(Version October 2011)
A1. What is this guidance about?
The short answer
This 'Question and Answer' guidance is aimed at charity trustees who are considering changing the status of their charity from unincorporated to some form of incorporated structure with limited liability.
In more detail
The guidance focuses on the use of companies limited by guarantee as a means of achieving a corporate structure that provides limited liability to trustees and members of the charity. It sets out the circumstances in which incorporation might be an appropriate step to take, offers information on the incorporated structures available, sets out the practical steps to take when incorporating and signposts further guidance on this topic. It also flags up some commonly encountered pitfalls arising with incorporation.
It is not intended as a complete guide on every issue that may arise with the incorporation of a charity; rather it's a general guide for charity trustees on the more common questions that arise on incorporation as a company under the Companies Act. In most cases, some professional help will be needed during the incorporation process and so this guidance should not be seen as a replacement for taking legal and accountancy advice where appropriate.
It is important to note that this guidance does not address the formation and transfer of an existing charity to a Charitable Incorporated Organisation ('CIO'). It is anticipated that incorporation as a Charitable Incorporated Organisation will become an option for charities in early 2012. Separate guidance in relation to transferring from an unincorporated charity to a CIO will be published at a later date.
A2: What is meant by 'must' and 'should' in this guidance?
'Must' and 'should': In this guidance, where we use 'must', we mean it is a specific legal or regulatory requirement affecting trustees or a charity. Trustees must comply with these requirements. To help you identify those sections which contain a legal requirement we have used the symbol next to the short answer in that section.
We use 'should' for items we regard as minimum good practice, but for which there is no specific legal requirement. Trustees should follow good practice guidance unless there is a good reason not to.
We also offer less formal advice and recommendations that trustees may find helpful in the management of their charity.
A3. Is there a glossary explaining the technical terms used?
The glossary below explains the technical terms as used in this guidance.
Company charity: A company formed and registered under the Companies Act 2006; this will also include a company already registered under the Companies Act 1985, or one which was already in existence at that time and which is established for exclusively charitable purposes.
CIO: A Charitable Incorporated Organisation registered with the Charity Commission. A new form of incorporated charity provided for in the Charities Act 2006 but yet to be established. It is anticipated that incorporation as Charitable Incorporated Organisation will become an option for charities in 2012.
Custodian trustee: A corporation appointed to have the custody, as distinct from the management, of trust property. Where a custodian trustee is appointed to hold property of a charity, the administration of the charity is left in the hands of the charity trustees. The term custodian trustee was introduced by s.4 of the Public Trustee Act 1906. A custodian trustee is not a charity trustee. See also holding trustee which has a related but different meaning.
Defined benefit pension scheme: The most common form of defined benefit pension scheme is also known as a final salary pension scheme. Under these schemes employee members are entitled to a particular level of benefit depending on their length of service and the level of their salary when they retire.
Directors: One or more persons over the age of 16 who are responsible in law for the operations of the company. The directors form a Board of directors which constitutes the decision making body and the Board is responsible for managing the company's affairs. Directors have specific duties under company law and are legally liable for their actions. The directors of a charitable company are its trustees.
Engagements: The assets, obligations and liabilities of the charity.
Holding trustees: Persons who are appointed to hold the legal title of charity property where these are distinct from the charity trustees. The governing document may confer other duties or responsibilities on holding trustees and so it is important that it is consulted in every case. See also custodian trustee which has a related but different meaning.
Incorporated charity: An incorporated charity has a legal personality distinct from its members and trustees. It has the legal capacity to do many things that a natural person can do. It often has rights, liabilities and obligations separate to and independent of its members. The liability of individual members is usually limited. The term includes company charities, CIOs and companies formed by royal charter or other instrument.
Novation: An agreement, with the consent of all parties, where a new contract is substituted for an existing contract and the latter discharged.
Property: Any asset including land, buildings, investments, cash and debts due to the charity.
Resolution: A vote cast validly in accordance with a charity's governing document authorising a particular action or event.
SORP: Statements of Recommended Practice provide recommendations on accounting practices for specialised industries or sectors. SORPs supplement accounting standards and other legal and regulatory requirements in the light of special factors prevailing or transaction undertaken in a particular industry or sector. SORPs are developed in conformity with the ASB's code of practice. The Charities SORP offers a single reference point to the charity sector summarising and interpreting accounting standards and Urgent Issue Task Force Abstracts and thereby assisting the sector in their implementation.
