What is a charity and how different is it from a commercial company ?
The key distinctions are as follows:
- Object and purpose
A charity is an entity with its sole object and purpose exclusively on charitable activities benefitting wholly or substantially a certain community eg Homeless community in Singapore or providing education to vulnerable children in Africa. A charity need not be loss-making or expected to run its business at break-even. In fact it is expected to be profitable so that it can sustain and continue its charitable mission for the long-term. Whilst profit-making is not a sin, it should be noted that the main objective of a charity is it charitable purpose and profit-making in a means to that charity end.
A commercial company has a much wider object and purpose as it is not restricted to only charitable activities. It is usually commercial centric and profit driven with its main business objects and activities provided in its Constitution. It thrives and strives on profit making.
- Nature of business activities
A charity would usually has 3 different types of business activities:
- Primary purpose business activities: These are activities that contribute directly to the advancement of a charity’s objects stated in its governing instrument. Eg providing family counselling services at a fee by a family service centre which aims to help dysfunctional families.
- Incidental business activities which support its primary activities or advancement of its main object. Eg providing childcare services for a fee at the centre for the parents of dysfunctional families who attend counselling services.
- Non-primary purpose business activities: These are business activities that do not directly advance or support the objects of the charity, and usually involve the provision of goods and/or services solely in return for income (charity object must come before profit-making as in earlier point). Eg income for a running a counselling academy.
The charity may also involve in fund raising or donations activities but these are not business activities.
A charity must have a significant part of its income from its primary business activities and the contribution from its non-primary business activities (“the profit making business activities”) cannot forms a significant part of its financials.
A commercial company, however is free to engage in any business activities for the pursuit of profits. The distinction of its main business activities and other income is purely for financial reporting treatment and disclosure, business model sustainability, investor relationship management and tax reporting.
The fundamental part of this restriction on the type of business activities hinges on the risk warehousing which we will discuss in the next point.
- Risk warehousing
A charity business risk should be restricted and warehoused within its primary charitable activities. Different business activities carry different risks and in some activities, the risk is not just different but higher or more complex. Therefore, it is important a charity should safeguard against any potential use of its resources eg money, assets to cover any eventual losses incurred from investments or running a non-primary business activity. A non-primary business activities if it is undertaken with approval from the charity directors or trustees have to minimally not to require sustained funding from the charity. Directors or trustees of a charity is advised to conduct detailed due diligence on long-term business viability before any non-primary business activities is undertaken.
A commercial company engages its business activities and business on its risk appetite under the maxim of higher return, higher risk – there is no free lunch in the market. Fundamentally, a commercial company is allowed to fail and it is a norm in this competitive market. However, the regulatory regime, governance structure and agency structure offer the protection of the corporate veil and limited liabilities for company shareholders. This is unlike the legal structure of a charity for which members are liable to a certain sum.
- Members’ liabilities
The restriction on the risk warehousing on only the charitable primary objective arise partly due to the fact that members of a charity is liable up to a fixed amount for any liabilities upon the winding up.
The shareholders of a commercial company enjoy limited liabilities and is not liable for any liabilities upon winding up. Shareholders only lose their investment in the shares of the company and nothing else.
- Profit distribution
A charity can never distributes any profit or surplus from its business activities to its members or directors/trustees. Even upon winding up, any surplus assets must be distributed to another charity whom has the similar distribution policy as the winding up charity.
A commercial company distributes any surplus or profit to its shareholders by way of dividends based on its dividend payout policy. Any surplus on winding up goes to the shareholders.
- Income tax exemption
A registered charity (with the Singapore Charity Council) enjoy income tax exemption on its income.
A commercial company is taxed at flat 17% for all its income albeit company tax resident in Singapore enjoys a partial tax exemption to up to $300,000 of its chargeable income.
- Tax deductible receipts – unique only to certain charities
A charity which is also an approved IPC (Institute of Public Character) can issue tax deductible receipts for qualifying donations to donors. This enables the donors to claim tax relief from their assessable income based on the amount donated, at prevailing deduction rate of 2.5 times of the amount donated.