Taxing charities and not-for-profits: Can we find the right balance?

The sector is vital to our economy and to our most vulnerable people, animals, and other causes. There are significant tax changes coming for charities and NFPs, which could be an improvement if we get them right. However, get it wrong and we risk making an already tangled situation even worse. 

The current tax situation: Confusing, messy and open to interpretation

Running a charity or NFP is not an easy task. There are considerable administrative hurdles to clear, usually on a limited budget with a team of volunteers. Tax is often the last item on a very long list for those running a charity, and anyone involved be will rarely be a tax expert. 

Registered charities are exempt from income tax, but there are many other not for profit organisations for which this is a surprisingly complicated area. This is most common for membership-based organisations, where aspects of tax for these organisations are not covered by Income Tax Act 2007, and rely instead on the concept of mutuality (a common law principle). The result is a confusing, messy tax environment that’s open to interpretation and creates high compliance costs. We’ve found some not-for-profits that have more complex tax situations than multinational corporations. 

Potentially a new tax horizon for the not-for-profit sector 

Inland Revenue (IRD) has taken the first step in making some changes to the sector, releasing a consultation paper outlining proposed changes to the current regime. 

This paper is very much a work in progress. We don’t yet know if this will lead to major changes, minor tweaks, or wide scale debate. 

Charities and NFPs currently benefit from concessions and exemptions that help them do their work without the tax burdens faced by for-profit organisations. The proposed changes would potentially make some types of business activities taxable for registered charities. The consultation paper suggests that the changes could have a “de-minimis” threshold, reducing the impact to around 1,300 organisations. 

Another change would establish a legal definition for donor-controlled charities, and create some investment restrictions on these. And while registered charities don’t pay income tax, they are subject to GST, FBT and PAYE. Another proposal is to remove the FBT exemption for charities, with a focus on simplifying compliance and removing the competitive advantage this exemption may give charities over other employers. 

Will these succeed in finding the balance between supporting charities in their philanthropy, while making sure tax exemptions are truly supporting good causes? Will it make taxation compliance simpler for these organisations, which tend to be under-resourced in every respect? That needs to be the outcome, otherwise the changes could only make life harder for the sector.  

Should charities ‘get away with’ untaxed profits? 

The broader question of taxing charities and NFPs is a controversial one. 

It is important to note that to register as a charity and be exempt from income tax, an organisation must have a charitable purpose. There are four categories of charitable purposes, which are set out in the Charities Act 2005: Relieving poverty, advancing education, advancing religion, and other purposes beneficial to the community. 

Views on what should constitute a charitable purpose are a separate (even more controversial) conversation that is outside of the scope of the consultation paper released by IRD. 

There is no ‘tax loophole’ – charities must use all funds for charitable purposes, not for the private benefit of any individual. When commentators argue profits in the sector should be taxed, they often focus on larger charitable organisations. However, these well-known charitable businesses can only distribute their profits to support their charitable purposes – such as donating meals to those in need – while all other profits must further their charitable mission.

A common argument is that some not-for-profit organisations may have a trading advantage over competitors due to their tax-exempt status. However, the issues paper acknowledges both charities and taxpaying businesses achieve the same pre-tax returns on their investments. Since a charity’s alternative to operating a business – such as investing in securities – is also tax-free, their opportunity cost remains unchanged.

It is important to recognise that these larger charitable organisations are outliers in the sector. Of the 11,700 charities that reported business income in 2024, 88% had expenditure under $5 million.

This suggests that changes to the current tax settings may disproportionately impact smaller organisations rather than the well-known entities often discussed in the media.

Charities and not-for-profits are often encouraged to diversify their income streams so they are not solely dependent on donors or government grants. Potentially taxing these activities will disincentivise innovation and creative fundraising while reducing the funds available for charitable purposes.

Many op shops across Aotearoa are run to benefit charities, providing essential support to some of our most vulnerable people. If a local op shop, likely run by volunteers, manages to make a profit (which is rare), should those funds be taxed? Many would argue that allowing the organisation to retain those profits will do far more good than funnelling them back through the tax collection system.

Relief for distributed income from these activities, along with potential exclusions based on overseas practice, is discussed in the issues paper. However, complying with these measures would add another administrative burden for charities to navigate.

These complexities highlight why tax changes for the sector must be approached carefully. If compliance becomes too expensive, too complex, or too burdensome, we risk forcing some charities out of existence. The vital roles they play in our communities would then fall back on taxpayers—a less efficient way to support essential causes. Avoiding such unintended consequences should be a key consideration in any tax reform.

Tax compliance is a vital area of concern for the sector 

The consultation paper is a reminder that charities and NFPs need to think hard about tax compliance to ensure they get it right. Because they often don’t pay income tax, those managing NFPs often see tax as less of a priority than their private sector equivalents. 
While private sector businesses spend considerable time and money ensuring they meet all their tax obligations, it can be an afterthought for NFPs until they suddenly realise that a large GST bill is looming – or they’re facing an unexpected FBT or PAYE liability. 

Would your organisation be impacted by the proposed changes? Should you make a submission? And, perhaps more importantly, are you thinking enough about tax to be compliant with the current rules? 

The proposed changes to NFP taxation might come to nothing, or they could signal huge changes. We’ll certainly be watching closely as more details emerge. In the meantime, though, we hope this gives NFPs a nudge in the right direction.