OG545-2 Expenditure and Replacement of Permanent Endowment

Last reviewed:
14 March 2012
Last updated:
7 February 2014

Policy Statement/Overview

This guidance is about spending permanent endowment where we consider that it should be replaced. OG545-1 explains how, under certain circumstances, we can give trustees the power to spend permanent endowment belonging to their charity, without the need to replace it. Conversely, we recognise that there may be circumstances where trustees' plans include the use of permanent endowment but they do not have the power to spend it without replacement or it will not be appropriate to use the power without requiring replacement. Where replacement is required we must give authority to spend the permanent endowment on terms of replacement using the power at section 105(6) of the Charities Act 2011.

As with all our casework our approach to these cases should be proportionate and risk based. We expect replacement cases to be the exception but, in general terms, we should be supportive about such requests unless we have doubts about affordability or concerns about the effects of the proposals on the beneficiaries. We should also bear in mind that borrowing from permanent endowment will probably be cheaper for the charity than borrowing from some other source such as a bank or building society. This is because replacement will be authorised on a pound for pound basis without payment of interest.

This guidance does not apply to charities that have adopted the Total Return approach to investments.

Summary of the guidance

Section B1 sets out how an application to spend permanent endowment, where replacement is required, should be made and how we assess such applications.

Section E1 considers our power to make section 105(6) Orders for replacement of permanent endowment and when we might apply this power.

Section E2 sets out our policy on the terms for replacement of permanent endowment and when we might decide to waive the need to replace even though we may need to authorise the expenditure.

Casework Guidance

B1 Case handling

B1.1 Applying for our authority

When trustees approach us requesting authority to spend permanent endowment (outside of the 281 to 291 provisions of the Charities Act) and to make arrangements for replacement, they should set out:

  • why the provisions of sections 281, 282 and 288 are not appropriate to use;
  • the purpose of the expenditure and whether this expenditure will have an effect for a number of years (ie an estimate of "life expectancy" of the proposed work);
  • the benefits that the charity expects to derive from spending the permanent endowment;
  • the amount of permanent endowment the trustees want to spend;
  • why permanent endowment needs to be used and what other funding options have been explored;
  • how the needs of the existing and future beneficiaries have been balanced;
  • the period over which the trustees have planned to replace the permanent endowment and by what method (eg setting a sum aside annually) ;
  • that replacement is possible in their view and based on the charity's finances; and
  • where appropriate, why the trustees consider that replacement should not be made.

The trustees should also supply the charity's accounts for the three preceding accounting periods, where we do not already have them. The accounts will need to confirm the trustees opinion of the financial viability of the charity and its ability to replace the permanent endowment spent.  

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B1.2 Our consideration of the application

Our first action when considering an application of this kind is to check:

  • if the property concerned is actually permanent endowment; and
  • whether there is any express prohibition against expenditure either in the charity's governing document or, if different, the document that transferred the property to the charity. (Cases where there is an express prohibition are rare.)

The examples of wording in OG545-1 may help when trying to decide whether permanent endowment was created within governing documents. lawyer_refer

Legal advice should be taken if there is doubt about the existence of permanent endowment.

 

Where we are unable to make a decision on whether property constitutes permanent endowment we can make a 'Tam Valeat' Order. These are sometimes known as 'comfort' Orders where we give our authority if and in so far as it is needed in order to remove any doubt that the trustees are acting within the law.  

Section E2 sets out our policy when considering trustee proposals in terms of:

  • balancing current interests with future needs;
  • the terms of replacement;
  • the period of replacement;
  • where we might decide that replacement is not needed.

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B1.3 Assessing the information

Caseworkers will need to assess the information provided and, whilst we take the view that the trustees are in the best position to judge what is in the best interests of the charity, we still need to be satisfied about the proper use of charitable funds with an ability to repay as appropriate. Therefore, we must raise concerns where:

