Non-Profit Nuances I: The Three Duties Care, Loyalty and Obedience

 

"A good deed is not just a duty, but above all, a privilege."

 

- Shari Arison
 

 

 

I thought I would take a break from my series on litigation issues, to go back to something close to my heart: working with nonprofits.  I mean, seriously, who doesn't love working with cute kittens, “happy trees and their friends,”[1] needy folks, and good causes?

 

Disclaimer: The following information does NOT constitute legal advice and is only for general educational purposes.  Each situation is different and specific legal issues usually require additional research and investigation, so do not rely on this article to address a particular legal issue; use this as a starting point to gain a general understanding.

 

Introduction

 

Nonprofits are a big part of the world, not only in terms of impact on the arts, citizenship, culture, fraternity, and science, but economically - especially in the United States.  If the global nonprofit sector were a country, it would have the sixteenth largest economy in the world, according to GDP data compiled by the World Bank.  In the United States, the nonprofit sector contributes $878 billion to the economy.[2]  In 2012, employment in nonprofit organizations was 11,426,870 (which was 10.3 percent of total U.S. private sector employment). This was up from 10,534,183, or 9.2% from 2007.  From 2007 to 2012, the share of those employed in nonprofit organizations increased for most states.[3]  From 2014-2015, almost 63M people volunteered in some project.[4]

 

So, nonprofit, doesn’t mean poor or insignificant: huge budgets, armies of workers, nations worth of volunteers.  But who runs these things? Well, larger nonprofits, obviously have a cadre of powerful and well compensated professional CEO types.[5]  However, many nonprofit boards of directors are not a collection of old style aging cigar-smoking “Mr. Monopolies,”[6] but really hardworking or retired volunteers of all kinds and backgrounds, who possess varying levels of legal or management sophistication and ability.

 

If you’re one of them, this article is for you.  It’s a quick primer on your three primary duties to your beloved nonprofit of choice.  Other articles in this series will dive into other scintillating topics like “not-for-profit” vs. “nonprofit” (usually, people refer to “not-for-profit corporations” as a type of corporation that the state permits you to create, whereas “nonprofit” is a tax-exempt status that the Unites State Internal Revenue Service grants), what the 2013 Revitalization Act changed, maybe some tax stuff … who knows, let’s see where the road takes us.  But for now, let’s talk about (1) Care (2) Loyalty and (3) Obedience.

 

These three “duties” basically apply to any director or board member of a profit making or nonprofit corporation.  The functions and roles of both types of organizations are similar if not identical: (1) Care: don’t let the ship sink (2) Loyalty: take care of the crew, serve the constituents (stockholders in for profit companies, members or beneficiaries in nonprofits) and not yourself, and finally (3) Obedience: stay on course, and keep the nonprofit true to its stated mission.  Generally, you will find many similarities between the New York State Not-For-Profit Corporation Law (commonly abbreviated N-PCL”)[7] and the New York State Business Corporation Law.  Of course, the biggest news with respect to the N-PCL, was its massive revision in 2013 to modernize, simplify and streamline this body of law, but that’s a topic for another day.[8]  For now, let’s look at each duty in turn.

 

Duty of Care

 

Board members and officers shall discharge the duties of their respective positions in good faith and with the care that an ordinarily prudent person in a like position would exercise under similar circumstances.[9]  This standard of care will vary with the type of nonprofit, the board member or officer’s field of expertise, and the particular questions or circumstances involved.[10]  In other words … be careful! Treat the operations and finances of this nonprofit with the same care - or better - that you would do for yourself.  Those dependent on this nonprofit’s services are trusting YOU to make sure these resources are still here when they need them. 

 

However, if you aren’t sure what to do, don’t panic; the New York State Attorney General has several practical recommendations to help board members and officers navigate this duty:[11]

 

(1) Compensation (review contracts, fundraising, salaries); and

 

(2) Compliance (ensure internal controls, external auditors, whistle blowing policies); and

 

(3) Dissent (have frank and spirited conversations, and record contrary opinions); and

 

(4) Employees (encourage your workers, and consider making Board Members personally available to listen to complaints, suggestions, and whistle blowing); and

 

(5) Finances (raise funds, prevent mismanagement); and

 

(6) Insurance (provide enough insurance for everyone: the board, the workers, the organization and its assets - look, a lot of people’s eye glaze over at this stuff, but you will know how important it is when you need it and don’t have it.  You have been warned!!); and

 

(7) Knowledge (know your nonprofit, its programs and website); and

 

(8) Pay Attention (attend board meetings, read briefing materials, ask questions, challenge what you don’t think is correct).

 

What a laundry list, huh? Sorry, it’s not all about backroom cigar smoking and laughing it up.  You know, there’s all this kind of work and stuff you gotta do.  Who knew?

 

Duty of Loyalty

 

Ok, now that you’re overburdened with your responsibilities, let me help you keep out of trouble.  Yes, trouble.  You can get into some, if you’re not careful.  Don’t worry.  Most of it is common sense, but some of it isn’t so pay attention! Come on, it was just on the prior list, shouldn’t be too hard to stay focused…

 

The Duty of Loyalty requires that a nonprofit board member or officer act in the best interest of the organization at all times.  The Common Law Duty of Loyalty requires board members, trustees and officers pursue the interests and mission of the nonprofit with undivided allegiance.  Private interests must not be placed above the nonprofit's interests.  For example, the N-PCL requires board members and officers to act in “good faith”[12] and contains restrictions on Related Party Transactions (basically self-dealing).[13] 

 

Again, the New York State Attorney General has several recommendations to assist:[14] abstain or avert Conflicts of Interest, real or potential, actual or apparent (i.e. perceived), and disclose COIs in advance of joining a board of directors.  COIs (and Related Party Transactions) might be permitted if they are “fair, reasonable and in the best interests” of the nonprofit, but generally should be avoided.  Also, Board Members must promptly disclose a COI or RPT if it arises after they joined the Board (not just every year, but as soon as a COI or RPT is identified, or even beforehand, if the COI or RPT is foreseeable in the future).  Board Members need to avoid transactions which are not in the nonprofit’s primary interest.

