In February 2008, the Union government altered its definition of charitable purpose to exclude all activities that can be deemed as business, trade or commerce, unless these were incidental to the charitable activities. This has significantly affected the voluntary sector.
In the past, many voluntary organizations promoted income-generating activities—primarily crafts, non-timber forest produce and agricultural produce—among families they worked with. The primary objective was poverty alleviation and included activities pertaining to healthcare, education, forestry, drinking water, promoting alternative energy sources and mobilization of disempowered families. The income-generating activities were indeed incidental to their primary objectives. However, the 2008 amendment made it contingent for organizations to eschew such activities in the form they existed and shift them to independent institutions.
This is not a bad thing in itself as voluntary organizations have historically had a rather poor track record of setting up viable income-generating activities. Activities that could survive entirely through the production and sale of produce without grants to subsidize costs are hard to sustain. There have been successful instances, but these were exceptions.
Faced with the need to consider a new institutional framework, the first choice that most organizations made was to opt for institutional forms that gave producers ownership or limited the possibility of control being ceded to other investors. This was driven by the belief that interests of producers must be protected and that the entry of private capital would lead to theirs being compromised. Cooperatives and producer companies or Section 25 companies (shareholders can’t get dividends) have been the institutions of choice.
All these institutional forms suffer from one significant weakness—their inability to attract large investments in the form of equity. In other words, the scale of operations and growth of businesses set up are likely to be limited unless producers contribute substantial equity. This is unlikely if you are working with low-income producers. The creation of institutions where ownership and control by producers or enlightened promoters is not diluted by entry of private equity is self-limiting.
There are other constraints as well. Since they do not have income-tax exemption, these organizations cannot attract donations. They cannot invest in strengthening governance structures or, for that matter, producers or people who work in these enterprises. Product development and infrastructure creation for value addition is stifled.
Many of these enterprises work primarily with small and poor producers. The transaction costs of working with these groups are high and large corporations do not have the incentives to seek out, organize and work with these producers. To support such enterprises, the government needs to create favourable policies. Financial institutions and investors in producer enterprises must be deemed as producers since finance is also a crucial part of the value chain. Institutions such as Nabard and Sidbi must be encouraged to provide debt that is converted into equity of the producers at a later stage.
Alternatively, the government should recognize the need for a third category of institutions other than charitable organizations and for-profit entities. Hybrid institutions that can both accept donations —with income-tax exemption—and generate incomes for poor producers through entrepreneurial activities on the condition that a bulk of such surpluses necessarily be reinvested in the business or shared with producers. In other words, the tax on such institutions should be based on the application of the surplus and not on how it was generated.
Organizations and individuals promoting enterprises with poor producers also need to recognize that these producers primarily want sustained incomes. If playing safe, seeking to provide them with ownership and control and limiting access to external capital jeopardizes the primary desire of poor producers, sustained incomes, it isn’t worth it.
V.K. Madhavan has worked in the not-for-profit sector for two decades and spent 15 years living and working in deserts and hills. He’s still on the fringe asking questions and looking for answers. He will write every fortnight.