The Heart of Europe -- Government Seeks a New Role
In the Emerging Civil Society
By Milton Cerny
Vienna,
Austria, November 1998
The
floods that devastated parts of Central Europe and the human suffering and
dislocation that has been caused by the war in Bosnia and Kosovo have brought
to the attention of the world the plight of the victims of these natural and
human disasters. The International Red
Cross has highlighted the “silent disasters” occurring in such regions of
Russia as Chukota, where the life expectancy has plummeted to 34 years since
the break up of the Soviet Union.
Government funding of humanitarian assistance is insufficient to meet
the compelling needs. Still,
fundamental issues exist regarding the resurgence of the civil society in
Central and Eastern Europe.
A recent article in The Washington Post of November 27, 1998
entitled “Can Wintry Blast Melt Cold Parisian Hearts?” described French
President Jacques Chirac’s plea to aid the plight of homeless people who were
dying from the frigid cold temperatures that are sweeping across Europe. He was not pleading for aid from the French
government that provides a web of social protections but for the people to take
charity into their own hands and “do something to make things better.” France, like other countries in Central
Europe, has depended on the state to take care of the poor, the distressed and
charitable causes. On average, less
than .15 of a Frenchman’s annual taxable income is devoted to charity. As noted in the article, cynics regard
public support as “private money that is impure and immoral.” They believe that only the state has “pure
money.” Thus, public giving is regarded
as suspect. The problem in France, and
in every other nation of the world, is that the state does not have sufficient
money to fund the needs of its people and thus must look to non-governmental
financial and volunteer resources in the building of its civil society.
______________________
Representatives
of the Finance Ministries and the State Tax Agencies of Estonia, Latvia,
Lithuania, Poland, Hungary, Romania, Slovakia and Slovenia met together with
Russia, Armenia and South Africa at the OECD Institute in Vienna to review
common issues of tax administration concerning the new wave of non-governmental
organizations created after the dissolution of the Soviet Union and the Warsaw
Pact that bound the Central Eastern European countries into a state managed
economy and common defense structure.[1] I had the honor of leading the discussions
on tax exempt organizations with Susan Himes of the OECD, Al Short of the
Canadian Revenue and Bulent Tas of the Finance Ministry of Turkey.
While the majority of the nations
of Western Europe prospered under principles of free enterprise and trade,
Central and Eastern Europe -- on the other hand -- tied to state controlled
economies, could not compete and had to depend on regional trade and a barter
system with their major trading partners to survive. As Western Europe recovered from the devastating Second World
War, Central and Eastern Europe languished and became a closed society. Was this only due to the closed markets, a
woefully inadequate monetary structure, a judiciary and legal system dependent
on the whim of individuals rather than the rule of law? Or was it something deeper in the culture of
these nations that was lacking -- a robust Civil Society.
Before we review what is happening
today in the non-profit sector, it is important that we understand what
happened during and after the period of Soviet domination when the Soviet
system collapsed and these countries gained freedom of expression and action as
they faced a new complex world.
The
voluntary sector of Central and Eastern Europe is not a product of the
revolution that occurred in 1989, even though there is no question that its
growth and impetus comes from the new freedoms granted to individuals and their
right to free association guaranteed by new constitutional rights. Foundations and associations have had a long
and lasting history in this region. In
the Czech Republic, Hungary and Poland, as well as the Baltic States, the
history of these organizations dates back to the 13th century. Prior to World War II, voluntary
organizations played an important role in the establishment of these
countries. In Poland, for example, pre-
World War II voluntary organizations assisted government to deliver social
assistance, education, health and other humanitarian services. In Hungary they were important in the
cultural and political life of the country.
The First Republic of Czechoslovakia in 1918 codified the rights of free
association and speech, which closely paralleled the United States
Constitution.[2]
During
the Second World War and the subsequent years of communist government
domination, these entities’ activities were strictly controlled and limited to
only one purpose — to serve the state.
