number of charities in Canada operate “thrift stores”, loosely defined as not-for-profit stores selling low-cost clothing or other items with the aim of providing affordable shopping alternatives to those in need. Inventory is often composed of donated previously used items, constituting “in-kind” donations to the charity for which donation tax receipts may be issued. Because the organized sale of such goods may be considered a business for the purposes of the Income Tax Act (the "Act"), and because the Act imposes strict limits on business activities by charities (and significant penalties for charities that do not operate within these limits), charities that operate thrift stores must ensure that they operate within the provisions of the Act.
There are several instances in which a charity will be permitted to sell goods and remain compliant with the Act. Charities may sell goods when such sales are for the purpose of fundraising and do not constitute a business for the purposes of the Act. Charities may also sell goods where the sales constitute a charitable activity. This could include, for example, relief of poverty, or where the operation provides a sales outlet where economically disadvantaged citizens may sell products.
With respect to fundraising events, many such events will not be viewed by CRA as the carrying on of business. CRA states that although many fundraising events such as concerts will constitute business activities (in that they involve the sale of goods and services to generate income), fundraising events that do not recur regularly or frequently will not constitute “carrying on a business” for the purposes of the Act. As the restrictions in the Act generally apply to the carrying on of a business by charities, such irregular fundraising events will not generally cause a charity to be offside these restrictions.
In certain circumstances, charity-operated sales outlets selling goods produced by those in need will also be found to comply with the Act. CRA states that charities working to relieve extreme poverty in developing countries may sell items made by poor artisans in third-world countries without such sales being considered an unrelated business under the Act. Rather, such sales are viewed as “ancillary and incidental” to charitable programs. The sale of items produced by Canadian artisans is generally excluded from this exception. However, certain “social businesses” that employ Canadians with disabilities may also sell goods without being considered an unrelated business of a charity.
Finally, the operation of certain stores, including thrift stores, may be recognized as a charitable activity if certain conditions are met. In order to constitute a charitable activity, CRA takes the position that such stores should:
- be located in sections of a community inhabited largely by the poor;
- sell donated goods at a low price; and,
- operate on a break-even basis.
Despite this guidance from CRA, the status of thrift stores under the Act remains somewhat uncertain. CRA states that stores which are run as “fundraising vehicles” will not be separately registered, but may constitute related businesses. However, CRA states elsewhere that selling donated goods is not a commercial activity “because businesses do not depend on donations to create their inventories.” The line between selling/liquidating donated goods and fundraising is not always clear. Furthermore, case law on the issue has sent mixed signals as to what will and will not be considered a business, what will be considered a “related business”, and what will be deemed an “unrelated business”.
A recent CRA advance income tax ruling discussed a particular corporate structure proposed by a registered charity. The charity sought to create a new corporation (“Newco”) that would sell goods donated to the charity on a consignment basis. In other words, the charity would retain ownership of the goods until they were sold, but all aspects of the sales would be handled by Newco. The purpose of the proposed structure would be to allow Newco to efficiently liquidate in-kind donations received by the charity, and return any funds to the charity in order to fund the charity’s programs. The charity requested the CRA’s opinion on two issues:
- Whether Newco would be exempt from income tax as a non-profit organization; and,
- Whether the charity would be carrying on a business by virtue of the consignment sale arrangement.
CRA stated that provided certain conditions were met, Newco would be considered a non-profit organization. On the second issue, the CRA stated that the charity would not be carrying on a business solely by virtue of the consignment sales arrangement.
This ruling is important in that it provides additional guidance as to what business arrangements will be acceptable to CRA. For charities, a consignment arrangement like the one described above may provide advantages over simply liquidating donated goods themselves. The charity will have more time to focus on its charitable activities and not be bogged down in the mechanics of efficiently liquidating in-kind donations. It will also not have to concern itself with running afoul of the “related business” restrictions applicable to charities. Such consignment arrangements may be an attractive structural option for charities with significant thrift store operations.