The most recent SORP issued by the Charity Commission as the sole SORP making body was Accounting and Reporting by Charities: Statement of Recommended Practice (March 2005) and was effective from 1 April 2005. The SORP is underpinned for accounting periods commencing on or after 1 April 2008 by The Charities (Accounts and Reports) Regulations 2008.
Statement of Financial Activities ('SoFA'): A primary accounting statement showing a charity's incoming resources, expenditure, gains and losses.
Transfer: The passing of a legal right from one person (or entity) to another so as to vest that right (to property) in the other.
Trustees (charity trustees): Used to refer to the charity trustees and has the same meaning as in s.97(1) of the Charities Act 1993, that is, the persons having the general control and management of the administration of a charity, regardless of what they are called. For instance, in the case of an unincorporated association the executive or management committee are its trustees, and in the case of a company charity it is the directors who are the trustees.
Undertaking: The activities or trade of the charity whether or not carried on for profit.
Unincorporated charity: A group of people acting together but who do not form a separate legal body or corporation, for example a trust or unincorporated association. The charity trustees of the unincorporated charity are likely to be the trustees (if it is a trust) or the members of the management committee (if it is an unincorporated association). They will have to sign loans and contracts as individuals and therefore carry the risk of personal liability.
Vesting declaration: A deed which transfers the title to property including land and buildings and which is made under section 75E of the Charities Act 1993.
B1. What forms can unincorporated charities take?
An unincorporated charity operates as a group of people acting together but who do not form a separate legal body or corporation, for example, a trust or unincorporated association.
An unincorporated association consists of a group of people who have decided to co-operate to further the charitable purpose that association was formed to undertake. An unincorporated association has no separate legal personality from its members; it is simply an association of people bound by identifiable rules and membership. An unincorporated association is usually formed by agreement between its members in the form of a constitution or set of rules. The 'unincorporated' part of the description tells you that the organisation is not a company (which is incorporated).
A trust is the traditional legal structure for a charity and remains suitable for certain types of charities. A trust is an arrangement whereby two or more people 'declare' that they hold certain property on trusts for charitable purposes. A declaration of trust is usually in the form of a trust deed, a will or conveyance setting out the trusts of the charity. Trust deeds can be known by other names, such as a declaration or deed of trust, deed of settlement, or will trust.
B2. When is an unincorporated structure suitable?
An unincorporated association is a structure that can be well suited to charities where membership participation is important, particularly where members play an active role in the charity's activities and governance.
A trust may be suitable where charity trustees are not accountable to a membership and wish to appoint their own successors. It is a commonly adopted structure where permanent endowment is administered by the trustees.
Neither structure provides the limited liability enjoyed by corporate structures, such as companies, and so may be unsuitable for large scale activities or where there are significant contractual activities.
It may be appropriate for a charity to operate as an unincorporated association where any one or more of the following apply:
A trust can provide a relatively simple structure that is inexpensive to operate and can be suitable where charity trustees are not accountable to a membership and wish to appoint their own successors. It may be appropriate to operate as a trust where some or all of the following apply:
However, neither a trust nor an unincorporated association will:
As an unincorporated charity cannot own property or sign documents in its own name then any property will need to be held in the names of trustees on trust to be applied or used for the charitable purposes. These may be either the managing trustees or separate holding or custodian trustees.
Whilst properly incurred debts can be met from the charity's own funds, if the charity's funds are insufficient then personal liabilities may result. Both unincorporated associations and trusts are therefore likely to be unsuitable structures where the charity's activities involve significant financial risk.
B3. What forms can an incorporated charity take?
An incorporated charity has a legal personality distinct from its members and trustees. It has the legal capacity to do many things that a natural person can do. It often has rights, liabilities and obligations separate to and independent of its members. The liability of individual members is usually limited. The term includes company charities, Industrial and Provident Societies and companies formed by royal charter or other instrument. It is anticipated that incorporation as a Charitable Incorporated Organisation will become an option for charities in 2012. Most charities that incorporate do so as companies limited by guarantee.
This guidance focuses on incorporation as a company limited by guarantee under the Companies Act. At present this is the most common form of incorporation adopted by charities.
Incorporation as a company limited by shares is not generally a suitable structure for charities as shareholders are usually entitled to dividends and to a share of the net assets of the company on dissolution. In a charity, all the assets are held for charitable purposes and must not be distributed to the members of the company.
Most incorporated charities are therefore constituted as companies limited by guarantee. The members of a company limited by guarantee do not buy shares in the company in the way that shareholders do. Instead, they agree to contribute a small amount, the guarantee, usually £1 to £10 in the event of the company going into insolvent liquidation. The articles of association of such company charities also include an 'asset lock' which prevents members withdrawing value from the company for their own benefit.
