Practice group articles

Budget 2009 summary for corporate clients
22 April 2009

Client article: A lasting legacy that benefits others
15 January 2009

Legacy giving: A lasting gift at Christmas
1 December 2007

Are you an English or Welsh charity operating in Scotland?
19 November 2007

A gift that keeps on giving: Charity law
19 October 2007

How businesses can benefit from charitable giving
1 June 2007

How should a charity use its funds?

07 May 2008



Funds given for a specific purpose must be used only for that purpose and the accounting records and the annual accounts must distinguish between the different types of funds according to the terms under which they were given. "Funds" for the purpose of this article include not only money but also property and assets of any sort.

The main distinction between funds is restricted and unrestricted funds.

1. Unrestricted Funds

a) Non-designated or general funds

These are funds available for the purposes of the charity to be spent as the Board of Trustees/Management Committee sees fit within the stated objectives of the charity (as per the governing document). The Board of Trustees/Management Committee are free to set priorities and decide how and when to spend these funds, and they are not earmarked in any way. An example of non-designated or general funds would be funds raised at a fundraising event where no particular purpose was specified.

b) Designated Funds

These are unrestricted funds available for the general purposes of the charity, but which the Board of Trustees/Management Committee has chosen to earmark for a particular purpose. A decision to designate funds in this way should be made at Board of Trustees'/Management Committees' meetings and a note made in the minutes of those meetings. Designated funds can be "undesignated" by the Board of Trustees/Management Committee. However this should always be done at a Board of Trustees'/Management Committees' meeting and a note made in the minutes of those meetings.

2. Restricted Funds

a) Restricted Income Funds

These are funds, which are subject to special trusts specified by the donor (for example by a letter from the donor at the time of the donation or by the terms of a public appeal). These funds can only be used for the purposes for which they were given, and if they are used for any other purpose it may be viewed as fraud or deception.

b) Endowment Funds

i) Permanent Endowment Funds

These are funds that have been given to a charity to be held as capital and the donor has given no power to the Board of Trustees/Management Committee to convert them to income. Although the capital must be retained for the benefit of the charity, any investment income from it (e.g. dividends from shares) may be available for general purposes unless otherwise specified by the terms of the trust. However, the Charities Act 2006 gives charities a greater flexibility in relation to spending permanent endowment funds although there are safeguards and procedures which must be followed depending on the size of the charity as briefly outlined below.

Trustees/management committees of smaller unincorporated charities with available endowment funds valued at less than £10,000 and an annual income of less than £1,000 can resolve to spend the permanent endowment without the Charity Commission's involvement and without having publicly to advertise their intention to do so, if they believe that the charity's purposes would be more effectively achieved.

Larger charities who have a single purpose, an annual income of over £1,000 and endowment funds valued at more than £10,000 are able to pass a resolution agreeing to spend a permanent endowment fund. However; the resolution must be filed with the Charity Commission along with a statement of the Trustees'/Management Committees' reasons for passing it. The Trustees/Management Committee must follow the Charity Commission's procedure, which includes advertising the resolution, evidencing the wishes of the donor or donors of the permanent endowment and any subsequent changes in the charity's financial position, the needs of the beneficiaries and the social, economic and legal environment in which it operates. The Charity Commission will then notify the Trustees/Management Committee as to whether it concurs with their resolution or not within three months of filing it with the Charity Commission.

ii) Expendable Endowment Funds

These are funds that have been given to the charity as capital; where unlike permanent endowment, the Board of Trustees/Management Committee does have the discretionary power to convert it into spendable income. The funds remain capital in nature until they are converted. An example of this would be investments that are given to the charity. They are kept as investments until they are sold and proceeds are used towards promoting the charity's objectives.

Accounting

All charities are accountable, not only to their donors but also to the Charity Commission as to what income is received throughout their financial year and how that income is spent. The accounting records need to reflect the different funds held by the charity and it is also wise for the Board of Trustees/Management Committee to be regularly updated as to how the separate funds are being managed or expended. Frequently, donors will also need/request reports on how their particular grant or donation has been spent.

Within the Statement of Financial Activities the unrestricted funds should be shown in a separate column from the restricted funds. If a charity has more than one restricted fund, they can be grouped together in the accounts, but the notes to the accounts should give a breakdown of the opening and closing balances for each of the different funds. The general rule is that income gained from funds (e.g. bank interest) belongs to that fund. However, income arising from the investment of assets in an endowment fund may be used for the charity's general purposes unless the terms of the trusts specifically state otherwise. The terms of a restricted fund may allow income arising to be used for general purposes, but this should be checked. Generally, if you have a mixture of restricted and unrestricted funds in one deposit account and if the interest is material, it will be necessary to apportion deposit account interest between the different funds. Similarly the assets and liabilities should also be displayed in this manner with a note disclosing how the assets and liabilities are split across various funds (if applicable).

Transfers

Sometimes it will be necessary to make transfers between general and designated funds. This can be agreed by the Board of Trustees/Management Committee at their meetings and should be disclosed in the annual accounts. It is also possible to make transfers from unrestricted to restricted funds. For example, if money has been donated specifically for a particular item, but the item required is more expensive than the amount donated, then the Board of Trustees/Management Committee is able to transfer the extra money required to purchase the item from unrestricted funds to the restricted fund to make up the shortfall. For accounting purposes, this is preferable rather than splitting the value of the item between unrestricted and restricted funds on the balance sheet.

Generally, transfers from restricted to unrestricted funds should not be carried out. However, if the charity has a balance on their restricted fund that it cannot use for the specific purpose, then the additional funds held should be returned to the donor, or the donor must give their consent/authority for the charity to use the additional funds for their general purposes. If the donor cannot be traced, then the charity must seek the permission of the Charity Commission to 'make a scheme' (i.e. an amendment of the special trust), which will allow them to use the funds for the charity's general purposes.