The Charities (Protection and Social Investment) Act 2016 – an update

Power to make social investments

Social investment has become something of a buzzword in recent years, having won fans in some parts of the sector, with others looking on it as a dilution of the essence of charity. Nevertheless, Governments of all colours have shown enthusiasm for it and, following a consultation by the Law Commission, it was decided that charities should be given an express statutory power to make social investments – not least because it was unclear whether, legally, charities already had a power to make them.

The new statutory power is available to all charities other than Royal Charter bodies and charities created by legislation. It will not override constitutional provisions: a charity whose governing document contains a power to make social investments will have the statutory power as well; but the statutory power can be restricted (or even excluded) by the provisions of a governing document.

The Act defines a social investment as a "relevant act" made with a view to both (a) directly furthering the charity's purposes, and (b) achieving a financial return for the charity, with a "relevant act" being either:

• an application of the charity's funds or other property; or
• taking on a commitment in relation to a liability of another person (such as a guarantee) that puts the charity's funds or other property at risk of being applied or used.

In both cases, the investment will be deemed to produce a financial return if the funds (or other property) are not entirely lost to the charity.

The definition makes it clear that it is the intention of the trustees that makes something a social investment, but the Act places certain limits on the power and imposes duties on trustees who wish to exercise it.

First, permanent endowment can only be used to make social investments if the trustees expect that doing so will not breach the rules on spending their permanent endowment. Trustees will need to check exactly what restrictions apply to their charity's permanent endowment but, in most cases, this is likely to mean that the trustees must anticipate that the investment will at least break even, financially.

Secondly, before making a social investment, the trustees must:

1. consider whether they should seek advice about the proposed social investment;if so, obtain and consider that advice; and
2. satisfy themselves that it is in the interests of the charity to make the social investment, having regard to the benefit they expect it to achieve for the charity (by directly furthering the charity's purposes and achieving a financial return).

They must review the social investments from time to time and, when doing so, go through a similar procedure. These duties apply to trustees whether they are using the statutory power to make social investments or relying on a similar, constitutional, power.

The Charity Commission has published guidance on the power to make social investments, which goes into more detail than this article. It is marked as interim guidance and will be reviewed in 2017, but we strongly recommend that you read it if your charity is interested in social investment. You can find it on the Commission's website.

Charity Commission's powers and duties

Formal inquiries

In general, the Commission will only open a formal inquiry into a charity if it suspects there are serious issues and more informal discussions have failed to resolve its concerns. Once the Commission has opened an inquiry, it gains access to various regulatory powers. For instance, provided certain other conditions are met, it can suspend trustees, restrict a charity's transactions, or direct trustees to take specific action.

The Act makes a number of amendments to these powers, some of which are now in effect.

Previously, the Commission's ability to use these powers was contingent on it being satisfied that one or both of two conditions were met. The first condition was "that there is or has been any misconduct or mismanagement in the administration of the charity". This has been altered: the Commission must now be satisfied "that there is or has been a failure to comply with an order or direction of the Commission, or any other misconduct or mismanagement in the administration of the charity". This change was introduced to make it clear that disobeying Charity Commission orders and directions is sufficient to trigger the Commission's more interventionist powers.

Where the Commission has suspended a trustee or officer, it can now extend that suspension for up to another twelve months, provided the total period of suspension is not more than two years. The Commission asked for this power because it sometimes has to await the outcome of criminal trials before it can proceed with regulatory action.

The Act has also widened the matters that the Commission can take into consideration when deciding whether or not to use these powers against a particular person. If it is satisfied that an individual was involved in misconduct or mismanagement, it can take into account (a) his or her conduct in relation to other charities, and (b) any other conduct that, in the Commission's view, is damaging to public trust in charities.

The Act also:

• makes certain changes to the process of removing a trustee (dealt with below, in the section on disqualification and removal of trustees);
• makes it slightly easier for the Commission to make administrative schemes;
• gives the Commission power to order individuals (including charity trustees) not to take action that, in the Commission's view, would constitute misconduct or mismanagement; and
• gives the Commission power to direct a charity to wind up, if it is satisfied that the charity (a) does not operate, or (b) that its purposes could be promoted more effectively if it ceased to operate.

It is worth reiterating that these powers can only be exercised once the Commission has instituted a formal inquiry.

Disqualification and removal of trustees

The Charities Act 2011 lists circumstances that will result in a person automatically being barred from trusteeship. Previously, one such circumstance was that the Commission or the Court had removed the person from office on the grounds that they were "privy to" misconduct or mismanagement in the charity. The Act has clarified the meaning of this phrase: a person will now automatically be disqualified if they were removed from office on the grounds that they "knew ... and failed to take any reasonable step to oppose" the misconduct or mismanagement in question.

The Commission must give notice before it exercises its power to remove a trustee. In the past, it was possible for a trustee to avoid being removed from office (and thus being automatically disqualified from trusteeship) by resigning before the Commission had a chance to follow up on the notice. The Act makes it clear that the Commission can continue the removal process in these circumstances. Conversely, trustees sometimes remain in post despite being disqualified: the Act gives the Commission a specific power to remove these trustees from office, and a duty to add them to the register of people disqualified from trusteeship.

Power to direct the application of charity property

Section 85 of the Charities Act 2011 gave the Commission power to direct those holding charity property to apply it in the manner set out in a formal order, where (among other things) the people concerned were "unwilling" to use it for the charity's purposes. The Act has added to this, so the Commission may now also make these orders where the person controlling charity property is "unable" to use it properly. The Commission asked for this change following a number of cases in which financial institutions were willing to apply charity funds for proper purposes but unable to, because of contractual restrictions.

Fundraising

This section fleshes out the power to create a statutory fundraising regulatory system, set out in the Charities Act 1992. The new provisions enable the Government to appoint a statutory regulator and issue regulations imposing various duties on charities, such as an obligation to comply with the regulator's requirements, register with it and pay fees to it. Regulations may also give the Charity Commission new powers to regulate fundraising.

When the Act was making its way through Parliament, the Minister said that the Government did not want to have to invoke these powers but felt they should be available, in case the new fundraising regulation regime fails.

What next?

The next tranche of provisions came into force on 1 October 2016, with another group coming into force on 1 November 2016. We will report on these in our next briefing.

If you want to read the legislation, you can read the Act (and Explanatory Notes) and the Regulations online.

If you require further information on anything covered in this briefing please contact Rachel Holmes ([email protected] , 020 3375 7561) or your usual contact at the firm on 020 3375 7000. Further information can also be found on the Charities page on our website.

This publication is a general summary of the law. It should not replace legal advice tailored to your specific circumstances.

© Farrer & Co LLP, October 2016