A model memorandum and articles of association for use by company charities can be downloaded from our website. Further guidance on governing documents can be found in our publication Choosing and Preparing a Governing Document (CC22).
Charities may also, on occasions, have other corporate legal structures including that of an industrial and provident society, and corporations established by statute or Royal Charter. These structures are less common than incorporation under the Companies Act and fall outside the scope of this guidance.
Incorporating the trustee body charity, under Part 7 of the Charities Act 1993, is not the same as the charity itself becoming incorporated. Whilst incorporating the trustee body allows property to be vested in the name of a corporate body and for contracts to be entered into in the name of the corporate body, it does not provide limited liability for the trustees. Further information is available in our publication Incorporation of Charity Trustee (CC43).
The Charities Act 2006 introduced a new legal form of incorporation which is designed specifically for charities: the Charitable Incorporated Organisation ('CIO'). It is anticipated that incorporation as a CIO will become an option for charities in 2012. CIOs will provide the advantages of a corporate structure such as reduced risk of personal liability without the burden of dual regulation as a company and as a charity. Further guidance will be issued on forming and operating as a CIO once the full legislative framework is in place.
B4. When should a charity consider incorporation as a company?
It may be appropriate to establish a company where some or all of the following apply:
As the scale and complexity of a charity's activities increase so will the financial risk. The main advantage of a company is that it offers some protection from personal liability to trustees and members.
A company charity is a legal person in its own right, quite separate from the trustees/directors and the members of the company. When a company enters into a contract, unless the trustees/directors were negligent or acted improperly in setting up the contract, the company will be liable for any debts arising out of the contract. The trustees/directors are only likely to be liable themselves for debts if they have acted wrongfully or fraudulently or entered into personal guarantees with the charity's creditors.
Incorporating the charity as a company will not protect charity trustees from any personal liabilities incurred by them on behalf of the charity prior to the date of its incorporation, or incurred using out-of-date pre-incorporation stationery.
As a legal person in its own right, a company can hold land, investments or other property. Once a company is registered as the owner of a property, then that title will continue until the property is sold or otherwise disposed of, or until the company is wound up.
C1. How does personal liability differ between a company and an unincorporated charity?
The short answer
The charity trustees of an unincorporated charity have personal liability for debts incurred on behalf of the charity but are entitled to be indemnified from the charity's funds where liabilities have been properly incurred for the purposes of the charity.
The trustees/directors of a company charity and the trustees of certain other incorporated charities have the protection of limited liability as an incorporated charity has a legal personality distinct from its members and trustees.
A company limited by guarantee formed under the Companies Act is the most common form of incorporation adapted by charities. A company is a legal person quite separate from its members and directors. In the case of a company charity, the directors will be the charity trustees for the purposes of charity law. Charity trustees may also be called 'members of the council of management' or 'the management committee' in the company's memorandum and articles of association. The directors are officers of the company and, as such, are not normally personally liable for the company's debts when properly incurred.
The company will have 'limited liability' which means, in the case of a typical company charity, that its members are normally only liable for the debts of the company to the extent which they have undertaken to guarantee them (usually the limit of liability stated in the memorandum of association is a nominal amount, e.g. £1). A person who acts as a director whilst disqualified from being one, commits a criminal offence and may be personally liable for all the debts of the company. A director may be liable to make payments to the company:
C2. Will the new company charity operate in the same way as the unincorporated charity?
The short answer
The new incorporated company charity will be a new legal entity. If you have chosen exactly the same purposes and very similar rules for the charity's internal regulation and management, then it is likely to operate in a similar way. In practice, whilst the charitable purposes will often be similar, the articles of association of the new company charity will often contain different rules, powers and rights to those contained in the governing document of the unincorporated charity.
In more detail
Whilst obtaining limited liability for your trustees and members may be the driving force to incorporate the charity, the new company charity will have an entirely new governing document. You should use this as an opportunity to make sure that all the rules, powers and rights contained in your new governing document are up to date and fit with the way you want to operate.
There may be parts of your old governing document that are no longer appropriate. For example, the wording of your objects clause may now seem very old fashioned, or the clauses covering the retirement of board members or the number of board meetings may no longer fit with the way you want to operate. You need to look at your governing document in detail and take the opportunity to update it where necessary.
Occasionally, it will not be possible for the company charity to have exactly the same name as the unincorporated charity so you may have to agree a new name. This might be a further opportunity to update the charity's brand.
