All wrapped up

It is well known that a disposal by a charity must comply with the provisions of the Charities Act 1993, but there is also a parallel, lesser known regime for mortgages or charges.

Charities' income has been significantly reduced by the economic downturn: investments have been adversely affected and several charities report that donations (both by legacy and gift) have fallen. While some of the larger charities have sufficient capital reserves to be able to take advantage of the fall in property prices and rents, at the other end of the spectrum, some smaller less wealthy charities are struggling.

Whether they are facing financial issues or simply wish to take advantage of low interest rates, charities are increasingly using their property holdings to secure borrowing.

In addition, a great deal of charity funding derives from grants, and grant-making bodies often require security, usually by way of a legal charge over property, to ensure that the grant monies are used for the purposes specified.

Requirement for an order

Charities can use their land to secure the repayment of a grant or loan without an order from the Charity Commission (or courts) as long as the provisions of section 38 of the Charities Act 1993 have been complied with.

Certain charities are exempt '“ e.g. charities set up under an Act of Parliament or subject to other statutory provisions are specifically excluded from having to comply with section 38.

However, most charities will not be exempt, meaning that certain procedures must be followed and legal requirements complied with: essentially, before executing a mortgage, the charity must obtain and consider proper advice, given in writing, on the relevant issues.

'Proper advice' is advice from an independent person whom the charity reasonably believes is suitably qualified and experienced in financial matters. This does not mean someone unconnected with the charity, it just means someone who has no financial (or other) interest in the relevant transaction.

Although the choice of adviser is a matter for the charity, in practice this is likely to be someone with professional qualifications or who otherwise has considerable practical experience.

The 'relevant issues' involved rather depend on the transaction. In most cases the mortgage or charge will be to secure borrowing in which case the 'relevant issues' will be:

• whether the loan or grant is necessary (e.g. is there any other source of funding that should be explored); and
• whether the terms of the loan or grant are reasonable for the charity; and
• the ability of the charity to service the debt.

Where the mortgage is to secure another liability, such as the discharge of an obligation by the charity, then (in addition to the above) consideration must be given to whether, having regard to the charity's objects, it is reasonable for the charity to take on that liability.

Considering the advice

It is entirely possible that the situation will arise where the charity desperately wants to embark on a project, has been offered funding but is nevertheless advised not to proceed with the financing arrangements. In those circumstances, it would be almost impossible to argue that the requirements of section 38 had been complied with.

The charity will have to be able to demonstrate that it has obtained and considered proper advice on the relevant issues. The best way to do this is to ensure there is a proper audit trail, for example, copies of all of the papers setting out the arrangement, possibly a legal opinion, a certificate from the charity's financial adviser (e.g. accountant) showing it has obtained advice on the terms proposed and the ability of the charity to discharge the liability having regard to existing borrowing, etc.

This paperwork is not a legal requirement but it does provide useful evidence if the charity's decision to enter into a mortgage is challenged.

Further advances

The Charities Act 2006 allows charities to enter into mortgages permitting further advances without either an order or an entirely new transaction. Typically, these days, even if the loan secured is for a specific purpose, the form of mortgage used will be an 'all money' charge which will also secure all future borrowing. Although no fresh mortgage deed is required, the charity will have to obtain and consider proper advice, given in writing, on the relevant issues before incurring further indebtedness.

Statements and certificates

As with a disposal by a charity, the mortgage document must contain certain information. It must include a statement setting out:

• that the land is held by or in trust for a charity;
• whether or not the charity is exempt;
• if the charity is not exempt from the requirements, there must be a certificate setting out:
• that the Charity Commission or the courts have sanctioned the mortgage, or
• that the charity has the power to mortgage and that the requirements of section 38 have been complied with in all respects; and
• where the mortgage will trigger compulsory first registration, it must set out that section 36 of the Charities Act 1993 also applies to the land.

These statements and certificates are important to both the lender and a subsequent buyer (for money or money's worth) because, if they are included, it will be conclusively presumed the facts are as stated in them are correct. If the statements and certificates are not included the transaction may be declared void. Lenders would then have no option but to pursue the trustees (being 'the persons having the general control and management of the administration of a charity').

Next month Jane Lonergan explains the process of disposing of properties owned by charities.