Hungary is a civil law country, and as such it recognizes two traditional civil law forms of nongovernmental, not-for-profit organizations (NGOs) – the association and the foundation.
Hungary recognizes additional organizational forms, including public benefit companies[1] and public chambers. Public chambers arise rarely, as these are formed by government agencies or by an act of Parliament. From 1994 to2006, Hungarian legislation permitted the establishment of a public foundation (a foundation created by the Parliament, central or local government), but this form was discontinued as of January 1, 2007.
In addition, Hungarian legislation enables NGOs to qualify as "Public Benefit Organizations," or PBOs (these are not to be confused with "public benefit companies"). This legislation is Act CLVI of 1997. Because many Hungarian organizations qualify for PBO status, and because that status will bring the organization closer to being an IRC section 501(c)(3) equivalent, grantmakers should inquire as to whether an NGO is a PBO.
For practical purposes, then, a potential grantee will likely be organized under Act IV/1959, as amended, as
an association,
a foundation, or
a public benefit company.
Regardless of its legal form, the organization may have PBO status under Act CLVI/1997, as amended.
B. Tax Laws
An NGO's income from grants, donations, and membership fees is exempt from corporate income tax. Hungary also exempts from corporate income tax an NGO’s income derived from statutory or related economic activities, with unrelated economic income subject to tax under certain circumstances. Hungary also subjects certain sales of goods and services to VAT, with a limited list of exempt activities.
The personal income tax law and the corporate income tax law provide tax benefits for donors, and these may be relevant to an American corporation doing business in Hungary in deciding whether to engage in direct corporate grantmaking. Hungary and the United States have entered into a double taxation treaty, which may also affect gift decisions of U.S. corporate grantmakers doing business in Hungary.
Association
An association (sometimes referred to as a "voluntary association," a "social organization," or a "society") is a self-governed, voluntarily established organization which is formed for a purpose defined by its charter and which organizes its members’ activities in order to achieve its aim [Act IV/1959 § 61]. An association has members – called a "registered membership" under local law. At least ten natural persons and/or juridical entities are required to form an association [ Act II/1989 § 2 (1) and § 3 (4)]. An association cannot be formed for the primary purpose of performing economic activities [Act IV/1959 §62(3)], nor can it be formed for criminal, military, totalitarian, or unlawful purposes [Act II/1989 §2(2), (3)].
Foundation
A foundation is an organization established through a "Letter of Establishment" by any natural or legal person or by a business partnership without legal personality. A foundation must be established for long-term (or long-lasting) public interest purposes [Act IV /1959 §74/A(1)]. A foundation must have and disclose sufficient assets to achieve its purposes – or at least to start its operations --and an administering organ (i.e., a board) must be appointed [Act IV/1959 §§74/B(1)(c), 74/C]. After establishing a foundation, founders have only a limited power over its operations [ Act IV/1959 §74/C(3)].
Public Benefit Company (See endnote [1] for expected changes to the PBC form.)
A public benefit company is an organization established to regularly pursue a public benefit activity and to conduct accompanying economic activities. A public benefit company may not distribute any profits to its members [Act IV/1959 §57(1)]. The goal of this form is to facilitate the privatization of public services through a non-profit service-providing institution. A "public benefit company" is regulated by the rules for limited liability companies and for business companies [Act IV/1959 § 57 (2)].
Public Chamber (Public Body)
A public chamber is a self-governed organization with a registered membership, which is established by an act of Parliament. A public chamber fulfills a public task connected with its members or with the activity performed by its members [Act IV/1959 §65(1)]. Legislation may delegate certain public responsibilities to public chambers (such as certifying professional qualifications) and may prohibit non-members from engaging in those activities [Act IV/1959 §65(3,4)]. Where not stated otherwise, the rules for associations apply to public chambers [Act IV/1959 §65(6)].
