Uneven ground

The Law Commission recently published its recommendations regarding the law on social investment by charities, following its consultation earlier in the summer. The Law Commission provides a definition of social investment which broadly means the use of funds to achieve both a financial return and the furtherance of a charity's purposes.

Background

The area of social investment is one of increasing importance to society and one which many charities want to engage in. Although there is a general acceptance that charities can make social investments, the legal basis for them to do so is uncertain. The Charity Commission has produced helpful guidance on the topic but unfortunately, it has no statutory footing. And to make matters worse, any available case law is unhelpful. In particular, Rosemary Simmons Memorial Housing Association Ltd v United Dominions Trust Ltd (Bates & Partners (a firm), third party) makes clear the risks involved, while providing little or no confidence that trustees can further their charity's objects through social investment activities.

Charities may therefore have been deterred from making social investments until now. The Law Commission (and others in the charity sector) felt that the current law around social investment by charities could be improved to provide clarity and to remove the perceived barriers.

The recommendations

The main outcome is the recommendation that a new statutory power to make social investments be created and conferred upon charity trustees. The power will apply automatically unless it has been expressly excluded or modified by a charity's governing document. This new statutory power would help to alleviate the current uncertainties and enable charity trustees to feel confident in their ability to make social investments.

A further recommendation is that the new statutory power should be extended to charities with investment permanent endowment. Investment permanent endowment is a restriction on funds which only allows income generated to be spent and requires the trustees to preserve the underlying capital asset. The power will allow charities to use investment permanent endowment to make social investments provided that the trustees expect that the value of the underlying capital asset will be preserved.

A key concern has been to ensure that the tax position for social investment aligned with the legal position. It would undermine the purpose of introducing the new power if trustees still felt dissuaded because they could not be satisfied the investment would receive tax exemption from HMRC. The Law Commission has noted this concern and made a recommendation that charities should be able to obtain prior clearance from HMRC as to the tax treatment of a proposed social investment. The Law Commission has also recommended that the tax legislation be amended to include the Law Commission's suggested definition of social investment, which will ensure continuity in application from a legal and tax perspective. Until those recommendations are implemented, charity trustees will need to consider the tax position carefully to ensure that tax exemption is not affected.

The Law Commission recommends that there should be specific duties which apply to trustees in respect of social investments. These are:

• trustees must be satisfied that it is in the best interests of the charity to make a social investment;

• the social investments should be reviewed from time to time; and

• charity trustees must consider taking advice.

Some trustees may already have separate duties in respect of investment including, for example, under the Trustee Act 2000. Where that is the case, the recommendation is that the existing duty should not be applied in favour of the duties listed above.

Summary

The Law Commission's recommendations are very helpful (even before implementation) in clarifying the position. The conclusion is that changes in the law are not in fact required in order to allow social investment, but that clarifications are simply needed in order to remove doubts.

Charity trustees should feel confident in their ability to innovate in this field. Lawyers need to be aware of the recommendations and the basis upon which they have been made, in order that we can encourage our clients to progress proposals, should trustees feel social investment fits with their charity's mission.

I very much hope that these recommendations will be implemented by this parliament, with consequent improvements made to Charity Commission and HMRC guidance and procedures. This should lead to an increasing interest in the field of social investment by charities and a recognition that charitable resources can be made to work harder, and to achieve both a financial and a social impact.

Darren Hooker is a solicitor at Stone King