Can charitable trusts invest in mutual funds and stocks?

Other investments are also possible if the charity commissioner approves it by a special or a general order.
Other investments are also possible if the charity commissioner approves it by a special or a general order.

Summary

  • The law is unrestrictive, but lack of awareness and risk aversion makes the enforcement weak

Ever since the covid pandemic, mutual fund investments and direct stock trading have become popular avenues for Indian investors seeking better returns to meet their financial goals ahead of time. However, large non-profit organizations are yet to realize the potential of these financial instruments. This article examines whether trusts (public or private), Section 8 companies or societies can invest in market-linked instruments.

"There is no central act governing public trusts. States such as Bihar, Maharashtra, Madhya Pradesh, Orissa have enacted their own legislations which govern public trusts in those states. In other states, public trusts can invest in any security as long as their trust deeds do not disallow it while principally following the applicable sections of the Indian Trusts Act, 1882. Private trusts are also governed by Indian Trusts Act, 1882. Societies get registered under Societies Registration Act, 1860, and section 8 companies follow the Companies Act, 2013." says Pritika Kumar, co-founder, No Grey, a Gurgaon-based online legal platform involved in making wills and trusts.

A Section 8 company is a non-profit organization that aims to promote charitable activities, art, science, education, and sports. The profits of such companies are utilized for promoting these objectives and are not distributed among the company's members.

Maharashtra Public Trusts Act, 1950, (earlier known as Bombay Public Trusts Act, 1950) is the oldest Act governing state public trusts. “The Act states that funds belonging to a public trust and not required for immediate use shall be invested in the prescribed securities given under the Act. These generally include safer and more stable financial instruments," says Kumar.

Hence, the state public trusts Act supersedes what’s written in the trust deed. "Section 35 of the Maharashtra Public Trusts Act states that trustees are bound to invest in securities specified in the Act notwithstanding the direction that a trust deed takes," says Kumar.

 

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What the law says

The Maharashtra Public Trusts Act allows investment in Post Office Savings Bank, government savings certificates, small savings schemes, deposits with cooperative and scheduled banks, units of the Unit Trust of India (UTI) and any security launched by central or state governments. It also allows investment in any debenture where principal and interest is fully and unconditionally guaranteed by the centre or state government, investment or deposit in any public sector company, deposits with or investment in any bonds issued by a public company formed and registered in India with the main object of carrying on the business of providing long-term finance for construction or purchase of houses in India for residential purposes and investment in immovable property.

"So far as mutual funds are concerned, it is a grey area because while the Income Tax Act allows charitable entities to invest in mutual funds,the Maharashtra Public Trusts Actonly permits select mutual funds (nearly 60 schemes) that are approved by the charity commissioner," says Nehal Mota, co-founder & CEO at Finnovate, a Sebi-registered investment advisory firm.

The list of approved mutual funds is not available in the public domain. "The asset management companies concerned hold a letter from the charity commissioner mentioning the names of approved funds. Some of such schemes include HDFC Income Fund, ICICI Prudential Income Plan, ICICI Prudential Balanced Fund, ICICI Prudential FMCG Fund, Kotak Gilt Investment, Birla Sun Life Equity Fund, SBI Magnum Equity Fund, UTI Nifty Index Fund, among others," says Mota.

 

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Other investments are also possible if the charity commissioner approves it by a special or a general order. "In my experience, people simply follow what has been practiced for ages. I haven't seen people approaching the charity commissioner for special permissions. With more awareness, the push may come," says Kumar. It is important to note that the charity commissioner is bound to decide on the application for permission within three months or record reasons for not doing so.

The Indian Trusts Act, 1882, is more comprehensive. As per section 20of this Act(that was amended by a gazette notification in 2017) private trusts can invest in government securities, debt mutual funds, minimum AA-rated debt securities by a corporate, Basel III tier-I bonds, infrastructure debt instruments, listed companies having a market cap of not less than 5,000 crore as on the date of investment, mutual funds having at least 65% equity allocation and ETFs (exchange traded funds) and index funds.

(Graphic: Mint)
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(Graphic: Mint)

“While the Act may have defined multiple avenues for investments, if the trust deed prohibits an investment, trustees are bound to follow it. The provisions of a private trust deed can be amended if it explicitly allows so. If it is irrevocable in nature, it cannot be altered without the consent of the beneficiaries or a court order," says Kumar.

Organizations registered as a society under Societies Registration Act, 1860, can also invest in mutual funds and listed companies, etc, as the Act recognizes securities specified in section 20 of the Indian Trusts Act, 1882, for investment. “A section 8 company can invest in listed or other securities as defined under Companies Act, 2013, but it should be aligned with the non-profit objectives of the company," says Kumar.

The common practice

Irrespective of options, most trusts have invested only in fixed deposits. “Trustees have a legal duty to act in the best interests of the beneficiaries. This often translates to a risk-averse investment approach, especially if the trust document doesn't explicitly mention equity investments," says C.M. Grover, MD & CEO, IBSFINtech India.

Ajay Sharma, Managing Partner at Cycas Investment Advisors, cites the example of a Hyderabad-based sports club. "The club has around Rs75 crore liquid funds out of which Rs50 crore is parked in only one private bank, that too at a small local branch. The rates are not competitive either. They are negotiating better rates on our advice. Our distribution arm has managed to move some amount into bonds, but a lot is to be done to put systems in place. The decision-making is too slow," says Sharma. He highlights that the club can easily generate at least Rs1 crore additional funds from investments for its operating expenses.

It is time they understand that other avenues are not really risky but more efficient. Mota got a large charitable institution to reduce interest rate risk and move funds to government securities (G-secs). “We proposed that they get into G-secs with long term maturity so that high interest rates are locked in for a long period. It helped them navigate interest rate risk which they took every 3-5 years when the fixed deposits matured. When interest rates fall, they also stand a chance to gain in terms of capital appreciation," she says.

Sudhir Naik, a gynaecologist and one of the trustees of a Mumbai-based medical association, said his association on-boarded a financial advisor around the time of covid pandemic to deploy funds beyond fixed deposits. "While they suggested a conservative hybrid fund, we chose to stick to G-secs," says Naik.

Amit Bivalkar, the founder of Sapient Wealth and Sapient Finserv, said he recommendedto the managing committee of a sports clubthat it deploy some funds in mutual funds. "Trusts prefer to keep money in fixed deposits but interest accrued on FDs is treated as income. Public trusts have to spend 85% of their income in a year. If they route the same amount in debt mutual funds (in state approved schemes), since capital gains will remain unrealized(not considered as income),they will not be bound to spend it. They can book gains as per their need," says Bivalkar. The interest income from FDs is not taxable for trusts.

 

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Meanwhile, there are opportunities aplenty for charitable trusts to explore newer investment avenues. "Charitable trust laws are too broad unlike rules governing retirement trusts which have clearly defined minimum and maximum limits for different investment buckets, including mandatory investment in equities. A regulatory push can ensure better deployment of funds by charitable entities," says Shiv Pande, a Delhi-based wealth advisor.

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