Public Benefit Organization – Any organization registered as one of the four general legal forms-- except for insurance associations, political parties, and interest groups of employees (i.e., trade unions) or employers--may register as a PBO in order to receive certain tax advantages [Act CLVI/1997 §2(1)]. As of July 1, 2006, a number of other forms have been added to the pool of potential PBOs. As a result, eligible forms include: a national professional sports federation, a non-budgetary (i.e. private) higher education institution, a social services cooperative conducting public benefit activities , and the Hungarian Higher Education Accreditation Committee and the Higher Education and Science Council. [ Law CXXXIX of 2005]. The requirements for status as a PBO are stringent and may help meet IRC §501(c)(3) and Rev. Proc. 92-94 requirements. For an organization to register as a PBO, its governing documents must contain the following provisions:
A description of the activity of the organization and a statement that the organization does not exclude non-members from its services;
A statement that the organization pursues economic activity only in the interest of realizing its public benefit objectives, without jeopardizing them;
A statement that the organization does not distribute profits; and
A statement that the organization does not pursue direct political activity [Act CLVI/1997 §4].
A subset of PBOs, known as "outstanding" or "prominent" PBOs, perform governmental responsibilities and receive added tax advantages [Act CLVI/1997 §5].
In order to qualify as a PBO, an organization’s governing documents must state that “the organization does not distribute profits, but spends them on the activity defined in its founding document.” [Act CLVI/1997 §4(1)(c)]. But this requirement is not broad enough to encompass all inurement possibilities. Situations may occur where inurement issues arise, most notably upon dissolution of certain kinds of organizations (see Section C, below).
Foundations and public benefit companies can permissibly be formed such that founders retain a proprietary interest in the organizations. This is true even for organizations registered as PBOs, because Act CLVI/1997 does not preclude such interests. The founders of both foundations and public benefit companies are entitled to reacquire their contributed assets upon dissolution as long as the founding documents contain such provision (see C.2. and C.3., below). Any remaining assets must be distributed for public benefit purposes.
Founders do not retain proprietary interests in associations, but members may have reversionary interests in non-public-benefit associations. Public chambers and public foundations, which have state bodies or the Parliament as a founder, permit reversion of assets to the founder.
The general assembly or board of directors has the ultimate decision-making power over the dissolution or merger of an association [Act II/1989 §12(1)]. If the articles of incorporation do not specify how the remaining assets are to be distributed, then the board of directors must decide how to distribute them. The only limitation is that the board must first pay creditors. Should the board fail to decide how to distribute the remaining assets, the government acquires the assets and uses them for public interest purposes [Act II/1989 §21]. The law permits non-public-benefit associations to distribute remaining assets to members upon dissolution.
2. Foundations
The founder of a foundation may reclaim donated assets. If the "Letter of Establishment" does not specify how the remaining assets are to be distributed on dissolution, the court overseeing the dissolution will transfer them to a foundation with a purpose similar to that of the dissolved foundation [Act IV/1959 §§74/E(5)].
3. Public Benefit Companies
A public benefit company may not be transformed into a for-profit company, but may only merge with another public benefit company, or split up into separate public benefit companies. In the case of termination without a successor, (1) the organization’s debts must be liquidated, (2) then the members of the company are entitled to receive the amount of the nominal capital they contributed, and finally (3) any remaining assets must be spent for public benefit purposes, in a manner that must be specified in the articles of incorporation [Act IV/1959 §59 (3), § 60 (1), (3)].
4. Public Chambers
The rules on dissolution of associations apply to public chambers [Act IV/1959 §65(6)].
5. Public Benefit Organizations
If an ongoing organization loses its PBO status, the PBO law requires that within a reasonable time, the organization must pay taxes and other debts owed to the state and fulfill its duties under contracts for the performance of public services [Act CLVI/1997 § 20]. If, however, the organization dissolves upon losing its PBO status, the rules governing dissolution are determined by its specific legal form (as described above); the PBO law does not impose separate rules.
In practice, the courts increasingly deny PBO status to a foundation or association if its governing documents do not specify another PBO with similar purposes that will receive the assets upon dissolution. Still, because this rule is not specified in the law but depends on the court that handles the case, it may be prudent for grantmakers to ensure that the organization’s governing documents address these dissolution issues.
NGOs in Hungary are generally permitted to engage in all lawful activities, but they are restricted to the activities specified in their charters. Foundations must serve public benefit or public interest purposes; associations are not so restricted. PBOs, however, must undertake activities listed in the law.
