This article is one of a series of articles focusing on the main areas of change envisaged by the Charities Act 2022 (the Act), which was passed in February 2022. This series is intended to provide a helpful resource in considering these changes and their implications for you and your charity.
Charity mergers are increasingly common, whether their aim is to combine successful work and make it more effective, or to save projects which are not sustainable on their own. Separately, some unincorporated charities, like trusts, choose to transfer their operations to new corporate charities, which are established to take over their work. This limits the potential liability of the people running the charity and is known as incorporation. Although the aims are different, the underlying legal process is the same. In both cases, the assets and activities of one or more charities are usually transferred to another, creating a single body.
One of the goals of the Act is to reduce the need for charities which have merged or incorporated in this way to maintain the empty charity as a non-operational shell after the transfer of assets has taken place. Historically, this has been done, in whole or in part, to save legacies which might otherwise fail. Charities which have already taken one of those steps might therefore want to consider whether the new law will help them to streamline their post-transfer arrangements.
Although the rest of this article refers to mergers, it applies equally to incorporations.
Under the Act, provided a merger has been entered on the Charity Commission’s register of mergers, a legacy to a charity which has transferred its assets to another will be treated as a gift to the new / merged body, even if the charity named in the will has been wound up.
Shell charities: the reasons
It might seem counter-productive to go to the trouble of creating a single charity only to retain two. However, there are two main reasons why charities might choose not to wind up an empty charity and instead to keep it on as a shell, which continues to appear on the Charity Commission’s register.
First, bank accounts cannot be transferred between charities, so some charities choose to keep the shell in place to receive regular payments from donors, which are then passed across to the successor body. This avoids the need to ask donors to enter into new arrangements, or at least preserves donations from donors who do not respond to requests to change, but want to keep on giving.
Secondly, and more importantly, difficulties can arise with gifts to a transferring charity which are made by will. Gifts of that sort take effect at the date of death, rather than the date of the will. Accordingly, if a will is made when a pre-merger charity is still operational, but by the time of the death, that charity has transferred its assets elsewhere and been wound up, a legacy to it can fail on the basis that it no longer exists to receive the gift. If that happens, the legacy will pass to one of the other beneficiaries of the will.
There are various grounds on which the successor charity might be able to argue successfully that the legacy should be interpreted as being made direct to it. These largely turn on whether the testator intended to benefit the pre-merger charity specifically (the gift will fail) or simply to support its charitable purposes more generally (the gift might survive). However, this is a technical and fact-specific area. The argument can quickly become complex and expensive, particularly if faced with other beneficiaries who stand to gain significantly from the outcome. In practice, many charities have chosen to avoid this by simply retaining the transferring charity as an empty shell which can receive the legacy and pass it across to the successor body.
Shell charities: downsides
Shell charities can be useful, but they bring challenges of their own. They continue to create accounting and administration costs. They can also confuse members of the public who are searching the register. If the trustees do nothing, the shell charity will keep its old charity registration number and its own page on the Charity Commission website, which is not connected with the merged charity. If the trustees ask the Commission to link the two charities, the shell charity will take on the registration number of the merged charity and appear on its webpage, but might not be easy for executors to locate. The Charity Commission can also remove dormant charities from the register and, although such a charity will continue to exist unless it is formally wound up, it will, again, not be easily identifiable by executors searching the register.
The register of mergers
The Charities Act 2006 introduced the register of mergers to deal with the legacy issue (but not with the bank account issue). The register is kept by the Charity Commission and contains details of charities which have merged. The intention was that, if a merger was registered, a legacy to a transferring charity which took effect after the date of registration would automatically be treated as a gift to the merged body. However, there is a gap. A merger can only be entered onto the register if the charity which has transferred its assets away has completely ceased to exist. The problem is that if a will specifies, as many do, that the receiving charity must continue to exist at the date of death (rather than simply naming the charity without more detail), the legacy will fail, even though the merger has been registered.
The Act closes the gap by providing that, if a transferring charity which has been wound up would have received a legacy if it had continued to exist at the date of death, that legacy will be treated as a gift to the merged charity. Therefore, even if the will says the charity must continue to exist, the legacy will still pass across to the successor body.
The change will apply to any legacies where the death happens after the relevant sections of the new Act have come into force, regardless of when the will was made or when the merger was registered. However, it will not save gifts which have already failed.
Testators will still be able to make wills which expressly state that a legacy should fail if a charity has merged, but the condition will need to be carefully drafted. The intention is that legacies to merged charities should only fail if the testator has made a deliberate choice.
It should be noted that, if a will contains a legacy which is intended to be held as part of a charity’s permanent endowment, these provisions do not apply (and never have done). In most cases, the permanent endowment will continue to exist post-merger because the restriction on spending capital means it needs to be kept legally separate from general assets. In those cases, the legacy should take effect, as it would have done in the past. Of course, if the permanent endowment has been released and spent or combined with other assets in a new permanently endowed fund, that might not be the case and specialist advice will be needed.
It is often beneficial to leave a shell charity in place for a short period after a merger while the trustees make sure that all of the activities have been properly transferred, donors have been informed and any residual assets and liabilities have been identified and properly managed. However, long term maintenance of a shell charity can be an irritation. In practice, the costs are usually fairly low (though greater for a company which also has Companies House filing requirements in addition to Charity Commission obligations). On the other hand, the potential for confusion is real. At the moment, this is exacerbated by the fact that there is no link between the main Charity Commission register and the register of mergers. However, the Charity Commission is hoping, outside the changes suggested by the Act, to create a link between the two registers so that executors searching for a charity beneficiary are easily able to follow the line between the pre and post-merger charities.
Charities which are expecting significant legacy income might decide that the range of different outcomes which can arise from a contested estate continue to make it worthwhile for them to hold onto a shell charity. However, others, which have retained the shell out of an abundance of caution might now decide that the gap is sufficiently small for them to justify its formal closure, particularly if a reasonable length of time has elapsed since the merger and they have a good sense of whether any legacies are anticipated and how they might be managed.
Of course, individuals who have left a legacy to charity and actively want to prevent it passing to another body in the event of a merger may wish to review their wills to make sure the current drafting achieves their aims, as it may no longer do so.
According to the updated implementation plan, the merger provisions of the Act will be brought into force by the end of 2023.
 Other models are available (eg appointment of one charity as the sole trustee or corporate member of another), but they are used less frequently.
If you require further information about anything covered in this briefing, please contact Hannah Whyatt, or your usual contact at the firm on +44 (0)20 3375 7000.
This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.
© Farrer & Co LLP, November 2022