The government has finally put forward legislation to replace the controversial substantial donor rules, bringing to an end four years of lobbying from charities.

The proposals in the draft Finance Bill 2011 mean charities will no longer have their tax relief withdrawn when entering into commercial transactions with a substantial donor.

Currently charities are liable for taxation on donations if they later make payments to a donor who gives more than £25,000 in a year, or even if they make payments to one of this donor's 'associates'.

Under the changes this definition of a ‘substantial donor’ will cease to exist; instead the focus will be on the donor, who will have to fulfil a ‘purpose test’ to prove they are not seeking to gain an advantage for themselves when making the donation.

If a donation is deemed ‘tainted’ then the donor themselves will be targeted for recovery of relief rather than the charity.

The substantial donor rules were originally introduced in the 2006 Budget, before outcry prompted HMRC to issue revised draft legislation for consultation in July 2008.

However, campaigners were left disappointed when the issue was not addressed in the 2009 Budget or 2010 Finance Bill.