D1. Can the existing unincorporated charity simply be incorporated?
The short answer
Whilst from the point of view of your stakeholders it will appear that your charity and its projects are simply continuing, in law, this is not the case as the company charity will be a new legal entity.
An existing unincorporated charity cannot simply be converted into a company. Instead, you have to form and register a new company with Companies House. Guidance on incorporating a company is available on the Companies House website.
You will also need to register that company as a new charity with us. Further guidance on registering the new company charity with us is available on our website as is a model Memorandum and Articles of Association for a company charity.
The new company charity will be a new corporate entity separate from the previous unincorporated charity. The new company charity will also usually have a different charity registration number. This is because, in law, the company is a completely new entity which is taking over the assets and undertakings of the previous unincorporated charity.
The process for transferring the assets and undertaking to the new company charity will often depend on the unincorporated charity's constitution. Advice on the methods that can be used is provided in section D4 of this guidance.
Following the transfer of assets and undertaking and settlement of liabilities, the unincorporated charity may then be dissolved and removed from our register. In some cases, with our agreement, the old unincorporated charity may be retained as a 'linked charity' on our register. In such cases a uniting direction may be needed. Further guidance on dissolving a charity can be found in section I of The Essential Trustee (CC3).
As a matter of good practice and for public accountability, it is recommended that accounts for the cessation period are prepared. These accounts should cover the period from the last financial year end to the unincorporated charity's dissolution and quantify the assets transferred and its activities in the cessation period.
D2. How can you plan and prepare for incorporation as a company?
As with any change, careful planning for incorporation can reduce risk and enable an efficient transition to a corporate structure.
We recommend that you discuss your plans for incorporation with your legal and accountancy advisers at an early stage. These discussions will not only provide you with assurance that a corporate structure is appropriate for your charity, but will also provide an opportunity to consider:
It will also be important to identify any endowments or other special trusts held or administered by the unincorporated charity as arrangements will need to be made, usually through a scheme made by the Charity Commission, for the company charity to be appointed the corporate trustee of such funds.
There are a number of other steps you should take in preparing for the transfer:
The new company charity should be registered with Companies House and the Charity Commission in advance of the transfer date. It can be helpful to set a target date for the transfer. For example, arranging the transfer on the last day of the financial year of the unincorporated charity can save the cost of preparing an extra set of accounts.
You also need to remember that you will need to update your headed note paper, business stationery and website which must contain your registered company name, company number and details of the part of the UK where the company is registered. Your company registration number is a separate number to the charity registration number which is allocated to the charity by the Charity Commission. The rules about where your name and company number must appear are quite complex and are set out fully in The Companies (Trading Disclosures) Regulation 2008.
Company charities must also state that they are a charity on all business letters, official notices and publications, conveyances and financial documents and instruments including cheques, invoices and receipts. This does not apply if the word charity or charitable is included in their name. Under section 60 of the Companies Act 2006, company charities are exempt from the requirement to use the word 'limited' at the end of their registered name.
D3. Who should be informed about the incorporation?
The short answer
You will need to set the date for the transfer and notify, well in advance, a number of service providers and statutory bodies including:
New bank accounts: As a new company charity your bank account will need to reflect your new incorporated status. In particular, you will need to:
You may need to retain some cash in the account of the unincorporated charity to cover unpresented cheques and to settle any outstanding liabilities of the unincorporated charity. The new bank account should only be used after the transfer of assets has taken place.
Donors and grant funders: You will need to inform your regular funders of your incorporation as a company and new bank accounts details as necessary. In particular, you will need to:
Funding agreements for some capital projects may contain a 'claw back' provision in the event of an asset, such as land and building, being sold or transferred. In such cases, you should obtain confirmation from the funder that the transfer of title to the company charity will not be construed as a disposal that would trigger any 'claw back' provision in the funding agreement.
Your employees: The new company charity will be the new employer and the transfer of any employment rights for staff will be covered by the 2006 TUPE (Transfer of Undertakings [Protection of Employment] Regulations 2006). Guidance on these regulations is published by the Department for Business Innovation and Skills (pdf).
HMRC: As a charity you could be registered with HMRC for a number of purposes and new registrations will be needed for:
Anyone with whom you have a formal lease or contract: Leases and contracts are made with the existing structure of the charity and it is not within your power simply to transfer them to the new company charity. You will need to negotiate new lease or ongoing contractual agreements. Landlords are not always willing to transfer leases from an unincorporated organisation, where they can pursue individuals for unpaid rent, to corporate structures with limited liability. However, if leaseholds are vested in the new company charity by an order under section 16 of the Charities Act 1993, then this does not create a breach of a covenant or condition (section 97(3) of the Charities Act 1993) and so may provide an effective way to transfer leasehold interests. It may also be possible for the order to include leases of equipment or motor vehicles.