Voluntary organizations were in reality quasi-nongovernmental agencies
that lacked political and legal opportunity for independent civic
initiatives. Thus, in the 1950’s their
activities became heavily polarized, their primary role was a political one and
any provision of services was merely secondary. This permitted the state to proclaim citizen involvement in
addressing public issues, but at the same time the state controlled their
activities and the citizen’s involvement.
The
extent to which organizations were allowed to operate depended on how secure
the government was in exercising its own power over the people. In Romania, for example, the Ceausescu
government banned even quasi-governmental professional associations. On the other hand, in Poland and Hungary
self help networks and other circles of voluntary groupings were allowed to
exist. The renaissance of voluntary
organizations after 1989 is in large measure due to the deterioration of the
Soviet welfare state and the collapse of economies from poorly functioning
monetary policies that made it impossible for this system to compete with free
market forces.
Thus,
our review must take into consideration not only the past but also the
political and economic realities that exist today before we can examine the
emerging role played by the non-profit sector.
The increasing role that non-governmental organizations (“NGOs”) are
assuming creates a tension and challenge to the governments who still view them
with suspicion and uncertainty as to whether the tax benefits that they grant
actually are used to promote public benefit and democratic principles and not
private enrichment. However, there is a
growing awareness of the vital role these organizations must play to stabilize
the society in which they function. The
high profile support for non-governmental organizations was exhibited when the
heads of state of Austria, Czech Republic, Germany, Poland, Hungary, Slovakia,
Slovenia, Italy, Bulgaria, Romania and the Ukraine gathered at Levoce Slovakia
this past January to voice support for the “Civil Society -- the Hope for a
United Europe.”
The
design choice faced by these nations in reforming their NGO laws is whether to
exempt qualifying “taxpayers” or qualifying types of income. The Basic World Tax Code (“BWTC”) and reform
statutes generally follow the design of exempting qualifying income, which
potentially results in the taxation of NGO income to a profits tax. The basic strategy is to exempt the related
income of the NGO and tax the commercial unrelated business income -- similar
to the United States’ approach. The
BWTC recognizes exemption of “public benefit” organizations, i.e.,
organizations that are organized and operated for specific charitable community
benefit, no part of the assets or earnings of which is used to benefit private
individuals. These organizations
receive some sort of direct government subsidy in the way of distributions from
state budgets or through charitable deductions and value added tax exemption.
Mutual organizations operate for the collective benefit of individuals and
generally without any state subsidy.
The third category of NGOs includes government- sponsored organizations
or instrumentalities that perform essential governmental functions.
The
BWTC requires that each entity must be treated as a separate juridical person,
register with the appropriate government authority, provide a process of appeal
to the Courts in the event of denial of tax exemption, provide a system of
administrative tax penalties for failure to comply with the law on tax
exemption, requirements for reporting to the tax officials through annual
reports and finally a system of taxation of unrelated business activity and
recognition of the deductibility of contributions for individuals and
businesses. Some of the countries allow
commercial activities by their nonprofit sector but apply a “destination of
income” approach that does not tax profits if used for exempt purposes. Others, like Lithuania, tax all commercial
activities of charities whether the profits are used for charitable purposes or
not. Finally, some of the countries tax
commercial activities, but permit the income producing activities to be
conducted in taxable subsidiaries which then can receive a tax deduction for
donations to the charity. Then there
are the value added taxes (“VAT”) which provided a whole series of other
issues.
One
of the most interesting areas concerned the tax deductions of contributions by
corporate and individual donors. There
was no uniform approach by the various countries in either granting the tax
benefit or the percentage deduction allowed.
We will review this issue as we examine each country.
***
“The grand vision of the European Enlightenment was one of all humans as
potentially capable of full humanity, regardless of race or creed, even the
wretched of the earth capable of making their own decisions and sharing in the
core of the common weal. Against the
Hobbesian vision of humans as intrinsically egotistic, having to be restrained
in their greed by a sovereign, it was the vision of humans capable of
voluntarily subordinating their private ends to a common good and the law of
reason. The communists had long and
stridently appealed to idealistic motives.
