OPERATIONAL GUIDANCE

ENDOWED CHARITIES: A TOTAL RETURN APPROACH TO INVESTMENT

APPLICATION OF THE POLICY

OG 83 B1-20 November 2001

Purpose: This guidance sets out the factors we will consider before granting trustees a power to flexibly allocate investment returns and explains the way in which the power will be granted.

Divisional responsibility

For action:

Charity Support Division

For information:

All operational divisions

Contents

1. Factors to be considered before granting the power
2. How will the power be granted?

Meaning of expressions - list of Glossary terms used in this Guidance
Index to further related information

1. Factors to be considered before granting the power

1.1 There is actually a trust for investment (capital)
1.2 The unapplied investment return is identifiable
1.3 Having the power is in the charity's interests

Before we grant trustees the power to allocate investment returns at their discretion, we must be satisfied that:

1.1 There is actually a trust for investment (capital)

In order to adopt a total return approach to investment, there must actually be a trust for investment (capital) in the first place. This means that the charity should have assets which are held on trusts that dictate that they should be invested to produce an investment return, which should then be applied for the purposes for which the charity was established.

If all the resources of a particular charity are held on a trust for application (income) for its purposes, then a trust for investment (capital) does not exist in the charity. The question of allocating part of the investment return to the trust for application (income) does not therefore arise.

1.2 The unapplied investment return is identifiable

In order to adopt the total return approach to investment, trustees must first be able to make a distinction between the resources they hold which represent the unapplied return from the investment of gifts, and the resources they hold which represent the value of the gifts themselves when made, and other accretions. This distinction needs to have been made before the process of allocating part of the investment return to the trust for application (income) can actually be performed.

We will not expect trustees to carry out an elaborate tracing exercise in this respect, as this will often not be practical - particularly in the case of that part of the unapplied investment return which takes the form of investment gains, rather than the form of retained investment income. Under the standard rules investment gains will not have been distinguished from the resources which represent the gifts themselves. In many cases trustees will have to make a reasonable estimate as to which part of their overall resources represents the unapplied return from the investment of the gifts which they have received.

We do not recommend any particular basis for making the "reasonable estimate". How far back in time it is reasonable to go in making the analysis will depend on the charity's circumstances, the amounts involved, the state of the charity's records and so on. We recognise that it will not usually be practical to go back to the inception of the charity. Once the estimate has been made, any remaining resources will be assumed to represent the gifts themselves, together with any accretions which are not the result of investment.

Trustees can seek our views about the basis on which they have to come to a "reasonable estimate" as to which part of their overall resources represents the unapplied return from the investment of gifts which they have received. They should provide us with written information clearly explaining their approach.

Once trustees have decided which of the resources they hold represent the unapplied investment return, and which resources represent the value of gifts and other accretions, they will not be able to go back and alter this decision.

1.3 Having the power is in the charity's interests

The trustees should write to us setting out clearly their views as to why such a power would be beneficial to the charity. In the absence of any other information we should normally accept the trustees’ conclusions.

A copy of the draft Order should be sent to the trustees for consideration before it is made. The trustees’ attention should be drawn to the directions in the draft model Order and to the Commission’s Guidance set out in OG 83. The trustees should confirm in writing that they have considered the draft Order and the guidance.

If there is any indication that authorising a total return approach to investment might be opposed by the charity’s founder (if alive) or other supporters of the charity we should request the trustees to give suitable public notice of their application to us for this power.

2. How will the power be granted?

2.1 Model Order
2.2 Scheme
2.3 The use of a charity's power of amendment
2.4 Level of authority

2.1 Model Order

The model Order to be used to grant trustees authority to allocate, at their discretion, part of the charity’s investment return to the trust for application (income) can be found at OG 83 C5.

2.2 Scheme

It will only be necessary to provide authority by Scheme if a charity’s governing document contains a specific provision for the allocation of investment returns which effectively prohibits the use of the total return approach. For example, such a provision might say:

"My trustees shall not apply any part of the gains received from the disposal of shares or other investments comprised in the trust fund for the purposes of the charity."

Standard clauses in the model Order should be used in the Scheme. See OG 83 C5.

2.3 The use of a charity's power of amendment

The power to allocate part of the investment return in the way outlined in this guidance is an administrative power, and trustees may be able to make use of a suitable power of amendment in a charity’s governing document to give themselves this power.

We would have no objection to the use of a suitable power of amendment in this way. In such circumstances we would encourage trustees to include the safeguards contained in our model Order. In the case of a registered charity using a power of amendment to give the trustees such a power, a copy of the minutes of the meeting at which the amendment to the governing document was agreed and a certified copy of the amended governing document should be forwarded to the Commission.

Some trustees may (even where their charity’s governing document contains a suitable power of amendment) prefer to approach us for an Order to give them authority to operate a total return approach to investment. They may have reservations about the validity of this method of acquiring authority to operate a total return approach to investment; trustees are, of course, fully protected if they rely on an authority conferred by us under section 26 of the Charities Act 1993. They may also have concerns about the potential of a power conferred in this way to contravene the statutory rules that prohibit the excessive accumulation of income (on the basis that the treatment of "income" as part of unapplied total return may legally be regarded as "accumulation"). Whilst, in our view, the treatment of "income" as part of unapplied total return is not legally an accumulation – see section 1 of OG 83 C3 - these statutory rules do not in any case apply to a power conferred by the Commission.

We will not press trustees to make use of a power of amendment and will be willing to make an Order in the normal way.

2.4 Level of authority

PB4s who have been appointed Assistant Commissioners can give authority to the adoption of a total return approach to investment in the way outlined in the model Order.

The following words and phrases are defined in the Glossary of Terms:

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Governing document
Order
Permanent endowment
Scheme
Trustees

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