A Question of Trust: A Review of the Charity Commission’s Inquiry Into the Cup Trust
2013 may seem like a long time ago in terms of media coverage of the charity sector, but that was when The Times first reported on an aggressive tax avoidance scheme involving the Cup Trust, a registered charity, turning over £176m and yet reportedly giving less than 1% of that amount to charitable causes. The whole sorry tale has raised questions about public trust in the charity sector, the Charity Commission’s credibility and powers, and how government regulators overlap in their role in protecting charities and in stamping out abuse of the tax system.
Five years have now passed since the Commission announced it would be carrying out a statutory inquiry into the Cup Trust. The Commission published its report on its statutory inquiry on 18 January this year and in it, has concluded that the corporate trustee, Mountstar PTC Ltd, is responsible for ‘clear misconduct and mismanagement’ of the charity, failing to fulfil its legal duties as trustee on account of its participation in the tax avoidance scheme and in relation to its oversight of the charity’s affairs, alongside serious failures to manage conflicts of interest.
The publication of the Commission’s report is perhaps a good opportunity to reflect on the issues raised by this case and on some of the key features – including the fact that HMRC did not grant any gift aid tax relief in relation to the scheme, the key individual behind the charity had accumulated over £2m in fees from his taxpayer clients in relation to the scheme, and the case also saw the Commission use its new disqualification powers introduced by the Charities Act 2016.
The charity and the scheme
Although the Cup Trust has closed down and was removed from the register in May 2017, it was initially set up for general charitable purposes by the settlor, Matthew Jenner, to give grants to small and start-up charities that benefit children and/or young adults. Mountstar, incorporated in the British Virgin Islands, was the charity’s corporate trustee. Its directors at various times were Mr Jenner, Mr Mehigan and Mr Stones. All three directors of Mountstar have now been disqualified from charity trusteeship for the maximum of 15 years, as a result of the Commission’s findings during the inquiry. The Commission also disqualified Mountstar from being a charity trustee for the maximum amount of 15 years.
In summary, the scheme involved a series of financial interactions, circular in nature, with each round of transactions occurring in the course of one day. The charity borrowed money and with it purchased UK treasury gilts at full value. The charity then sold the gilts to an intermediary for a nominal sum below market rate. The intermediary sold the gilts to higher-rate taxpayers in the UK for a nominal sum, on the proviso that the charity receive from the individuals upon their onward sale of the gilts, a cash donation equivalent to 100% of the market value and an additional nominal sum. The charity then repaid the loan (which, if paid in 24 hours, was interest free) and claimed gift aid on the donations. The higher-rate taxpayers claimed personal tax relief on their donations to the charity and so reduced their tax liability. Several rounds of this transaction took place between January and November 2010. However neither the gilts nor the money actually changed hands but were held by a company that acted as bare trustee.
The directors were also in several different ways entwined with the organisations involved in the scheme. To name just a few key organisations, Mr Jenner was a partner and key beneficiary of HNW Tax Advice Partnership, which provided tax advice to the individual higher-rate taxpayers in relation to the scheme. Another organisation, HNW Tax Services, was involved in the scheme and acted as attorney for those individuals. Again Mr Jenner was a partner of this organisation.
The scale of the scheme was quite astonishing: £176m was borrowed and donated to the charity but only £155,000 was retained by the charity as the rest had to be used to repay the borrowed money. The charity made a £46.4m gift aid claim and the 360 donors (UK higher-rate taxpayers) claimed £55m in tax relief. If the scheme had been successful, the charity would have had to pay fees of £6.3m to the intermediary.
First investigation by the Charity Commission
The Commission started an investigation into the charity in March 2010, after a disclosure of information from HMRC. It examined whether the charity was under the jurisdiction of England and Wales and whether its purposes were exclusively charitable. Although the Commission concluded that the charity was properly registrable as a charity, it could not determine whether Mountstar had acted in the best interests of the charity until HMRC determined the gift aid claim and so the investigation was closed in March 2012, pending the outcome of whether or not the gift aid claim was recognised as legitimate by HMRC.
The Commission came under significant fire for not acting swiftly enough in relation to the tax avoidance scheme. The Public Accounts Committee published a report into the events in 2013 which said that the Commission had ‘carried out few enforcement visits, [had] made a tiny number of prosecutions and [had] removed very few trustees for unacceptable behaviour’. The Committee had found ‘severe shortcomings’ and called for more extensive use of the statutory powers granted by Parliament, expressing concerns that the Cup Trust was not an isolated case. How could an organisation like the Cup Trust be successfully registered at the Commission? And should the Commission be scrutinising the accounts of every single registered charity, scanning for possible wrongdoing? The answers to these questions lay in how the regulator achieves its role against a backdrop of cuts that have seen the Commission’s resources depleted in recent years.