Others including DVLC, Television Licensing Authority, Data Protection Registrar and insurance companies: You need to make a list of every statutory body, rating authority or registrar with whom you have regular or periodic dealings and ensure that you notify them of the transfer, giving them details of the old and new organisations.
Your accountants/auditors: It is important to tell your accountants and auditors or independent examiner before you have set up the new company charity. If you tell them in good time, they should be able to help guide you through the process and help ensure that you make the transfer at the most appropriate time and in a manner to minimise your costs.
Pension scheme provider: If your charity operates a defined contribution scheme (a money purchase scheme) you should notify your pension scheme provider. It is usually a simple process to transfer the existing arrangement into a company. It is not common for an unincorporated charity to operate a defined benefit pension scheme . However, if your charity does operate a defined benefit pension scheme then the impact of incorporation can be more complex and it is likely that you will need to take professional advice prior to incorporation. Further advice is provided in section F1 of this guidance.
D4. How should the transfer to the new company charity be made?
The short answer
The transfer of the assets and undertaking to the new company charity can be made in a number of ways and you are likely to need to take advice as to the best way to do this. The most commonly used methods are:
You will need to discuss with your legal advisers the method to be used to transfer the assets and undertaking of the unincorporated charity to the new company charity.
The process for transferring the assets and undertaking to the new company charity will often depend on the unincorporated charity's constitution. For example, where an unincorporated charity has a dissolution clause or a power to amalgamate then the transfer of assets to a charitable company should be carried out under the dissolution clause or under the power to amalgamate.
Therefore, before you dissolve the unincorporated charity you need to check for any dissolution clause in its governing document. Occasionally, the dissolution clause may say that on winding up, any residual assets must go to a named body (sometimes a related national charity).
You should also check the powers set out in your governing document as very occasionally there may be a restriction that would prevent funds being used to pay for the incorporation process and the transfer of assets.
We accept that, unless specifically excluded by the governing document, charities have the power to make a grant or gift to another charity in furtherance of its objects. This power can be used to transfer all assets to the new company charity whether or not the unincorporated charity has a dissolution clause. However, this power must not be used to bypass any specific requirements of a dissolution clause.
If leaseholds are vested in the new company charity by an order under section 16 of the Charities Act 1993, then this does not create a breach of a covenant or condition (section 97(3) of the Charities Act 1993) and so may provide an effective way to transfer leasehold interests. It may also be possible for the order to include leases of equipment or motor vehicles.
It will also be important that you identify any endowments or other special trusts held or administered by the unincorporated charity as arrangements will need to be made, usually a scheme made by the Charity Commission, for the company charity to be appointed the corporate trustee of such funds.
A vesting declaration transferring all the assets of an unincorporated charity to a new company can be made under section 75E of the Charities Act 1993. In such cases the incorporation must qualify as a "relevant charity merger" as defined in section 75C and the merger must be entered in the Register of Charity Mergers kept by the Charity Commission.
Liabilities cannot normally be transferred except by a novation agreement which includes the creditors. Therefore liabilities should generally be settled before the assets of the unincorporated charity are transferred. Alternatively, the new company charity may act as agent collecting and settling outstanding debts of the unincorporated charity. If the new company charity is to act as agent then the arrangement should be confirmed in any transfer agreement, for example:
'…that from the transfer date the company shall undertake and perform all contractual obligations of the association. That the association appoints the company as its agent to collect all outstanding debts and discharge all outstanding obligations.'
D5. How is the old unincorporated charity removed from the register?
The short answer
You can apply to us for removal from our register using the online form . Permanently endowed charities and charities with designated land may also need a scheme to appoint the new company charity as corporate trustee of these funds.
In more detail
You should apply for removal using the online form after making the transfer of assets in favour of the new company charity.
If the unincorporated charity holds permanent endowment or designated land you will need to contact us, as a scheme is likely to be needed to appoint the new company as corporate trustee of such funds.
Although not a legal requirement, we recommend that, in all cases, you prepare a set of accounts for the period from the end of the previous financial year to the date of the transfer of assets. These accounts should show the final amounts transferred to the new company charity but if not a statement showing the final distribution of assets is desirable. You should also consider having these accounts, and any distribution statement, audited or examined, as appropriate, to provide funders and stakeholders with appropriate assurances relating to the transfer and activities in the cessation period.