  • it appears that the expenditure is not clearly related to the overall purposes of the charity;
  • if the expenditure favours existing beneficiaries at the expense of future beneficiaries, or vice versa, without suitable justification, this includes:
    • the income and assets of the charity, the numbers of beneficiaries and how their needs are met.
  • the charity has a record of poor financial management, which may include:
    • the expenditure proposed is to cover losses already caused by poor financial management;
    • projects have failed in the past due to poor planning or inaccurate costings;
    • unreliability in meeting our accounting and reporting requirements.
  • previous recoupment or replacement Orders have not been fulfilled;
  • there have been previous non-compliance issues - whether we have had any particular cause for concern on the way the charity has been run that has caused us to open a regulatory compliance case, which may have an impact on the proposal;
  • there is sector impact and whether those who would be adversely affected by what is proposed and should reasonably be allowed to make representations or whether the public profile of the charity is such that there could be a wider local or national interest;
  • the proposals are complex thereby creating greater risks to charity property. 

lawyer_referLegal and/or accountancy advice should be taken where we have doubts about the nature or validity of proposals.

 

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B1.4 Varying old Recoupment Orders

Occasionally we are asked to review old accumulation Orders where the trustees may not have fulfilled the terms of that Order. Much will depend on the terms of that Order but we may decide to terminate the Order where we are satisfied that a sum, equivalent to what had been spent, has been replaced. Where the original sum spent has not been replaced we may decide to:

  • vary the Order to make it easier for the trustees to manage the repayments; or
  • terminate that Order where the trustees can make a case to us that it is in the best interests of the charity to cease the repayment.

We will not authorise the trustees to spend that sum using the provisions under sections 281, 282 or 288.

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B1.5 Authorised Officer powers

Authorise for an Order under section 105(6) should be given in line with our guidance in OG702 Authorised Officer Powers.

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Legal,Policy and Accountancy Framework

E1 Our powers and when we might use them

We expect that applications to the Commission to authorise spending of permanent endowment will only be used in exceptional circumstances as charities will more commonly use the powers in section 281 and 282.

This section sets out the legal basis for those cases where trustees want to use permanent endowment but the powers contained at sections 281, 282 and 288 to spend permanent endowment are not available or not appropriate and therefore we would need to authorise the expenditure and consider the question of replacement.

E1.1 Our power to make an Order under section 105

An authority to expend and replace permanent endowment will be made by an Order under section 105 of the Charities Act 2011 on the basis that we consider it would be expedient in the interests of the charity to do so. Our power to make section 105 Orders is explained in full in OG501. In the context of expenditure and replacement of permanent endowment the Act allows us to:

  • authorise trustees to carry out an act that they otherwise may not have the power to do - section 105(6) of the Act specifically covers the situation where permanent endowment is to be spent and replaced.

We can only make a section 105(6) Order if:

  • we are satisfied that it is in the best interests of the charity, ie that the decision of the trustees to spend permanent endowment serves the best interests of the charity and the decision is reasonable in the circumstances of the case.

We cannot authorise the trustees under section 105 where:

  • to do so overrides an express prohibition in the charity's governing document or the document by which the charity acquired the property (if different from the governing document). Nor can we use it to change the purposes of a charity.

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E1.2 When might we use this power?

It may be appropriate to use a section 105(6) Order where the trustees are not able to use the powers under sections 281, 282 and 288 to spend all or any part of the charity's permanent endowment. This may be because:

  • we and/or the trustees are not satisfied that the requirements of the section 281 to 291 powers are met, for example, where the social and economic circumstances have not changed sufficiently for us to concur with a resolution under these provisions.

Occasionally, we may also encounter cases where trustees can use the powers to spend the charity's permanent endowment but have made the decision that they want to preserve it long term. This is the trustees' decision and we should be prepared to make a section 105(6) Order where the trustees can make the case that it is expedient in the interests of the charity. 

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E1.3 When might we use a Scheme rather than section 105(6)?

There may be circumstance where we cannot use section 105(6) but may nevertheless be prepared to authorise spending permanent endowment on replacement terms. This will usually happen in cases where there are good grounds to:

  • lift an express prohibition, for instance, the sale of an almshouse (where sale is expressly prohibited) in order to refurbish remaining properties; 
  • spend the proceeds of functional permanent endowment outside of its intended purposes, for instance, selling part of a recreation ground to fund improvements to buildings that have a wider use.

See OG500 and OG501 guidance on Schemes and Orders.    

