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Rules around charitable giving need to be overhauled

6 December 2023

Tax reform conversations can sometimes seem somewhat abstract. But tax policy can have very real and immediate impacts on our lives.

Nowhere is the human impact of tax policy more evident than in our deductible gift recipient system, which provides an income tax deduction for giving to particular charities.

The system directly or indirectly affects millions of Australians from all walks of life.

By lowering the ‘price’ of giving, the deduction encourages Australians to give more to particular charitable causes than they otherwise would.

Most tax deductions for giving are claimed by those on higher taxable incomes. While critics claim this is unfair, this ignores both the policy’s purpose and its human impact.

The deduction lowers fundraising costs for eligible charities, enabling taxpayers to direct money towards those areas where markets and government perform poorly.

Indeed, by boosting the voluntary redistribution of income and wealth, the deduction benefits recipients – including the most disadvantaged and marginalised Australians.

The system also generates broader ‘social capital’ benefits, contributing to more volunteering, greater cooperation and the formation of social networks and trust.

In aggregate, our deductible gift recipients settings provide a formidable set of incentives. For example, in 2019-20, 4.4 million Australians claimed $3.9 billion in tax deductions for giving. And the real value of tax-deductible donations has tripled over the past two decades.

The Australian Government has a goal of doubling giving by 2030, and the tax deduction for giving will play a vital role in helping to achieve that goal.

But we should never forget the human element of this target and what it is actually trying to achieve.

While higher overall donations can be a sign of a more generous, civil society, the mix of giving can be just as important: additional funds should ideally flow towards activities that will maximise community wellbeing and help those most in need.

Unfortunately, the deductible gift recipients eligibility system for charities – the main policy lever for influencing the mix of giving – is not fit for purpose.

Since its introduction over 100 years ago, the policy has evolved in an ad hoc and piecemeal fashion.

Not all charitable activities are eligible for deductible gift recipient status. Nor should they be. But there is currently no explicit policy rationale justifying why some activities can receive tax-deductible funds while others cannot. For example, a charity focusing on preventing illnesses is currently eligible, but a charity focusing on preventing injuries is not.

If this were the only flaw in the system, it would more than justify significant reform.

Unfortunately, the reality of trying to secure deductible gift recipient eligibility – the human element – is even worse for some charities.

It should be easy – as Adam Smith put it in his Theory of moral sentiments – for Australians to ‘indulge our benevolent affections’. But for many charities, trying to obtain this status can feel like a battle against malevolent intentions.

Smaller, vibrant start-up charities in particular can incur significant costs when navigating their way through complexities of the system.

In the absence of sound policy principles, the problems will only get worse.

To address these issues, the Productivity Commission recommends that the system be thoroughly overhauled.

Deductible gift recipient eligibility should be guided by three simple economic principles: whether activities are expected to generate net community-wide benefits; whether subsidising donations is the best way to support those activities; and whether there is a material risk that tax-deductible donations can be converted to private benefits for donors.

For example, while there are sound economic and social reasons for government support for school infrastructure, there is a material risk that tax-deductible donations to school building funds could be converted to private benefits for donors.

This is unlikely to be the best way to direct taxpayer support to where it is needed most.

Our proposals would refocus the system towards activities with wider community benefits, and transition arrangements would need to be put in place.

Scholarship funds that provide disadvantaged children with education opportunities would retain the status – as
would schools registered as public benevolent institutions.

Arm’s-length charities that have specific equity objectives and make grants for educational purposes would be expected to gain deductible gift recipient status.

Importantly, excluded activities would still be able to seek and receive funding from other sources, including government grants and private donations – but the latter would not be tax deductible for donors.

Most classes of charitable activity would be in scope for the status.

Indeed, the reforms are expected to increase the number of charities with this status from about 25,000 to between 30,000 and 40,000.

This would mean a more diverse range of charities with deductible gift recipient status. A wider range of causes and beneficiaries could benefit from philanthropy and co-investment from Australian taxpayers, providing donors with even more choice. It will particularly benefit the many smaller volunteer-run charities that currently miss out on the status.

Together with our recommendations on charity regulation and the provision of information, these changes would establish firm foundations for the future of philanthropy, so that the benefits of giving can continue to be realised across Australia.

In other words: genuine tax reform, with a human focus.

This article was written by Deputy Chair Alex Robson and published in the Australian Financial Review on 6 December 2023.