We’re all by now familiar with the growing debate prompted by Keir Starmer’s Labour party around independent schools and whether they are worthy of the tax breaks they receive as charities. The question is partly ideological, of course, but couched mostly as one of practicality; a way to raise cash to apply across the wider schools sector. We don’t comment on the rights and wrongs of the issues here, but focus on what has been less explored to date: the questions of law that the discussion raises.
This article explores the potential legal routes that could be taken to effect change by a future Labour government (with a sufficient parliamentary majority) and considers the implications for independent schools.
What might happen?
The options are manifold but might:
- concern charitable status per se, ie seeking to change the law such that independent schools are no longer charities
- involve legislating so that independent schools on the current model would still be charities, but face a more severe public benefit test, or
- address the tax position in isolation from charitable status itself, probably focusing on tax treatment that doesn’t depend on that status, ie VAT.
If the aim is fundamentally to raise cash, it’s tax that is key, but the charity law and tax elements are interrelated. Any measures that had the effect of removing charitable status would mean the loss of tax breaks. The beneficial tax treatment enjoyed by charities is patchwork in nature, and depends on the activities undertaken as well as the legal structure the relevant charity possesses. There is a wide range of reliefs and exemptions, with charities for example generally not facing tax on their profits / surplus and capital gains, receiving 80% mandatory (and up to 20% discretionary) relief from business rates, enjoying Gift Aid on donations, and having an exemption from stamp duty land tax when acquiring property.
It would be possible for legislation to address this tax position indirectly (by removing charitable status) or directly (by removing some or all of the specific tax treatments available).
Addressing charitable status
On the first of these options, a future government might amend the Charities Act 2011 so that independent schools are specifically carved out. The Labour party has proposed drafting along these lines, which is somewhat similar to that used by the Scottish Government in its 2022 amendment to the Non-Domestic Rates (Scotland) Act 2020. The Labour wording is: “An independent educational institution is not a charity for the purposes of the law of England and Wales, notwithstanding section 1 of the Charities Act 2011 (meaning of “charity”) unless the institution provides education only to children with special educational needs“.
In itself, this is not clear or really workable, and we assume it’s intended more as a debate-provoker. For example, “independent educational institution” invites questions. An academy trust is an independent educational institution, but it is also an exempt charity that enjoys the same tax benefits as an independent school in the sense of ‘private school’ as that term is generally understood.
Picking holes in this early Labour drafting isn’t to say it would necessarily be impossible to craft provisions of the Charities Act that would exclude the types of school the party has in mind, but it’s far from straightforward.
As we’ve touched on, an alternative approach is to leave aside the ‘charitable’ element of the question (accepting that independent schools can be charitable), and instead focus on making it harder to obtain and maintain that status, by putting in place a statutory public benefit test.
Currently, charities must in addition to furthering an exclusively charitable purpose, operate for the public benefit, with any private benefit or detriment arising from their activities being no more than incidental. There is, though, no clear statutory bar that a given charity must clear. Where a charity charges fees, these must not exclude the ‘poor’ (as referred to in the Charity Commission’s guidance), at least making more than minimal or tokenistic provision for them, but beyond that it is for the relevant trustees to use their judgement. This was confirmed when the Independent Schools Council challenged the Commission’s previous guidance in 2011. It’s conceivable that a more stringent test could be introduced now, which might mean some independent schools having to increase (perhaps significantly) the level of public benefit being delivered. There might, say, be a mandatory minimum level of fee-assisted places.
Such an arrangement might be policed by the Commission and, if a given school failed to meet the requirements, it might lose its charitable status and therefore the associated tax breaks. While some schools are already striving towards needs-blind admissions (having perhaps substantial endowments that make this conceivable) this would obviously have a serious effect on many schools’ operating models.
Introducing a statutory public benefit test might be easier to implement from a legislative point of view than tinkering with the definition of a ‘charity’, but it would still be very challenging, including from a practical point of view. Public benefit is currently not only delivered through fee remission, but also by a great number of other means, such as sharing facilities and resources with the maintained sector. If the Commission were required to substitute its own judgement for the trustees’ in determining what is sufficient public benefit, this would likely be a recipe for uncertainty and dispute.
Addressing tax treatments directly
The multi-faceted tax treatment currently enjoyed by charities resides outside the Charities Act 2011, in legislation, regulations or exemption notices relating to the taxes in question. A Labour government with sufficient majority could potentially amend the relevant provisions but this would be harder to do where the schools would retain charitable status, with the tax treatment in question ordinarily attaching to it.
For example, business rates relief is the largest tax relief claimed by charities, apparently worth £2.4 billion to the third sector as of 2021. The Labour party has shown an interest in targeting this relief, perhaps inspired by the approach in Scotland, where rates relief was removed in 2022 for charities operating as independent schools.
But rates relief is available specifically to charity occupiers of premises that are used wholly or mainly for charitable purposes, so a legislator would need to consider the interplay between the rating treatment and charitable status (and activities). More straightforward from a charity law point of view would be removing the relevant VAT exemption, as this attaches to the nature of the supply in question (education) rather than the status of the supplier. It would be relatively simple for this to be removed, such that VAT would become chargeable on school fees, though there would still be significant wrinkles to iron out, such as how to distinguish educational supplies made by an independent school from other fee-charging providers of education, such as universities. There might also be the option of imposing a rate lower than 20% for the relevant supplies, even if just for a period, to soften the immediate impact on the sector.
The Labour party’s recent parliamentary motion proposing the creation of a committee ‘to consider reforming the tax status of private schools‘ might suggest that they are not entirely certain about how best this might be achieved, and are seeking to obtain cross-party input and consensus on the way forward. But equally, this may simply have been an effort in keeping the matter under discussion in the House, and in the headlines.
Implications for independent schools
On balance, the removal of some of the existing tax treatment, and probably around VAT, looks the most likely route of travel. The ideological qualms – it seems – would be more closely addressed by adjusting charitable status and/or imposing a statutory public benefit test, but that is much more complex to do and would perhaps be more likely to get bogged down on the way through parliament.
Adding VAT to charges imposed for educational supplies is (subject to the caveats above) more straightforward. And it might achieve a result for the Treasury that a Labour government would be happy with – though obviously there has been much discussion about what the overall fiscal outcome would actually be, taking into account issues like potential recoverability of input VAT by schools that charge it, the potential burden on the state sector if some independent schools close down or become academies etc. etc.
It’s hard to say what might happen. But it seems clear that this is now a quite central Labour policy, and likely to be reflected in their manifesto, so it’s crucial that independent schools think hard about the possibilities, and what the impacts might be for them. If charitable status is lost, in some cases, it may be that portions of the school assets could be ring-fenced within a separate charity, with the school undertaking itself being operated by a non-charitable sibling or subsidiary company. Or if the only change is to VAT, it may be that with careful handling (and recovery of input VAT) things can continue broadly on their current model, acknowledging that a significant percentage of the current parent body will likely be priced out.
Whatever plans are drawn up now will need to be highly flexible, with schools ready to respond to a developing policy picture. We will continue to monitor and comment on the situation, and are ready to assist independent school clients as they plan for the future.
For further information, please contact:
Philip Reed, Partner, Withersworldwide