As part of the investigation, the Commission made clear that its statutory function was to identify and investigate abuse and mismanagement in charities and take the appropriate action, but that it was HMRC’s job to decide on the legitimacy of tax matters in relation to charities. This view was later challenged by the Charity Tribunal (Mountstar v The Charity Commission ) and fed into further public criticism of the Commission’s role and powers. The tribunal made it clear that the Commission should rigorously and vigorously analyse and scrutinise the scheme, drilling down below the legal face if necessary. So great was the public interest in the matter that, following the investigation, the Commission released further information on charities’ duties in relation to tax and its involvement with HMRC in this area.
The second inquiry
The Commission’s involvement recommenced in 2013 following Mountstar’s failure to comply with HMRC’s requests for information, with HMRC issuing a formal notice to the charity and imposing financial
penalties. The new inquiry kicked off with the appointment of a specialist charity lawyer as interim manager who took control of the charity’s management and administration in April 2013. The scope of the inquiry was broad – not only to look at the trustee’s failure to provide information to HMRC but also at the decision to participate in the tax avoidance scheme; management of conflicts of interest within the charity (in relation to the directors of Mountstar and the scheme); payments and benefits to those involved in the charity/and or in the scheme, including whether anyone had a duty to account to the charity for profits received; and the extent to which Mountstar discharged its trustee duties. Mountstar challenged the opening of the inquiry and the decision to appoint an interim manager. However both were upheld at the Commission’s internal decision review
and the tribunal, with the tribunal coming to important conclusions and raising issues which were later explored by the inquiry. Following that, what has the Commission’s inquiry concluded?
Failure to comply with a legal notice issued by HMRC
The Commission concluded that there was persistent non co-operation by the charity with HMRC indicating to mismanagement and/or misconduct in the administration of the charity by Mountstar and its directors. This followed from the tribunal’s findings that the unjustifiable failure of Mountstar to provide information to HMRC made it clear that the Commission was justified in its decision to open an inquiry.
Gift aid and High Court decision
Rather unsurprisingly, the gift aid claims made to HMRC throughout 2011-12 were rejected by HMRC in December 2013. Despite HMRC issuing a ‘spotlight’ bulletin in 2010 which said that circular gift aid mechanisms would not be approved, the outcome was not disclosed by HMRC due to its duty of confidentiality.
Following the rejection of the gift aid claims, and so as not to prejudice the interests of the charity in potentially being able to secure over £46m, the interim manager appealed the rejection decision. However, once Mountstar had abandoned its appeal against the opening of the inquiry and the appointment of the interim manager, the interim managers (the second appointed in February 2014) sought legal advice from a tax specialist on the likelihood or otherwise of the charity succeeding in overturning HMRC’s ruling. They were advised that its prospects of success were labelled ‘very slim indeed, or negligible’. Despite Mountstar offering to fund the litigation (which, if successful,would have netted huge fees for the various associated companies and individuals involved in the scheme), the interim managers asked the Commission to approve their decision to drop the appeal against the HMRC decision. The Commission then exercised its power under s78(5)(b) of the Charities Act 2011 to apply to the High Court for directions in relation to the discharge of the interim managers’ functions.
One particular feature of this procedure is that it would enable Mountstar to participate in the hearing. In April 2016, the High Court judgment (The Charity Commission for England and Wales v Mountstar (PTC) Ltd ) confirmed that the Commission was both justified in bringing the matter to the High Court, and agreed that the interim managers were entitled to stop pursuing the tax claim. The judgment expressed scepticism about the motive behind Mountstar’s offer to meet the costs of pursuing the appeal.
Conflicts of interest and their management
The Commission found that conflicts of interests were:
….likely to arise because of the number and nature of the associations and relationships between one or more directors of the trustee, Mountstar and the tax advisers, partnerships and other organisations which were instrumentally involved in one way or another in the gift aid Scheme.
The Commission concluded that, given the relationships and the failure to identify or manage them, there was mismanagement in the administration of the charity. Mr Jenner was involved in all elements of the scheme, was acting for the charity and the donors, and was receiving fees if the tax relief claims of the donors were successful. Mr Jenner was also making most of the decisions in relation to the scheme and the general administration of the charity, even if attempts were made not to make it seem that way. The tribunal and the inquiry recognised that Mr Jenner was financially conflicted and was all along enhancing his client base and reputation.
Trustees of corporate trustee entities should consider the tribunal’s observations on the matter; that the directors of Mountstar do not owe the charity any fiduciary duties, but they do owe fiduciary duties to Mountstar which in turn owes duties to the charity.
Benefits to those involved
In addition to conflicts of interest, the Commission’s inquiry concluded that the key parties that were involved in the scheme had accumulated over £2m in fees from the scheme. Although Mr Jenner resigned from Mountstar during the period in which he received payments (and was later re-appointed when the gift aid claims were submitted), he received over £2m in fees. The other directors of Mountstar, Mr Mehigan and Mr Stones, were aware of the personal benefit to Mr Jenner from the charity’s participation in the scheme.