2. Public Benefit Activities
The activities that PBOs may carry on are as follows:
maintenance of health, prevention of illness, medical care and health rehabilitation activities;
social activities, family aid, care of elderly people;
scientific activities, research;
education and instruction, development of skills, dissemination of general knowledge;
cultural activities;
preservation of cultural heritage;
protection of monuments;
preservation of nature, protection of animals;
protection of the environment;
protection of children and youth, representation of the interests of children and youth;
promoting equal opportunities for groups in a disadvantageous social position;
protection of human and civil rights;
activities related to national and ethnic minorities in Hungary and to Hungarians living beyond the borders;
sports, with the exception of sports activities pursued on the basis of employment or commission as defined by the civil law;
protection of public order and traffic safety, voluntary firefighting, rescue, and disaster prevention;
consumer protection;
employment rehabilitation;
promotion of training and employment for those having a disadvantageous position in the labor force market, and related services;
promotion of Euroatlantic integration;
services provided for and only available to public benefit organizations;
activities related to the performance of flood prevention and protection against ground water inundation [Act XIV/1998 added this purpose to Act CLVI/1997]
activities related to the improvement, maintenance and operation of roads, bridges or tunnels open to traffic [Act XIV/1998 added this purpose to Act CLVI/1997]
crime prevention and protection of victims [Government Decree 1009/2004 added this purpose to Act CLVI/1997]
3. Economic Activities
The law in Hungary does not restrict NGOs from engaging in any economic activities. Thus, NGOs in Hungary may pursue any sort of income-generating activity (investment, trade, etc.) to help finance their operations. However, associations and foundations must not have as their primary purpose the performance of economic activities [Act IV/1959 §§ 62 (3) and 74/B (6)]. And none of the legal forms may distribute profits to any person – all profits must be used to carry out the purposes of the organization. This is required by statute, in the case of PBOs [Act CLVI/1997 § 4 (1)(c)] and public benefit companies [Act IV/1959 §57 (1)]; and by judicial practice, in the case of other NGOs.
For PBOs, § 26(c) of Act CLVI/1997 gives a definition of public benefit activity with an exhaustive list of the preferred fields (see above). PBOs are barred from pursuing economic activities that do not advance their public benefit objectives [Act CLVI/1997 § 4 (1) (b)].
Under the corporate tax law, Hungary generally taxes an organization’s "entrepreneurial activities," defined as "economic activities aimed at or resulting in the acquisition of income or property" [Act LXXXI/1991 §1.1]. An NGO’s income from economic activities is not taxed, and not deemed “entrepreneurial,” if the activities are related to the organization's public benefit activities or statutory purposes. Income from unrelated economic activities is subject to taxation as “entrepreneurial” [Act LXXXI/1996 Schedule No. 6].
Act IV/1959, as amended, places no restrictions on legislative or political activities of NGOs. Foundations and associations may nominate and support candidates and legislation freely.
However, if the organization is registered as a PBO under Act CLVI of 1997, its founding documents must state that it does not pursue direct political activity, it is independent of political parties, and it does not provide financial support to them [ Act CLVI/1997 Ch. 2 §4(d)] Under Act CLVI/1997 §26 (d), "direct political activity" includes "political party activity and nomination of candidates for Parliamentary and local governmental elections at the county level, including the city of Budapest." The prohibition does not apply to the nomination of candidates for local elections at the municipal level (including districts of the capital). Similarly, although PBOs cannot support political parties, PBOs may be supported by political parties.
Act CXXV/2003 bars racial discrimination by any school that uses a state-accredited curriculum or that receives direct or indirect financial support from the government, which accounts for the vast majority of Hungarian schools.
In general, no restriction exists on the control of not-for-profit organizations by other organizations or persons. Iit is possible that a Hungarian NGO may be controlled by a for-profit entity (which will lead to additional IRS scrutiny) or by an American grantor charity (which requires that the charity specifically so provide in the affidavit).
Hungarian NGOs are exempt from paying corporate tax on all income except income derived from unrelated economic activities.
Hungary generally taxes an organization’s "entrepreneurial activities," defined as "economic activities aimed at or resulting in the acquisition of income or property" [Act LXXXI/1996 §1.1]. For a foundation or an association "the tax base … is the pre-tax result of its entrepreneurial activities” [Act LXXXI/1996 §9].
All income related to an NGO's statutory activities is deemed non-entrepreneurial and therefore exempt from corporate tax. This exemption includes an NGO's income from grants, donations, membership fees, and related economic activities. Only income from unrelated economic activities is subject to taxation as entrepreneurial [Act LXXXI/1996 Schedule No. 6].
