Legal Structures for Social Enterprises in Canada

By Martika Ince | JD Candidate 2024, UCalgary Law
 
A social enterprise, or a benefit corporation, is one that pursues primarily social or environmental goals through an entrepreneurial structure. As social entrepreneurship gains popularity in Canada, it is crucial for entrepreneurs to be aware of and understand their options in structuring their business. This provides a brief overview of three different legal structures for those who are starting to think about how to organize their social enterprise.  
 
Registered Charity
 
Registered charities are organizations that have a charitable purpose and devote their resources for charitable activities. The Income Tax Act (ITA) provides that organizations can become a registered charity after applying and being approved by the Canada Revenue Agency (CRA).[1] The charitable purpose must fall into one or more of the following categories:
·       The relief of poverty;
·       The advancement of education;
·       The advancement of religion; or
·       Other purposes that benefit the community.[2]
 
Registered charities benefit from a general tax exemption under the ITA.[3] As a charity, you are also able to issue charitable donation tax receipts so that donors can claim tax credits or deductions for charitable gifts.[4]
 
Registered charities can generate revenue in two ways:

1. Charging fees for the charitable service provided, such as a community centre charging for their programming, and
   
2. Carrying on ‘related business’ activities, such as renting out community centre space to third parties.[5]

 
However, carrying on an unrelated business activity is grounds for revocation of charitable registration. This is an important consideration in deciding whether registered charity status is right for your social enterprise, as this rule can severely limit the organization’s activities.[6] Moreover, you may face difficulty in securing private investment as a charity. Venture capitalists and other investors are often less motivated to invest funds to support a social benefit activity that may generate a lower return than pure for-profit entities.   
 
Non-Profit Organization
 
Another structure often used for a social enterprise is a non-profit organization, which has a social benefit purpose and does not operate for profit. You can choose to operate as a non-profit after incorporating into a corporate structure. Non-profits are typically organized as a non-share capital entity to alleviate the concern that owners and shareholders are accumulating wealth.[7] As such, third parties cannot invest in the same way they would with a share capital corporation.
 
Non-profits are exempt from paying income tax, but they must fulfil certain requirements to do so.[8] A non-profit organization can generate revenue if the business is connected to its social mission. The CRA may revoke a non-profit’s tax-exempt status if it is found to carry out trade or business exclusively with a view to profit.[9]
 
The following may indicate that a non-profit is operating for profit:
·       Trade or business operating in a normal commercial manner;
·       Goods or services are not restricted to members and their guests;
·       Operated on a profit rather than cost-recovery basis; or
·       Operated in competition with taxable entities carrying on the same trade or business.[10]
 
In some cases, generating profit to be directed to a social benefit purpose can be considered a for-profit activity by the CRA, rendering the organization ineligible for the tax exemption.[11] As such, non-profit organizations are limited in the ways that they can make money.
 
Business Corporation
 
Corporations are arguably the most flexible vehicle for carrying on social enterprise. A business corporation or for-profit corporation is a legal entity that exists separately from its owners – it is treated as a natural person. Corporations can be incorporated under the Canada Business Corporations Act (CBCA) federally or under the provincial equivalents. In order to indicate your corporation is a social enterprise, you should include your social mission in your articles of incorporation or in a resolution passed by the executive board or shareholders.[12]
 
The benefits of choosing a business corporation for your social enterprise are many. You can conduct any business activities, collaborate with anyone you wish, and use the proceeds with more freedom. Business corporations also have a flexible capital structure, which can attract private investment with no formal limit on returns. If desired, share conditions can be used to establish a set percentage of earnings that will be directed to the social mission, and formal restrictions can be placed on shareholder returns.[13]
 
There are also disadvantages to consider in choosing the appropriate legal structure for your business. As corporations are not a qualified donee under the ITA, they cannot attract funding from the charitable sector. They also do not benefit from a tax-exempt status under the ITA. However, corporations can deduct a percentage of their annual income on account of charitable donations. Another disadvantage is that corporations can be perceived by the public as using the cover of a social purpose to create wealth and benefit themselves.[14] It is important to be transparent about how your social enterprise contributes to a social or environmental goal.
 
Conclusion
 
Many legal structures exist for a business, but registered charities, non-profit organizations, and business corporations are the most commonly used for a social enterprise, each with their respective benefits and disadvantages. If you have questions or require additional information about different legal structures for your social enterprise, please reach out to the BLG Business Venture Clinic.
 

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[1] Innovation, Science and Economic Development Canada, “Start, build, and grow a social enterprise: Build your social enterprise” (26 November 2021), online: Government of Canada,  <https://ised-isde.canada.ca/site/choosing-business-name/en/start-build-and-grow-social-enterprise-build-your-social-enterprise#s2> [ISED].

[2] Ibid.

[3] Income Tax Act, RSC 1985, c 1 (5th Supp) [ITA] at s 149(1)(f).

[4] Susan Manwaring & Andrew Valentine, “Social Enterprise in Canada”, The 2012 Lexpert (Thomson Reuters Canada Ltd, 2012) [Manwaring].

[5] Ibid.

[6] Ibid.

[7] Manwaring, supra note 4.

[8] ITA, supra note 3 at s 149(1)(l).

[9] ISED, supra note 1.

[10] Ibid.

[11] Manwaring, supra note 4.

[12] ISED, supra note 1.

[13] Manwaring, supra note 4.

[14] Ibid.