Recently a bill was proposed in the Senate –BILL S-222 An Act to amend the Income Tax Act (use of resources), which will eliminate the “own activities” requirement of charities and change the rules for Canadian charities working with non-charities, both in Canada and abroad.   The bill was introduced on February 8, 2020.   In this brief note, I will highlight some concerns with the bill and specifically the reasonable person test.

 

Reasonable people can differ as to what a “reasonable person” will think.

 

We have a very good idea of what the rules are relating to foreign activities at the moment after having about 5 cases in different courts.  This relative certainty took about 20 years to accomplish.  Some may not like the rules but they do allow Canadian charities, if they have appropriate objects, to work with almost any group inside or outside of Canada.

 

This new formulation provided in the bill may take another 5 cases and a further 20 years to know how the “reasonable person” test will affect grantmaking to non-qualified donees.

 

 

Analysis of provisions

 

These proposed changes are moving from looking at purposes and “own activities” and instead move to “ensure its resources are used exclusively for a charitable purpose” but not being concerned with the actual activities.

 

It provides that charities will need to take “reasonable steps to ensure that those resources are used exclusively for a charitable purpose in accordance with subsection (27).”   You might think who can be opposed to “reasonable steps”?

 

Subsection (27) talks about reasonable steps to ensure its resources are used exclusively for a charitable purpose if

(a) before providing resources to a person who is not a qualified donee it collects the information necessary to satisfy a reasonable person that the resources will be used for a charitable purpose by the person who is not a qualified donee, including information on the identity, experience and activities of the person who is not a qualified donee; and

(b) when providing resources to a person who is not a qualified donee, it establishes measures, imposes restrictions or conditions, or otherwise takes actions necessary to satisfy a reasonable person that the resources are being used exclusively for a charitable purpose by the person who is not a qualified donee

 

 

One way to view this is that a Canadian registered charity needs to do only some very basic due diligence and then it can transfer funds to others easily as long as a reasonable person would think the funds are being used for charitable purposes.  There is no requirement to worry about the actual activities that might or might not have been conducted with those resources.  Perhaps a reasonable person would always assume that if a charity or other group says it is interested and working on a purpose that they should be believed?   Perhaps one can argue that this is more similar to the requirement for a non-profit that is not a charity.  But that might be a simplistic way of looking at it and I doubt this is the view that the courts will have.

 

Yes, in the end it is a judge that decides what a reasonable person thinks and not lawyers or even CRA.   Now admittedly many of these judges are older and more male than the rest of society.    Therefore, back to the point about work for lawyers, there may be a need for extensive legal opinions from some of the largest law firms to opine on what steps a reasonable person would take.  These legal opinions may also end up being useless as we have seen recently in how judges look at legal opinions relating to abusive gifting tax schemes.  When charities face fines of hundreds of millions because they did not meet that “reasonable person” standard will they sue the law firms who provided the opinions?

 

 

 

What restrictions or conditions would a “reasonable person” require? 

 

For all the attempts to say that we should modernize the ITA, this bill is proposing a test that was established in 1837 by the English Courts be used.   The case in England stands for the notion that even if you are acting honestly and in good faith, that is irrelevant, and the defendant needed to “adhere to the rule which requires in all cases a regard to caution such as a man of ordinary prudence would observe”.  What you foresaw is irrelevant.  It is what a reasonable person would have seen.  Although the standard is now referred to as a reasonable person much of the case law refers to a “reasonable man”.

 

According to SCC case Ryan v. Victoria (City), [1999] 1 SCR 201), “what is reasonable depends on the facts of each case, including the likelihood of a known or foreseeable harm, the gravity of that harm, and the burden or cost which would be incurred to prevent the injury.  In addition, one may look to external indicators of reasonable conduct, such as custom, industry practice, and statutory or regulatory standards”.

 

When you have reasonably foreseeable risk, the likelihood of severity of the damage is great, the cost of preventing injury through better systems is not high, then the expectation may be very high in terms of the conduct of the charity.  Although the courts will also look at the social value or public benefit that the party was trying to achieve, it is only one of many factors.  When dealing with an emergency the courts may provide some slack to a passerby who tries to help someone in need, but whether that same leniency would apply to an organization that deals with medical assistance as they are supposed to be experts – probably not — and as we discuss below you may be held to a higher standard.

 

There are exceptions to the general “reasonable person”, including “superior skill and knowledge”.  Those with superior skill and knowledge will be held to a higher standard.  This includes professionals/experts, lawyers, accountants, doctors, engineers, social workers, nurses, etc. So charities may want to start letting go those people who have significant skills and especially accreditations, etc.!   For example, best not to have lawyers involved with any of the foreign activities!   Lawyers will be held for example to the standard of a reasonably competent lawyer, not a reasonable person.   All lawyers, no matter how inexperienced etc, will be held to the same standard as the reasonably competent lawyer.   Same with the other people who have “superior skills and knowledge”.

 

It has been argued that the “reasonable person” standard is problematic and very difficult to determine ahead of time – because in the end, a judge needs to make the determination and unconsciously, they may apply a subjective standard based on their own experiences.   There is also hindsight bias where people tend to think that things that have happened may be more predictable than what was actually the case.

 

Keep in mind that the “reasonable person” is not the “average person” and has to be appropriately informed, capable, aware of the law, and fair-minded.   It can also take into account available resources – so a larger organization may be held to a higher standard when it conducts foreign activities or works with a non-qualified donee in Canada than a normal person without such resources.

