When a Canadian registered charity is established, it can be set up as a (i) charitable organization, (ii) public foundation or (iii) private foundation, depending upon its structure, source of funding and operation. There are approximately 5,500 private foundations in Canada. Private foundations have been growing at a higher rate than any other type of Canadian registered charity. Although there are some 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 quite 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.
Here is the first half of our list of some of the top fallacies we see about Canadian private foundations:
1. You need to donate millions of dollars to set up a private foundation (i.e. private foundations are for rich people).
Not really. There has been a lot of media focus on the private foundations of wealthy philanthropists such as Bill Gates 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 only contributed 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 in the range of about $30,000 per year and no endowment fund was created.
2. 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, the private foundation could be set up simply to make grants to other Canadian registered charities, or it could be set up to also operate its own activities. A simple private foundation can be established for as little as $5,000.00. If there are foreign activities involved or other more complicated direct charitable activities, it can be more costly. The actual operation of a private foundation is not any more complicated than other Canadian registered charities and is, in fact, often much simpler to run when it is set up to only provide gifts to other registered charities/qualified donees.
3. 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 dictated by its legal objects and the Income Tax Act (Canada). If a private foundation has legal objects that only allow it to make gifts to registered charities, then it would be prohibited from conducting its own charitable activities. However, if the legal objects are broader, then the private foundation has more flexibility to conduct its own activities. Whereas a charitable organization should spend more than 50% of its disbursements on 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 spend 90% on its own charitable activities the next year, if their objects are broad enough to allow for it.
4. Private foundations cannot conduct foreign activities.
Canadian registered charities are allowed to conduct their activities both inside and outside of 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 only fund qualified donees then it can only fund qualified donees. In general, the qualified donees are registered charities in Canada. Almost all foreign charities are not qualified donees. One exception is that there are about 600 prescribed foreign universities that are qualified donees. At least when it comes to certain prescribed universities outside of Canada it can be exceptionally easy for private foundations to fund those universities. If a private foundation has broad objects that are not limited to a specific jurisdiction such as Canada, 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.
5. Private foundations can only receive donations from the family establishing the private foundation.
While many private foundations are supported by a single donor or family, private foundations can generally receive donations from the general public and issue charitable donation receipts for these donations in the same way as other registered charities. There are, however, a small number of private foundations that preclude themselves from taking outside funds in their constating documents.
6. Private foundations cannot fundraise.
Generally, a private foundation can conduct its fundraising in the same way as other registered charities. CRA has a Fundraising guidance that applies to all registered charities, regardless of their designation.
7. Private foundations can pay for your children’s wedding expenses or for gala fundraising tickets for its directors.
This is not acceptable. Private foundations have to be very careful to avoid providing any undue private benefits, excessive compensation or even the possibility that their actions could be perceived as abusing the system.
8. Private foundations can carry out business activities.
One significant difference between private foundations and other registered charities (such as public foundations and charitable organizations) is that private foundations are prohibited from conducting business activities. Public foundations and charitable organizations can carry on related business activities as set out in CRA Guidance, but private foundations cannot conduct any business activities. There is only one narrow exception in that private foundations are now able to invest in limited partnerships as a result of recent changes to the budget. To the extent a private foundation would like to carry on a business activity, the foundation could be re-designated as a charitable organization or public foundation or another charity or vehicle 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.
9. All board members of a private foundation must be family members.
The board of directors of a private foundation can be structured in several different 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 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, then the organization must be a private foundation. However, a private foundation is not required to have most of its board at arm’s length.
In part two of this article we will share more misconceptions about private foundations as well as some reasons a donor may or may NOT want to start their own private foundation.
Mark Blumberg, Kate Robertson and Lynn Gluckman are lawyers at Blumberg Segal LLP in Toronto, Ontario. To find out more about legal services that Blumbergs provides to Canadian charities and non-profits please visit www.canadiancharitylaw.ca or www.globalphilanthropy.ca
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.