to be used in the organization.

Organizations which are exempt from taxation pursuant to paragraph 149(1)(l), are generally permitted to earn investment income, without jeopardizing their tax exempt status. However, there are situations which, in our view, would cause an organization otherwise exempt from taxation by virtue of paragraph 149(1)(l), to lose that exempt status as a result of investing funds. These situations include the following:

1. The earning of income from the investment of the funds becomes more than a means to an end. That is, the earning of investment income is more than an incidental activity intended to generate funds to meet the costs of on-going operations of the organization and has in fact become a purpose of the organization.

2. The investment income earned annually, when combined with the other income earned by the organization, is in excess of a an amount considered reasonable in relation to the needs of an association to carry on its non-profit activities. As noted in paragraph 8 of IT-496 "Non-Profit Corporations", where an organization is accumulating an excess of income earned over its reasonable needs to carry on its non-profit activities, we may take the view that profit has become one of the purposes of the organization.

The Society has indicated that they intend to use the income to further their non-profit objectives, but have not specifically indicated how they intend to invest the funds and what level of activity may be involved with respect to earning of investment income. They should be cautioned that if the level of activity the Society becomes involved in, to earn investment income, reaches a level such that the earning of profit from investments can be viewed as a purpose (stated or not) of the Society, then they would likely lose any tax exempt status they may have under paragraph 149(1)(l).

We would also note, that upon our review of the financial statements provided by the Society, it would appear that they may already be earning income on an annual basis in excess of their annual needs (XXXXXXXXXX). If the Society is already earning income in excess of what they reasonably require to carry out their non-profit activities, we are concerned that the income which may be earned from the investment of assets valued between XXXXXXXXXX, may result in an accumulation of surplus in excess of the organization's reasonable requirements, such that they would lose any exempt status they may have had under paragraph 149(1)(l). Whether or not the organization has, at any particular time, a surplus that is in excess of their reasonable requirements to carry out their non-profit activities, can only be determined after a review of the organization's activities prior to that time and their plans for future activities. We believe it is important that the Society be made aware of the fact that if the income they earn creates a surplus in excess of what they reasonably require to carry out their non-profit activities, this could cause them to lose exempt status if they are exempt under paragraph 149(1)(l). The Society should also be referred to IT-496, for further details with respect to our views on determining when excess earnings are reasonable in relation to their needs in carrying on their non-profit activities.

We trust that our comments will be of assistance to you.

for Director
Financial Industries Division
Income Tax Rulings Directorate
Policy & Legislation Branch