The reality we saw behind the façade was wholly different: the crass
corruption in business and the exploitation of women in the lowest-paid menial
jobs. Over the years, all idealism
became suspect and we learned to trust only the crassest egotistic motives.”[3]
***
ESTONIA
Estonia has experienced broad
economic growth since 1993. Bolstered
by a strong national desire to reintegrate into Western Europe, Estonia has
adhered to a disciplined fiscal and financial policy that has led the other
former Soviet Union countries in pursuing economic reform. Its economic engine has gained steam from a
low 2% inflation rate and a gross domestic product (“GDP”) growth of 3%
beginning in 1995-96. Small and medium
privatization is nearly complete and large-scale privatization of state energy,
telephone and oil enterprises are on pace.
Estonia has reoriented its trade to the West, with two-thirds of its
exports now sent to Western markets.
Free trade policies are the cornerstone of its policies, which have
gained the approval of the European Union.
However, lingering concerns relate to current account deficits, the slow
implementation of rules and regulations to facilitate the transfer of real
property and the privatization of housing and agriculture.
Estonians
have a long history of democratic ideals.
NGOs are credited with the establishment of organized society. From 1870
to 1917, they helped build a strong basis for statehood. One of the first tasks
of the Soviet occupation powers in 1940 and 1944 was to prohibit NGOs from
existing. Strong cultural and religious
influences developed over centuries during German and Scandinavian colonization
and settlement. Estonians are highly
literate (100% of the population age 15 and over can read and write) and they
have a strong religious culture (most Estonians belong to the Evangelical
Lutheran Church with a sizable minority of Russian Orthodox adherents). Approximately 5,000 to 8,000 NGOs exist in
Estonia today. They tend to be very
small with a staff of 4-5 people.
The Estonian Constitution, adopted
June 28, 1992, serves as the basis of the regulation of the NGO sector.[4] While it granted freedom of association, it
contained broad restrictions enforced by the government. In 1994, the Law on General Principles of
the Civil Code (LGPCC) amended this law and guaranteed the right of
associations to have their own regulations with general norms established by
the LGPCC. Separate laws for
foundations and non-profit associations were provided for with regulation under
the Commercial Code. The Law on
Foundations and the Law on Non-profit Associations entered into force on
October 1, 1996. Tax matters are
regulated through the tax laws.
There are four
kinds of non-profit organizational structures:
h Non-profit
associations -- Voluntary associations of persons both physical and legal.
h Foundations
-- No members, governed according to the articles of association.
h Non-profit
partnerships -- Agreements between two or more persons to carry on a non-profit
purpose. They are not registered and
lack the status of a legal personality.
h Public law
non-profit organizations -- Created by an act of parliament (i.e., Cultural
Endowment of Estonia).
It should be noted that Estonian
civil law does not distinguish between an NGO serving public benefit
interests from those NGOs that are mutual benefit organizations. The definition of “public benefit” in
general use in Europe is defined as those activities that are directed to the
betterment of society generally and commonly referred to as “charitable”. “Mutual organizations” are those directed at
improvement of their members’ benefit as a class. However, the tax law generally recognizes that only public
benefit organizations are entitled to tax benefits. The law on foundations and non-profit associations provides
specific regulations for churches, religious confessions, trade unions,
apartment associations and political parties.
The not for profit associations and
foundations have the following common features:
·
Founding agreement
·
articles of
association
·
bank statement of
funds
·
names and addresses
of board members[8]
Nonprofit organizations in Estonia
concentrate on educational and social benefit projects including the reform of
higher education and secondary curricula implementation of regional preschool
programs. Active Learning in Action are NGO funded programs that teach
students how to run businesses and compete in free market economies. Other programs support 300 schools and 450
teachers in producing innovative teacher training using modern computer and
telecommunications-based techniques.