B. Tax Deductions, Credits, and Rebates for Charitable Contributions
Tax deductions and credits
Donations to Hungarian NGOs with PBO status are tax-deductible [Act LXXI/1996 § 1(a); § 7(1)z)]. Donations to other organizations (with the exception of churches) are not deductible.
For "prominent" PBOs, which perform governmental services, companies can deduct 150% of the amount of all donations up to 20% of pre-tax income. For other PBOs, companies can deduct the whole amount of donations up to 20% of pre-tax income [Act LXXXI/1996 § 7 (5)]. If the company gives to both types of PBOs, the combined aggregate limit is 25% of pre-tax income. [Act LXXXI/1996 § 7(6)] Multiyear grant contracts (at least four consecutive years) are eligible for additional tax incentives [Act LXXI/1996 § 7(5)].
Individuals whose annual income is below HUF 3.4 million (at the time of writing, this is approximately $17,000) are entitled to a tax credit of 30% of their donations to PBOs. Individuals whose annual income exceeds the stated amount cannot claim any tax preferences. There is a cap to that tax credit of 50,000 forints (approximately $250) per year for donations to PBOs and 100,000 forints (approximately $500) for donations to prominent PBOs [Act CXVII/1995 § 41].
Moreover, overall tax credits (including the one on donations given to PBOs) granted for individuals may not exceed 100,000 HUF.
Rebate of individual taxes to charity
Individuals living in Hungary who pay income tax are also entitled to apply one percent of their income taxes to specific NGOs that carry on public benefit or public purpose activities [Act No. CXXVI/1996]. For a discussion of the requirements of this legislation, see ICNL’s paper "Hungarian Tax Rebate Provision – The One-Percent Rule," www.onepercent.hu.
C. Value Added Tax
Generally, all organizations engaged in economic activities are subject to the VAT. The standard rate is 20%, with some goods and services taxed at 15% and very few at 5%.
Sales of certain products and services are exempt, including health care, social care, public radio and television broadcasting, accredited adult education, hostels and dormitories, nonprofessional sports, and membership-based community services. [Act LXXIV/1992 §30 (1) and Schedule 2]
The Tax Authority can, in its discretion, exempt the import of goods from the VAT if (1) they are imported without compensation, (2) they will be used for activities that serve a wide range of citizens, especially in the areas of social protection, health, education, culture, religion, the environment, and regional and municipal development, and (3) the importer has no right to claim a rebate on the VAT.
Any VAT paid on goods imported for use in activities that serve a wide range of citizens, especially in the areas of social protection, health, education, culture, religion, the environment, and regional and municipal development, can be rebated if the foreign donor, as a condition of the gift, stipulates that the recipient shall not be liable for taxes.
Upon approval of the Tax Authority, finally, an NGO can be exempt from paying any VAT, and can therefore reclaim VAT paid, for the purchase of goods (other than personal transportation vehicles and gasoline), if (1) the goods are exported to a non-EU country and distributed there; and (2) the NGO operates on a fully voluntary basis, with no compensation paid to any members or officers (this prohibition does not apply to prominent public benefit social and health care NGOs – they can seek to reclaim VAT even if they pay their staffs) [Act LXXIV/1992 §71 (9) and (10)]. Very few NGOs have been able to take advantage of this regulation.
D. Double Tax Treaty
Hungary has entered into double tax treaties with a number of countries, including the United States. When such a treaty is in existence, dividends, interest, and royalties arising in one country and paid in another are subject to tax only in the country where paid.
Nilda Bullain
Senior Legal Adviser
European Center for Not-for-Profit Law
Apaczai Csere Janos u. 17
1st Floor, Budapest 1052
Hungary http://www.icnl.org/ecnl
361-318-6923 - fax 361-266-1479 nilda@icnl.org.hu
[1] A new Company Law which was enacted in January 2006 and will come into effect in June, 2007, will discontinue the public benefit company ("PBC") form. Currently registered PBCs will have to transform, merge or dissolve by June 2009. At the same time, a new category of organization called the "nonprofit corporation" (or "nonprofit company") will be created. The nonprofit corporation will not be a separate form but the non-profit distributing version of an otherwise for-profit company form (e.g., partnership, limited partnership, limited liability company, or shareholder company). These companies will be able to apply for a PBO status in the same way as foundations or associations.