After a charity has been dissolved or wound up, the charity trustees must arrange for the accounting books and records of the unincorporated charity to be kept for at least six years after the year they were made. The accounting records that must be kept include cash books, invoices, receipts and any similar record of the charity's financial activities.
E: Accounting and reporting
E1. Will our annual report and accounts as a company be different?
The short answer
As a company charity you must prepare accounts under company law and also follow the recommendations of the Charities SORP. You will also need to prepare a directors' report that will usually form part of a combined report with your Trustees' Annual Report required by charity law.
Company charities are governed both by charity law and company law. Like any other charity, a registered company charity must produce an annual report and accounts.
The annual report must meet the requirements for the charity of its size (either a simple report if below the audit threshold or full report if above). For those charitable companies which are classed as small under section 382 of the Companies Act 2006, the additional reporting requirements of a directors' report, over and above a trustees' annual report, are minimal. Company law also requires a business review (Companies Act 2006 section 417) to be included in the director's report (Companies Act 2006 section 415) of medium and large sized companies. We recommend that company charities prepare a combined trustees' and directors' annual report for administrative convenience.
Company charities must prepare their accounts on the accruals basis and comply with UK accounting standards and the SORP in order to meet the legal requirement for the accounts to give a "true and fair view." The option of preparing receipts and payment accounts is not open to company charities. The accounts must also include an Income and Expenditure account which is either prepared in addition to, or included within, the Statement of Financial Activities.
E2. With whom does the new company file its annual return and accounts?
The short answer
Companies formed under the Companies Act are registered with Companies House. A company charity is therefore subject to regulation under both company and charity law. Company charities must register and file an annual returns and accounts with both Companies House and the Charity Commission.
Our publication Charity Reporting and Accounting: The essentials (April 2009) (CC15b) sets out the requirements for filing an annual return and your accounts and trustees' annual report with the Charity Commission. These documents must be filed with us within ten months of your company charity's year end. Our website provides further details about how this information can be submitted on-line.
As a company, the charity must also meet its filing obligations with the Registrar of Companies at Companies House. When you are filing your company's first accounts and those accounts cover a period of more than 12 months you must deliver them to Companies House within 21 months of the date of incorporation or 3 months from the accounting reference date, whichever is longer.
Unless you are filing your company's first accounts, the time normally allowed for delivering accounts to Companies House is 9 months from the accounting reference date.
Further guidance is available from the Companies House website.
E3. How should the transfer of assets from the unincorporated charity be shown in the company's accounts?
The short answer
All unrestricted funds received by the company charity from the unincorporated charity on incorporation will be corporate property of the company. The value of net assets received will be recognised as income in the Company’s Statement of Financial Activities (‘SoFA’). The transfer of the trusteeship of any permanent endowment or special trusts to the company charity, to manage as corporate trustee, must also be recognised and shown in the SoFA.
The net assets transferred from the unrestricted fund of the unincorporated charity will be received as unrestricted funds of the new company charity and will generally be held as corporate property. The net amount should be recognised as income in the SoFA and should be shown on a separate line of the statement within the 'other income' category. A note to the accounts should explain the nature of this income.
The net assets transferred should be valued according to the principles set out in the Charities SORP which include a requirement that any investment assets should be shown at their market value. Assets that are not investment assets should normally be recognised at fair value to the new company charity.
Where an endowment fund or special trust is transferred to the company charity then the company charity should be appointed the corporate trustee of those funds. Any endowment fund or special trusts transferred to the trusteeship of the company charity should be recognised within the endowment or restricted income funds columns of the SoFA as required by the Charities SORP.
The assets of any endowment or special trust do not form part of the company charity’s corporate property, rather the company controls and manages those funds as the new corporate trustee. There are two distinct accounting approaches adopted for the recognition of such transfers:
We recommend that when the incorporation involves the transfer of the trusteeship of an endowment or other special trust that the accounting treatment is discussed with your auditor or independent examiner. Whichever approach is adopted, it should be explained in the accounting policy note to the accounts.
E4. Can merger accounting be used for the incorporation as a company?
In certain circumstances, it may be possible to regard the incorporation as part of group reconstruction and in such cases merger accounting can be used. Before adopting such an approach, the circumstances should be discussed with your auditor to ensure the criteria for merger accounting are met.