Internet programs provide distant learning opportunities, hookups with
libraries, educational institutions, and hospitals. A major concern for the government and for the NGO community is
the integration of ethnic Russians and other minorities into the social,
political and economic life of the country.
Comment
Estonia
law is one of the most comprehensive in the Central European region. It has developed a traditional civil law
structure for its nonprofit organizations.
It has permitted related business activities by its foundations. However, its annual registration procedure,
its narrow list of organizations that receive deductible business contributions
and the nondeductibility of individual charitable contributions will limit the
growth of the sector. New legislation
under discussion will alleviate these problems.
HUNGARY
Hungary was the first Central
European country to make the transition to democracy under the controlled
Soviet system. On the fall of the
Soviet domination in 1989, Hungarian transition continued rapidly until 1994
when the privatization of state firms ground to a halt. Budget and current account deficits were at
an unhealthy 8-10% of GDP. A renewed
privatization effort began in 1994-96.
In 1996, unemployment was reduced at 11% and inflation to 20%. Hungary had a 3% GDP growth in 1997 and
projected growth of 5% in 1998. The
restructuring of pension benefits, health care, taxation and higher education
has produced a decreasing role of government.
These developments resulted from a shift away from a state managed
economic policy that secured international monetary support from a standby
agreement. The OECD and NATO have now
welcomed Hungary as a partner.
Hungary is a civil law country
based on the common law tradition that guarantees the right of association,
opinion and religion in which people are free to form voluntary organizations
for any purpose that does not contradict fundamental human rights or seek the
overthrow of the constitutional order by force.[10] In 1987, the Civil Code guaranteed
associations broad freedoms. The
preamble to the Code reflected the strong government support of NGOs when it
stated that “voluntary associations provide the basis for self-organization of
society and their presence is necessary to a healthy development and
functioning of any community at the local or national level.” Foundations also received government
approval for “the role they are expected to play in the deregulation of the
Hungarian economy.” This law was
amended in 1993 to permit the creation of Public Benefit Companies, Public
Chambers, and Public Foundations. In
1997, Hungary adopted Act CLVI that allowed five types of organizations to
register as Public Benefit Organizations under certain conditions.[11] If they met these conditions, they received
preferential tax treatment. The five
types of organizations are:
h Voluntary
associations -- organized by at least ten natural persons, they include
societies, clubs, self-help groups, federations, unions, chambers of commerce,
trade unions, mass organizations and social organizations. They cannot be formed for the primary
purpose of economic activity or any criminal, military or unlawful purposes.
h Foundations -- Foundations are established under a
“letter of establishment” by either natural or legal person or business
partnerships for public interest purposes.
They must have endowments and be operated by an organizational
trustee. Founders have only limited power
over the foundation. Foundations can be
either grant making or operating foundations.
Foundations are generally classified as:
h supporting foundations—which conduct
fundraising for public institutions
h fundraising for specific projects
h grant making
h corporate foundations
Foundations
must pass a public benefit test before the Court grants registration. They must demonstrate to the Court 1) a
durable public purpose; 2) a founding statute; and 3) an endowment large enough
to pursue their goals. Foundations must
also have governance procedures and rules for their operations.
h Public
Benefit Company -- These organizations were primarily established to
facilitate the privatization of government public services through an
established not for profit organization.
They are regulated under the limited liability company rules for
businesses. This type of legal form
applies to nonprofit service providers that cannot meet the requirements of a
foundation or association.
h Public
Chamber Body -- Created by the parliament which delegates specific
activities and public responsibilities to facilitate formerly state run
functions through:
h Public Law
Association (Academy of Sciences, Chamber of Commerce, Associations of Doctors,
Lawyers and Accountants). Because of its quasi-governmental nature, the
government has broad authority over the association.
h Public Law
Foundation (Assumed activities from the government in the field of education,
health care, and public safety). These
entities are financially accountable to the State Comptroller’s office.