The Commission did consider whether to seek to recover money received by companies and individuals involved in the scheme. However, Mountstar itself had not profited from the arrangements and the main beneficiary of the scheme, Mr Jenner himself, was declared bankrupt in March 2015.
Trustee duties and responsibilities
As well as misconduct and mismanagement by Mountstar, the Commission found that Mountstar’s directors failed to act with reasonable care and skill and were in breach of their fiduciary duties to Mountstar in approving the scheme and in their dealings with HMRC and the Commission, a conclusion that was welcomed by most in the sector.This conclusion was in line with the tribunal’s views that an ordinary prudent man of business would have carefully reviewed the scheme and considered if it is lawful and taken independent advice on dealings with HMRC. The tribunal made clear that charities must ultimately operate for the public benefit and, due to the tax breaks they benefit from, must be transparent with HMRC. The Commission said that Mountstar should have known that the scheme was an ‘artificial arrangement’.
What can we learn?
Although the inquiry makes clear that the Cup Trust did not directly lose money as a result of participating in the scheme, its involvement has had a very real impact on public trust in charities.
As expected, the general public have been left wondering whether there are more charities out there not known to the Commission, set up for the sole purpose of tax avoidance. The reputation of gift aid has also been damaged. Gift aid exists to enable tax-effective giving to charities and encourage giving to charity in general. This case has highlighted the need for better monitoring of incentives for tax relief, but could this go as far as to jeopardise the existence of tax reliefs entirely? The Commission certainly seems to think:
… there is a risk of potential loss of other tax reliefs to the sector as a result of, or as a necessary by-product of, action to stop or close such Schemes.
The Commission itself has received its fair share of negative press throughout the process, with sector leaders and parliamentary committees all having their say. The events were labelled as ‘flagrant abuse’, by Margaret Hodge, Labour MP for Barking and chair of the Public Accounts Committee in 2013. It was accused of being ‘toothless’ by former employees, who criticised it for only taking action when complaints were made. Serious accusations were made across the board of poor sharing of information, resulting in low amounts of uncovering of tax avoidance schemes.
The Commission’s final report on the inquiry provides a fairly comprehensive account of the part it played, of the challenges it faced in dealing with a whole string of legal
proceedings and of the extent to which the law relating to charitable status meant that it simply did not have the options of refusing to register the Cup Trust or of removing it from the register. Among the points that seem to have been consistently disregarded by the Public Accounts Committee are the following:
- The Commission has a statutory obligation to register an organisation that satisfies the requirements of charity law by having purposes that are exclusively charitable.
- The Commission’s functions arguably do not extend to policing how charities interact with the tax system or to challenging tax avoidance schemes.
- The public benefit requirement in the Charities Act 2011 does not mean that an organisation that enables tax savings to be made can never be charitable.
- The Commission does not have the option of withholding registration on the grounds that, lurking behind the stated charitable purposes of the organisation, there may be some
ulterior motive. Indeed there are reputable and successful charities that may have originally been motivated by something other than unalloyed altruism – the highly regarded Nationwide Foundation was created in the late 1990s with the intention, in part at least, to protect the Nationwide Building Society against demutualisation by requiring new members to assign to this new charity any windfall that might arise on demutualisation, but this in no way undermines its charitable status.
The report does also provide a convincing defence against the various (and in some cases rather intemperate) criticisms levelled at the Commission, providing a list of all the various statutory powers that it has exercised over the course of the inquiry.
Nevertheless, we have seen the Commission attuning itself to a greater scrutiny of tax avoidance schemes of this nature. The Commission has shown higher engagement by:
… significantly improv[ing] and mak[ing] more robust its registration and connected processes to ensure that there is now robust post-registration monitoring of charities where there are concerns or where the Commission has required certain actions at or in connection with registration.
The Commission has recently taken visible steps to take a tougher line on charities and tax avoidance. For example:
- the charity registration application process now includes a specific question about whether the charity will be using tax avoidance (other than making routine use of the usual charity tax reliefs such as gift aid);
- the Commission has tackled the arrangements under which charities were offered ‘reverse premiums’ for taking leases of vacant commercial premises so that the landlord could avoid non-domestic rates; and
- the Commission has strengthened its guidance on charities and tax avoidance, reflecting the line taken in this inquiry on the wider impact of tax avoidance schemes on public trust and confidence in charities generally.
Needless to say, there will always be questions about the impact on the charity sector of greater scrutiny by the regulator and whether smaller charities will end up paying he price of higher regulatory burdens. And we have seen the Commission making use of its new powers under the Charities Act 2016 on a number of occasions; these new powers have been branded by some as controversial, but in the light of the issues raised by the Cup Trust case it seems clear that there is an appetite for having a regulator that is more responsive to the expectations of our parliamentarians, our media and the public and that can and will act on bad behaviour. Only time will tell whether these powers are draconian enough to deter unscrupulous entrepreneurs from trying their luck, or to satisfy an increasingly sceptical public that the charity sector deserves our trust.
The article was first published in Trusts and Estates Law & Tax Journal (June 2019).
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