 

A further point is that registered charity is not actually an individual or “person”.   The “reasonable person” test may work when dealing with a negligence claim, that is probably covered by insurance, for a few hundred thousand dollars. However, in the case of a charity, if the charity fails the “reasonable person” test with respect to providing any funds to non-qualified donees the consequences are not be just paying a fine but may be revocation of charity status.  For many organizations, that is essentially a death sentence.

 

 

There are many questions as to what that reasonable person would do when funding a non-qualified donee:

 

  1. How much due diligence would be expected from a charity before providing funds to a non-qualified donee? Would a reasonable person do google searches on each of the organization, its board and senior management? Would that due diligence be greater if the non-qualified donee is in a foreign country?
  2. If there is material easily available in a foreign language dealing with the non-qualified donee would a reasonable person expect that the charity has reviewed that material?
  3. Would a “reasonable person” expect references from other funders before funding a group?
  4. How would a reasonable person deal with a $5,000 transaction versus a $500,000 or a $5 million transaction?  Would there be a much higher expectation of due diligence and oversight when more funds are involved?
  5. Would a reasonable person be someone who knows nothing about international philanthropy or would it be a reasonable person who understands the complexity of international grantmaking and financial controls?
  6. Would a reasonable person have different expectations depending on the purpose of the grant? Opera, vs. poverty relief etc.
  7. Would a reasonable person think that the standard would be much higher if this is the first time you are funding an organization or you have not recently funded them?
  8. Would a reasonable person expect that if you have had problems with a non-qualified donee in the past (such as not providing reporting on previous funds being disbursed) that you should not provide further funding in the future?
  9. Would a reasonable person think a charity needs to have a written agreement?
  10. What would a reasonable person think should be in such a written agreement?
  11. Would a reasonable person think you need reporting from the non-charity? How often would a reasonable person think you need reporting? How comprehensive would such reporting need to be?
  12. Would a reasonable person think that receipts are needed?
  13. Would a reasonable person think it is acceptable to transfer valuable assets to a small organization in a foreign country?
  14. Would a reasonable person think that Canadian charities need to comply with foreign laws?
  15. What would a reasonable person expect If a non-qualified donee does not comply with any requirements imposed by the charity then to what extent should a charity try to recover lost funds?
  16. Would a reasonable person be prepared to take the risk of funding activities in places where there is endemic violence, or there is a major disaster, or there are Canadian sanctions in place?
  17. If a non-qualified donee is not fully complying with an agreement in place, at what point would the “reasonable person” think that the agreement needs to be terminated?
  18. From a timing point of view, at what date are the views of the “reasonable person” relevant? Is it a reasonable person today or when the activity took place?

 

 

What steps would a reasonable person expect from a charity to prevent grants funds provided to non-qualified donees to be used for illegal purposes/activities or partisan activities? Perhaps none because only the purpose matters and not the activities? If the illegal activities or partisan activities advance the charitable purpose, then maybe they are acceptable? For example, if a charity has a purpose of advancing Christianity and it thinks that preventing abortions is part of that purpose, they could fund a group in a foreign country for the purpose of preventing abortions and that group may decide that the best way to prevent abortions is to support candidates for office who are avowedly Catholic and opposed to abortions.  In the US expenditure responsibility rules, there are certain general requirements but also a long list of impermissible activities. This reasonable person test does not have the same protections as the US rules. It appears the ability to grant funds to non-qualified donees can be used as a way to essentially remove many of the rules that would apply to how Canadian charities conduct their activities.

 

At the moment there is great similarity between the rules for Canadian charities dealing with non-qualified donees in Canada compared to outside of Canada.  With the distrust that many people have relating to foreign activities (as shown by numerous public opinion surveys) the “reasonable person” may expect far more oversight for an activity outside of Canada than a comparable activity in Canada. If this is the case the requirements for funding a group outside of Canada could get far more difficult.

 

When a reasonable person spends their own money on building a house, what sort of oversight do they have?  It is often very significant.  Will they think that charities should have that level of oversight, like interviewing many contractors, visiting the project every couple of days, checking every receipt, etc..

 

In a world where people vote for demagogues and over 30% of Canadians believe that charities should not spend any funds on “overhead” such as fundraising or administration, it might be shocking to learn what a “reasonable person” thinks.

 

In other words, whether you keep your charity status is based on whether a reasonable person thinks what you did was adequate?  In the past, you needed to ensure that your “own activity” had 8 measures of control in place in a structured arrangement which seems quite straightforward compared to this reasonable person test.

 

We can expect about 10-20 years of uncertainty about foreign activities and working with intermediaries in Canada.   On the bright side – lots of work for lawyers to provide opinions on.  Lots of continuing education courses led by lawyers on the “new rules”.

 

Here are all 4 notes:

Will changing structured arrangements into a reasonable person test help the charity sector? – Part 1 – The preamble

Will changing structured arrangements into a reasonable person test help the charity sector? – Part 2 – The Main Provisions and various general concerns

Will changing structured arrangements into a reasonable person test help the charity sector? – Part 3 – The Reasonable Person – lots of questions

 Will changing structured arrangements into a reasonable person test help the charity sector? – Part 4 – Charitable purposes and Conclusion