The following factors are inherent
features of the laws as they apply to the respective structures.
·
Registration - Must
be registered with the national or local governments. If not registered, the organization can’t engage in the ownership
of property and other transactions, including entering into contracts or
receiving direct or indirect state support.
·
Voluntary
Associations - Must have a set of articles describing activities, purposes,
charitable and business activities, and a statement that it is not engaging in
political activity or that it distributes profits.
·
Must have a statutory
meeting place where articles of association and minutes are kept.
·
Court cannot refuse
registration or order liquidation unless the association’s activities are
unlawful or infringe on personal rights or freedoms.
·
Dissolution -
Distribution must be made to an association with similar purposes or to the State
for public purposes.
·
Foundations
·
Public purpose.
·
Founding document is
a Letter of Establishment.
·
Must have an
endowment to support goals.
·
Individual names a
trustee or the court will select the trustee.
·
Founder may reclaim
assets he or she has donated. If Letter
of Establishment does not specify, court will transfer assets to a similar
foundation.[12]
·
Tax Treatment
·
Voluntary
Associations
·
Exemption from
corporate income tax for scientific, technical, research, cultural,
environmental, sports, health care, and social help for youth and children
·
Income from unrelated
businesses limited to 10% of gross income or to $10 million Hungarian forints.[13]
·
Donations generally
are not tax deductible unless specifically held so by the tax authority on a
case by case basis. Membership fees are
not tax deductible. A new “one percent
legislation” permits individual taxpayers to designate a registered public
benefit organization to receive 1% of their income tax payment.
·
Foundations
·
Tax exemption of
corporate income is the same as for associations with a limitation on unrelated
business income of 10% and a cap of $10 million Hungarian forints.
·
Individuals may
contribute and deduct up to 30% of their personal tax liability if the
recipient is engaged in the fields of culture, education, research, social
care, preventive medicine, sports, public benefit human rights, assistance to
the poor aged, refugees and Hungarian minorities in foreign countries.[14] Donors may not receive any direct or indirect
compensation for the contribution.
·
Corporate donors can
deduct up to 10% of taxable income.
·
Public Foundations – Limits on individual
donor deductions are subject to the
same limits as apply to private foundations.
Corporations can deduct the full
amount of contributions to culture, education, social care, health care, religion, environment, sports,
and care of children or youth.
·
Contributions to
Hungarian organizations operating outside of Hungary for purposes deregulated
for domestic organizations operating in Hungary are similarly deductible.
·
Political Activities
– No restrictions unless it is a public benefit organization and then the
organization must state that it is not engaged in political activities.
Private Benefit and Financial Reporting. The laws provide for conflict of interest rules that require
founders to act in an independent and fiduciary manner toward foundation
activities and its endowment. While there
is a requirement for preparing financial accounts, there is no requirement to
submit the audited financial statement to the government authorities or make
them available to the public.
By far the largest foundation
conducting activity in Hungary is the Soros
Foundation Hungary, expending in excess of $20 million a year, the
foundation supported programs to help restructure higher education. In this regard the World Bank has granted
$60 million to restructure the university system in Hungary. The Foundation has also supported the reform
of conventional teaching structures and programs for teaching democracy. The
Fund for Hungarian Higher Education has been formed to assist Hungarian
Universities in the restructuring through the pooling of funds and activities
that strive to build the infrastructure and staffing of a modern
university. The arts and culture in
Hungary is in large part supported by NGOs.
Efforts have also been taken to modernize the Hungarian health care
system by improving care and services. The Business
Basics Foundation and the Know How
Fund of the British government provide business advice to small and
medium-sized businesses in Hungary.
Possibly the most ambitious program has been the Central European University.
George Soros created this new university at a cost of $60 million as a
modern educational institution drawing students from Central and Eastern
Europe. The university provides the
students a modern curriculum with advanced computer and distance learning
capabilities to prepare students to face the new free market economies.