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E2 Our policy when considering trustee proposals  

E2.1 Balancing current and future interests

The trustees must act in the best interests of the charity and consider the needs of both the existing and the future beneficiaries when deciding whether spending permanent endowment serves those best interests. They are required to have a balanced view of what they want to achieve now and in the future and how to do it. We consider that the trustees are best placed to judge the charity's interests and we would be concerned only where we do not think that the balance has been reasonably justified.

That said, before the application is made to us we expect the trustees to have explored any other options that may be open to them, such as accumulated income, grant funding or interest free loans.

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E2.2 The terms of replacement

Where we authorise replacement we usually expect the replacement to be

  • on a pound for pound basis;
  • by annual payments from the charity's income;
  • over an agreed number of years.

The replacement conditions will be specified in the Order and will also make provision for us to alter the terms by letter where the trustees submit that they can make larger repayments. 

accountant_referOther methods of replacement suggested by trustees can be considered and approved with advice from an Accountant. Such alternative methods might include replacing permanent endowment by using a compound interest method, either by setting a capital sum aside to be invested with the resulting income also being invested, or by setting aside regular payments that are invested along with any accruing interest.

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E2.3 The replacement period

In approving any replacement terms we expect the trustees to provide evidence that the charity can meet the repayment requirements and we will not authorise the expenditure without this information.

Where the permanent endowment is to be used for building and repair work we expect the trustees to give us an indication of the life expectancy of the building or repair work. This is of direct relevance to the replacement period as that period should not be longer than the life expectancy of any work carried out and should be shorter if the charity can afford higher payments.

If the purpose of the expenditure is to provide a new building with a long life expectancy we can agree a longer replacement period than would be the case if the purpose was more short term, or in some cases waive the replacement altogether.

 

E2.4 Waiving the need for replacement 

In some cases it will be reasonable for us to waive replacement altogether. We would do this where:

  • the permanent endowment is being used for a purpose that has a long life expectancy; and
  • the trustees request it.

This usually applies where the endowment is used for building work. We would consider waiving the need for replacement for new buildings and extensions to existing buildings where the charity expects to use them for a lifetime (75 years or beyond). This contrasts with using funds to redecorate a building, which may be in the best interests of the charity but would have a relatively short life span, for which we would require replacement of the permanent endowment spent. 

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E2.5 Waiving the replacement because the charity is unable to repay

There are cases where we might waive replacement of permanent endowment where the charity cannot afford to make repayments. This could happen where a charity's finances are so poor that its only hope of a long term future would be to spend permanent endowment but its income will not be sufficient to afford replacement. For example: 

  • A village hall sold some land. The proceeds of that sale represented functional permanent endowment and were invested to produce an income to fund maintenance costs for the hall. Over a number of years the income from that fund was insufficient to keep up with maintenance and the hall found itself in a very bad state of repair with its use declining. The trustees proposed to spend the whole of the endowment fund to bring the hall back to a suitable state of repair but lacked enough income to replace the permanent endowment.

Any decision to waive replacement would need a thorough examination of the charities finances and general situation. Advice from legal and/or an accountant should be taken.

The decision to waive replacement must:

  • be in the best interests of the charity; and
  • balance the needs of current and future beneficiaries;and
  • be reasonable in the circumstances.

Even where the charity cannot afford to replace permanent endowment it would need to show that it had a viable future.

reviewableIt is possible that evidence presented indicates we should not authorise the expenditure and the best option would be to sell the property and apply the income on a cy-près basis. This must be done by means of a scheme. If we do not authorise the expenditure we must write to the trustees to explain our decision. That decision is one that may be challenged at the First-tier Tribunal (Charity).

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Question and Answer

F1 Under what circumstances would we use section 105(6) to require replacement of permanent endowment?

Sections E1.1 and E1.2 set out what our power is and when we might use it.

F2 Why do we ask for replacement of permanent endowment?

We need to ensure that trustees balance the needs of existing and future beneficiaries and there may be particular restrictions within the trusts that prevent spending without replacement.

F3 Do we always insist on replacement?

No. Waiving the need to replace permanent endowment is considered at E2.4 and E2.5.

F4 How long do we give trustees to replace the permanent endowment that has been spent?

There is no set period but replacement should take place in as short a time as is possible within the restrictions of the charity's finances. The replacement period should not be longer than the lifespan of any work carried out for which permanent endowment was used.