Where the transfer is by way of a merger of one or more charities with the new company charity then merger accounting may be adopted for the reconstruction. You will need to agree with your auditor whether the criteria for merger accounting are met. The accounting treatment will present the merged charities as though they had been operating as one organisation since their inception. Prior year comparatives in the Statement of Financial Activities ('SoFA') and Balance Sheet will also be based on the merged charities together. There will be no need to make any adjustments to any of the amounts transferred to take account of fair values as the use of historic costs is acceptable when merger accounting methods are used. The merger may be registered with the Charity Commission and this is a requirement where the process has involved a vesting declaration.
E5. What will be the year end date for the accounts of the new company charity?
The short answer
The first accounts are prepared to the end of the twelfth month following the company's incorporation but this date can be amended if an application is made to Companies House.
The date to which a company prepares its accounts is set on its incorporation. This date is called the accounting reference date. Often the new company charity will wish to prepare its accounts to the same date as that used by the previous unincorporated charity. Further information about this can be found on the Companies House website
You should explore with your accountant or legal adviser the possibility of making the first financial period of the new company charity longer or shorter so that you have the financial year end of your choice. Often trustees will wish to adopt the same year end date as that used by the unincorporated charity.
E6. What impact will the transferred assets have on gross income and the external scrutiny requirements of the company?
The short answer
Company accounts are prepared on the accruals basis and gross income will be the total incoming resources shown in the Statement of Financial Activities ('SoFA') for all funds excluding the receipt of any endowment. Therefore, where the transfers from the unincorporated charity are recognised as income in the SoFA of the new company charity then such amounts will form part of gross income for audit and independent examination threshold purposes.
Gross income is defined simply as a charity's gross recorded income from all sources including special trusts (restricted funds). The receipt of endowment is excluded from gross income due to the restriction placed on its expenditure.
For administrative purposes, we take gross recorded income to be the income recognised by the charity in its SoFA for the financial year. Where assets transferred from the unincorporated charity are recognised by the company charity as income in its SoFA, then it will form part of the charity's gross income for threshold purposes.
Income recognised as a result of the transfer from the unincorporated charity may result in the gross income of the new company charity exceeding the audit threshold only in the financial year of the transfer. Newly incorporated company charities which are affected by this can apply to us for exemption from audit under the Charities Act and opt for independent examination. To do this the company would, however, have to be a small company that qualified for, and claimed, audit exemption under Companies Act requirements.
We cannot grant a dispensation from audit when this is required by the Companies Act.
E7. Can comparative amounts in the accounts of the new company be shown?
The short answer
The company is a new entity and so any comparative amounts shown in the accounts will be for memorandum purposes only. However, such memorandum information can be helpful to users of accounts.
As the accounts will be for the first accounting period of a new company there is no legal requirement for comparative amounts to be provided for the financial year before incorporation. Some newly incorporated company charities may want to show the continuity between the two organisations and therefore include comparative figures in their accounts for information purposes.
Where comparative amounts are provided then it should be made clear in the accounting policy notes and in the trustees' report that this information is for memorandum purposes only and that the disclosures relate to the previous financial year when the charity was unincorporated. The column headings used in the accounts should clearly identify where memorandum information has been included.
F: Particular issues, risks and pitfalls
F1. Can any particular issues arise in relation to defined benefit pension schemes?
The short answer
If you operate a defined benefit pension scheme then incorporation as a company can result in certain pension liabilities crystallising. It will therefore be important to liaise with the scheme provider and the pension trustees before incorporation. It is likely that you will need to take professional advice in assessing the consequences of incorporation.
If your charity operates a defined contribution scheme (a money purchase scheme) you should notify your pension scheme provider. It is usually a simple process to transfer the existing arrangement into a company.
Where the scheme is a single employer pension scheme, the transfer of the undertaking to a company then preserving the rights of employees under the pension scheme could crystallise the full buy-out value of the scheme. In most cases parties to the scheme will seek to avoid this by the newly incorporated company charity agreeing to act as scheme sponsor. The pension scheme trustees may question whether the covenant (the legal obligation and ability to meet payments to the scheme, including on insolvency) has changed on this transfer and whether mitigation is needed for any detriment. Where the new organisation has no track record, it can help to explain how the new organisation has come into being.
Where the scheme is a multi-employer scheme incorporation as a company may be a cessation event. If so, the unincorporated charity's share of the pension liabilities - including any orphan liabilities (benefits in the scheme which are not related to any current sponsoring employer) will be calculated on a buy-out basis. In most cases, it will not be necessary to pay this liability in full immediately. Instead, the arrangement may be modified, subject to the agreement of the parties involved, in one of four ways depending on the circumstances. Full details of these arrangements are available on thethe Pensions Regulator's website.