Comment
Hungary
continues to make great progress toward the creation of a viable nonprofit
sector. Areas of concern are the
concentration of NGO resources in Budapest and the sustainability of NGOs in
the regions if foreign donors withdraw.
The question of transparency of governmental funding of NGOs under the
“1%” legislation needs further clarification.
The restrictive list of public benefit activities provided by the
Hungarian statutes has created problems for foundations. One solution might be to give flexibility by
granting governmental officials with the authority to decide what are public
benefit activities. Missing from the
current list of public benefit activities are services to the unemployed,
neighborhood development, and promotion of entrepreneurship. Government contracting with NGOs raises
potential issues of personal inurement because of political activities and
ethical issues regarding salaries and compensation of Board members. Another weakness is the lack of reporting by
NGOs, the overall effectiveness of their management and their skill in public
relations.
LATVIA
Latvians consider themselves
“Nordics” because of the strong cultural and religious influences of German and
Scandinavian colonization and settlement.
Historically Latvia has also been strongly influenced culturally and
politically by Poland and Russia. A
highly literate society, Latvians place strong emphasis on education and
religion. Because of the Soviet
“Russification policies” -- transfer of a large Russian population into Latvia
-- during the period 1939-89, the percentage of ethnic Latvians dropped from
73% to 52% (33.8% Russian) which, in turn, has generated a strict draft law on
requiring the speaking of the Latvian language and Latvian citizenship
requirements. Under the Soviet
occupation following the Second World War until 1989, Latvia’s industry was
integrated to serve Soviet internal industrial needs. The centrally planned economic system was replaced by a system of
free market principles. Today over 66%
of those employed and 60% of GDP is found in the private sector. Over 58,000 private farms have been
established and most cooperatives have been transformed into joint stock
companies. Riga, the capital, is
emerging as a regional financial and commercial center. On the other hand, privatization of food
processing and large industrial enterprises has been slow. As a result, foreign investment is below the
level of other countries of North-Central Europe.
The
legal environment for NGOs in Latvia is complicated by the fact that under
present law neither foundations nor associations can own property and engaging
in economic activity is highly restricted.
Two legal forms of nonprofit organizations exist under Latvian law --
associations and foundations. The
Ministry of Culture is working on a “sponsorship law” for charitable
contributions to listed public associations.
Under this law, eighty five percent (85%) of the donations are
deductible from the taxable income of companies up to 10% of their total
income.
The law on Public Organizations and
their associations enacted in 1992 provides the following:
·
An organization is
required to be founded by either 10 or more natural persons by mutual
association or by a legal entity that has received approval at congress or
convention.
·
An association of
public organizations shall be founded by two or more public organizations by
mutual association.
·
Branches of public
associations of foreign organizations may be opened in Latvia if their purposes
are consistent with the Constitution.
·
The law excludes
broad categories of income from the taxable base.[15]
·
A charter must
contain the purpose, name, decision-making procedures, admission requirements
and rights of members, procedures for acquiring and expending financial
resources and a provision for the liquidation of assets.[16]
·
Registration is made
at the Ministry of Justice. If
registration is denied, an appeal may be made to the court.[17]
·
Public organizations
can acquire property and conduct business.
·
Financial resources
may come from membership fees, donations, and income from businesses.[18]
·
Organizations must
submit a report of income and expenditures to the State Revenue Service. Any member of the public organization and
the mass media has a right to see the report.
·
Voluntary dissolution. Assets may be distributed to similar
organizations.
·
Involuntary
dissolution. Court may terminate the
operation and distribute its proceeds.
·
Political
organizations can qualify under the law.
·
Professional
associations can also qualify.
·
Organizations of
creative professions qualify.
·
Sports organizations,
societies and universities also qualify.
The law on charitable foundations
is in draft form. It provides:
·
Foundation may be
founded by one or several founders. It
may be funded by investment of its founder and third parties.
·