NCVO and Social Enterprise UK
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Contrary to popular belief, charities are able to carry out trading activity – and many do. The income from the sale of goods and services by the voluntary and community sector now makes up over half of the sector’s incoming resources.

Many social enterprises, including community interest companies, are able to trade freely but there are law and tax restrictions on a charity’s ability to trade.

Is there power to trade?

If a charity is to trade itself, it must have the necessary constitutional capacity. This means that the charity's governing document will need to allow the trading activity in question.

Many charities' governing documents contain the following wording: 'to trade in the course of carrying out the objects of the charity and carry on any other trading (provided that it is not substantial permanent trading activity'. There is a key distinction between two types of trading carried out by charities: primary purpose trading and non-primary purpose trading. The first part of this wording 'trade in the course of carrying out the objects of the charity' refers to primary purpose trading and means the charity can carry out this type of trading (see more information below on primary purpose trading). The second part of the wording refers to non-primary purpose trading and means that the charity cannot carry out this type of trading if it is substantial or permanent (see more information below on non primary purpose trading).

Primary purpose trading

Primary purpose trading is trading which a charity carries out in fulfilment of its main or primary purpose, i.e., in fulfilment of its charitable objects as stated in the charity's governing document. Examples of this include educational charities charging for their courses or publications, community groups charging a small fee to access their activities, and heritage properties charging visitors an entrance fee.

Broadly speaking, charities have considerable freedom to carry out primary purpose trading. Tax and charity law are unlikely to throw up significant problems. Even so there are a number of issues to be alert to. These include the general rules on commercial trading, VAT, and the rules on public benefit.

Further information and resources

Non-primary purpose trading

Non-primary purpose trading is trading which is intended simply to raise funds for the charity. Many forms of ‘pure’ fundraising activity carried out by charities, such as fundraising events, and sponsorship deals with commercial organisations, fall into the category of non-primary purpose trading. For example, the charity which buys in a stack of ready-made Christmas cards and sells them at a profit is invariably carrying out non-primary purpose trading.

Non-primary purpose trading throws up a number of challenges for charities that should be considered, from both a charity law and tax perspective.

Exceptions to the rule

The basic rule is that where a trade is carried on by a charity the profits are taxable, unless an exemption applies. HMRC must consider the activity to be a trade.

There are a number of exemptions from tax:

  • Primary purpose trading (see above)
  • Ancillary trading: this is trading which is in some way complementary to a charity’s primary purposes, although it does not directly further a primary purpose. An example is a charitable theatre providing a café for its audience.
  • Fundraising events: there is a specific exemption from tax, awarded by extra-statutory concession, for certain types of one-off fundraising events.
  • Donated goods: HMRC does not regard the sale of donated goods as trading. It is seen as simply a case of converting a donation received in kind (e.g. second-hand clothes or books) into cash, and the profits are therefore not taxable.
  • Annual payments: certain payments made on an annual basis, such as those payable to a charity for the use of its name and logo, where no other additional services are rendered, fall within the scope of a special exemption. However, the scope of this exemption is limited and it should be treated carefully.
  • Lotteries: charity lotteries qualify from an exemption from tax.
  • Small scale trading: where a charity’s trading activity is within certain defined limits, it may fall within a small trades exemption and not be liable for tax. The total turnover from all of the charity’s non-exempt trading activity (with the exception of some rare and unusual sources of income which will not generally be relevant, such as gains from contracts for life assurance) must not exceed the annual turnover limit:
  • £5,000; or
  • If the annual turnover is more than £5,000, 25% of the charity’s total incoming resources, up to a maximum of £50,000.

The exemption can also apply if, at the start of the relevant accounting period, the charity had a reasonable expectation that the charity’s non-exempt trading income would not exceed the annual turnover limit.

When should I use a trading company?

In all other cases, it is likely that charities should establish a trading company for the purposes of conducting their trading activity because the charity law and tax implications of trading can generally be avoided if a trading subsidiary is used.

The basic mechanism works in the following way:

  • The charity sets up and funds a company limited by shares. All the shares are owned by the charity.
  • The trading company carries out the trading activity. Since is it not itself a charity, there are no restrictions on its ability to trade. Since it is an independent legal entity, its activities should not present a risk to the charity’s assets.
  • Since it is not a charity, the trading company will be liable to corporation tax. But the profits which the trading company makes are usually paid up to the parent charity under the gift aid scheme. This reduces the trading company’s taxable profits – in many cases – to zero, which means that it has no tax to pay.

Potential advantages of a trading subsidiary include:

  • Protects charity from liability
  • Limited liability status for trading company
  • Allows an organisation to undertake certain activities that the charity may not be able to do
  • Certain tax advantages

But the trading company route is not without its disadvantages and complications.

Things to consider include:

  • Initial and on-going funding by the charity
  • Make-up of the board and how this can be managed
  • The ongoing relationship between the charity and trading company
  • VAT: There is no general exemption from VAT for charities which undertake trading activities. The trading activities of many charities will fall within the definition of business supplies for VAT, even though charities do not pursue a ‘profit motive’.
  • Rate relief: Charities qualify for certain reliefs from business rates on their premises. A charity’s entitlement to rate relief may be affected by its trading activity.
  • Charities which carry out primary purpose trading or which sell donated goods on their premises will be treated as carrying out charitable activity and should therefore continue to qualify for rate relief.
  • Non-primary purpose trading activity will not be regarded as charitable trading activity. Occupation of property by a trading subsidiary will not qualify for the rate relief, since the ratepayer in this case is not a charity. If the level of non-charitable activity by the charity, or the level of occupation by a trading subsidiary which shares premises with its parent charity, means that the property is no longer wholly or mainly used for charitable purposes, the entitlement to rate relief may be lost. There is no definitive guidance on what is meant by ‘mainly’, although ‘mainly’ has been defined in another context as ‘probably … more than half’.
  • Charities Act 1993: Under section 5 of the Charities Act 1993, a registered charity with a gross income in its last financial year of more than £10,000 must state in legible characters the fact that it is a registered charity on various documents, namely notices, advertisements and other documents issued by or on behalf of the charity and soliciting money or other property for the benefit of the charity; bills of exchange, promissory notes, endorsements, cheques and orders for money or goods purporting to be signed on behalf of the charity; and bills, invoices, receipts and letters of credit.

This means that a charity carrying on trading activity must ensure in particular that its cheques, purchase order forms, invoices and receipts – including till receipts – contain the magic words ‘a registered charity’. Breach of section 5 is a criminal offence.
More information and guidance on trading