Limiting the Business of Charity

With the Russian government regularly falling short in meeting social needs that were once guaranteed by the Soviet state, charities are becoming more necessary than ever.

The law "On Charitable Activities and Charitable Organizations," adopted July 7, 1995, took the first steps in providing the legislative framework for a non-profit sector in Russia.

But the law has been of doubtful effectiveness: It provides scope for abuse by those who register as charitable organizations to gain tax privileges while not offering enough tax advantages to keep legitimate charity organizations operating here.

"Now is a critical time to mobilize charitable giving on the part of the maturing Russian corporate sector and the 'new Russians,' but to do so will require further enhancement of the benefits which this law provides," Alla Kazakina and Mary Holland of the U.S. law firm Patterson, Belknap, Webb & Tyler wrote in a report on the charities law.

Many import companies and organizations have found a way around the intent of the law. The National Sports Fund and the Russian Orthodox Church's Department of External Affairs, for example, have both used their position as charities to gain tax breaks when importing cigarettes and alcohol, and smaller Russian and foreign companies have benefitted as well.

"I know there were a lot of abuses by commercial entities conceived as charities to get tax benefits and conceal their activities," Kazakina said.

The 1995 charity law states that "charitable activities are understood to be voluntary activities by citizens and juridical persons on disinterested or favorable terms: for example, transfering to other citizens or juridical persons property, including money, work done free of charge or rendering services and other kinds of support."

Article 6, Section 2 of the law permits charitable organizations to carry out business activities as long as they support the charitable purposes for which the organization was created.

The law contains a provision similar to one found in the U.S. Internal Revenue Code which prohibits a charity from using its funds or property to support unrelated commercial activities or political groups.

"Charitable organizations can engage in commercial activities as non-profit entities, but only for charitable purposes," Kazakina said. The Russian Civil Code contains similar restrictions on charities' business activities.

"Presumably, such a restriction is to discourage the creation of businesses in the guise of charitable organizations for purposes of tax evasion," Kazakina and Holland wrote in CIS Law Notes.

When Russian charities do engage in business activites to support their philanthropy, these activities are subject to profit tax. This provision of the law, the report stated, is comparable to U.S. law provisions to prevent non-profit entities from engaging in unfair competition with non-exempt businesses.

But legitimate Russian and foreign charities doing business here have a tougher time than those in the West because they are not guaranteed other fundamental tax advantages. While the law permits federal and municipal state authorities to grant charitable organizations preferential tax treatment if they wish, the charities law does not require it, Kazakina noted.

"Until Russian legislation provides for obligatory tax exemption of charitable organizations and tax deductions to all charitable donors, this law will have little impact," Kazakina said.

The law also states that a charitable organization may not pay more than 20 percent of its annual budget for administrative and managerial overhead, an attempt to prevent corrupt practices which would permit management personnel to allocate to themselves almost the total budget of a charitable organization.

According to Kazakina, the adoption of a new Civil Tax Code would help weed out illegitimate charities here. A streamlined tax code could cut down on the number of taxes and remove some of the incentives companies have for hiding behind a charitable organization to gain tax advantages.

"The violation of the charities law ... is quite often because of the tax system," she said. "Only [with] a new code that reduces the number of taxes and when the whole tax system is improved will there be less abuse."