A 'Question and Answer' pack dealing with issues arising in relation to defined benefit pension schemes is also available on our website.
F2. What happens if a legacy is received in the name of the old unincorporated charity?
The short answer
The Charities Act 2006 provided for the Charity Commission to set up a Register of Mergers. The setting up of a successor incorporated charity is treated as a merger. For charities that have merged, any future legacies in their name will usually take effect as a gift to the successor charity once the merger has been registered with the Charity Commission. This may not be the case where the terms of the legacy provide for an alternative recipient if the charity has ceased to exist.
In more detail
This means that legacies to charities that have merged are less likely to fail or require a scheme to apply the funds to the successor charity. For some, charity mergers inclusion on the register will be compulsory and for others voluntary; this will depend on the way the constituent charity(s) have chosen to transfer property to the successor charity. If a 'Vesting Declaration' (a deed which transfers the title to property including land and buildings) has been used, then registration is compulsory, if not then registration is voluntary.
Some legal advisers may consider that it is still necessary to preserve a 'shell charity' to safeguard the receipt of legacies. If a shell charity is maintained then the incorporation will not qualify for entry in the Register of Mergers.
In order to register the transfer as a merger:
you will need to complete our online merger notification form
before completing the form please read the notes that accompany the application and also our Operational Guidance - OG60 The Register of Mergers.
The official Register of Mergers is held and maintained by Charity Commission Direct. You can see a web version of the Register of Mergers which is updated monthly.
F3. Can permanent endowment be transferred to the new company?
The short answer
If the unincorporated charity holds permanent endowment (ie land that it must retain for the purposes of the charity or capital that it cannot spend as income) then the trusteeship of the endowment fund can be transferred to the new company charity as corporate trustee. A company will not be able to hold these assets as its own corporate property but it can administer the endowment as its corporate trustee.
It is possible for a company charity to hold permanent endowment on trust. However, the endowment is subject to specific trusts and is not available for all purposes of the charity. The endowment is not part of the corporate property of the company charity but is held on special trusts by the company charity, as corporate trustee, in accordance with the particular purposes of the endowment.
Where a company charity is administering endowment funds as a corporate trustee then the charity will account for those endowment funds within its own accounts but clearly distinguishing the endowments from the company charity's other funds. The Charities SORP provides detailed recommendation on accounting for endowment funds.
As the endowment does not form part of the corporate property, it cannot generally be expended by the unincorporated charity in its winding up. It will therefore be important to identify any endowments or other special trusts held or administered by the unincorporated charity as arrangements will need to be made, usually a scheme made by the Charity Commission, for the company charity to be appointed the corporate trustee of such funds.
F4. What happens to a trading subsidiary company?
The ownership of any trading subsidiary company can be transferred to the new company charity.
Most trading subsidiaries are companies limited by shares. Any company limited by shares is owned by its shareholders. The shareholders of the subsidiary of an unincorporated charity will probably be individual trustees who hold the shares in trust for the charity. The current owners of the shares can transfer their shares to the new company charity which will be able to own them in its own right. Details of how to transfer the shares are likely to be found in the subsidiary's articles of association and there may be a share transfer form with your statutory books.
Some trading subsidiaries are companies limited by guarantee with the charity as a single member. The guarantee member will therefore need to be changed to the new incorporated company charity. Details of how to do this should be contained within the subsidiary's articles of association.
G1. What further sources of information are available?
The Charity Commission produces a wide range of publications and website guidance giving information and advice to charity trustees and the general public relating to charity law and regulation. The full list of publications is available on our website.
We have listed here some of our guidance that might be helpful and have provided a link to the Companies House website that provides further information about forming and operating as a company.
Guidance on registering a new charity
This publication contains all the information and forms required to register a charity.
Registering as a Charity (CC21)
This publication explains what a charity is, how it is set up, when it can apply for registration, and how it can become registered.
Choosing and Preparing a Governing Document (CC22)
This publication gives guidance on the different types of governing documents a charity might use, our recommended standard provisions and the procedure for adopting and amending your governing document.
Collaborative Working and Mergers: An introduction (CC34)
This publication gives advice to charities on issues they should take account of when seeking to work collaboratively or to merge.
Companies House maintains the Registrar of Companies for England and Wales and incorporates and dissolves limited companies. Further guidance on incorporation and the accounting and filing requirements of companies registered at Companies House is available from their website.
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