 

Also, you should know that in New York State, every nonprofit must have a COI Policy that (1) defines the circumstances of a COI (2) sets procedures for disclosing a COI to the Board (3) prohibits anyone with a COI from being present during or participating in the deliberation or voting on the COI (4) improperly influencing either the deliberations or voting (5) requires the nonprofit to document the existence and resolution of each COI, (6a) requires board members, annually, to sign a statement that identifies nonprofit transactions that can cause a COI or (6b) board member involvement in other entities that could or does cause a COI.[15]  Also, pro-tip: loans to board members are strictly prohibited from the nonprofit (well, under virtually all circumstances anyway).[16]

 

My advice: Review, Resolve & Report.  “Review” COIs and RPT issues.  “Resolve” them either by approving - with proper reason - a conflict of interest (i.e. it’s fair, reasonable and in the interest of the nonprofit), and then “Report” them, i.e. document everything that happened, because there’s always a chance someone later will review your procedures and decisions (an auditor, a disgruntled contractor, someone who doesn’t like you, etc.).

 

Duty of Obedience

 

Wow, there’s a word that grates on your nerves doesn’t it? “Obedient?” It just has all kind of connotations especially these days, huh? However, “obedience” in the scope of director responsibilities means ensuring the nonprofit stays true to its stated goals.  While, there is no explicit reference to the Duty of Obedience in the N-PCL, there is a “Common Law” duty inferred by the limitations imposed upon corporate activities as set forth in the purposes clause of the nonprofit’s certificate of incorporation,[17] and by the board member and officer obligations as corporate managers.[18]  In plain language, courts still will hold you to it.

 

Where are these “goals” stated? Well, if it was done properly, the nonprofit’s original certificate of incorporation, which created it, probably was a good place to put them.  The bylaws of a nonprofit also can state its goals.  And, of course, over time, goals can change.  The general idea is that if the nonprofit’s goal is ... say ... furthering space travel, then the nonprofit should not engage in unauthorized activities that having nothing to do with it.  So for example, our space faring nonprofit might support related efforts to further - oh, I don’t know - laser technology, which could be helpful in guidance systems or energy transference.  However, providing funding to some other good cause like saving the oceans, is probably too much of a stretch from its original mission, no matter how laudatory.  Sorry.  If you want to save oceans, join that type of group.  You have a real duty to people donating money and time for space related activities; as far as they are concerned, not all good causes are created the same.

 

Oh, also, you might wanna comply with all laws, file annual financial reports with New York State agencies such as the Attorney General's Charities Bureau and the Worker’s Compensation Board, pay all U.S. and local taxes, and observe all applicable laws in other states in which the nonprofit conducts activities or solicits contributions. 

 

Note: Board members could be personally liable for failing to pay the wages and benefits of employees, and for failing to withhold, escrow and pay over to state and federal authorities withholding taxes on employees' wages.  Yuppers! You read that correctly.  While, generally you aren’t on the hook for too many things generally speaking  (I probably will cover liability some other time), if you screw up your volunteer board of director-ing (yah, I just made that up), this is one BIG exception. 

 

Finally, make sure your nonprofit provides info about its tax-exempt status (if any); a lot of nonprofits do this by posting their IRS Forms (990, 990PF, 990EZ and 1023) online on their website.

 

Conclusion

 

Remember, you are a steward of resources that do not belong to you; they don’t even really belong to the nonprofit.  The nonprofit holds assets (personal and real property, revenues, accounts receivable, and other stuff) in trust for their beneficiaries (i.e. the poor folks you are feeding, the wild wolves you are conserving, the space you are exploring, etc.), capital contributors (people who donated money who could be entitled to repayment under some circumstances), and general membership (members of your nonprofit chess club, cultural club, political association, whatever).  This is the reason the Attorney General can get involved if things really go wrong.  You shouldn't panic, but should pay attention, ask questions, and (politely) challenge things that don’t seem right. 

 

Your gut will be your first line of defense; if something doesn’t feel right, it may very well not be.  Find out more.  If you find information that settles your queasy stomach, great.  If not, you probably were on to something that needs to be addressed; no shame in that for anyone.  Proper compliance with laws and rules often is very confusing and many individuals and organizations make errors and mistakes, with no ill-intent.  Of course, there are exceptions, and sometimes purposeful or neglectful actions of a serious kind need equally serious remediation. 

 

Unfortunately, that is not above your pay grade - as a board member, you have a truly awesome (as in “awe-inspiring”) responsibility - you don’t report to anyone, they all report to you, even if you are a volunteer.  So, please take this leadership role seriously.  But also take enjoyment and pride: without you, these organizations would not have the leadership or support they desperately need to survive and thrive, help others and make the world a better place!

 

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[1] If you don’t know what I’m talking about, you’re probably younger than me, but here are the references: https://en.wikipedia.org/wiki/Bob_Ross and  http://www.bobrossquotes.com/quotes.shtml; and a little humor if you need it (some parts may be a bit "mature"): https://www.youtube.com/watch?v=WGN5xaQkFk0.

 

[2] https://www.councilofnonprofits.org/economic-impact.

 

[3] http://www.bls.gov/opub/ted/2014/ted_20141021.htm.

 

[4] http://www.bls.gov/news.release/volun.nr0.htm.

 

[5] http://www.ajc.com/news/business/nonprofits-pay-for-top-talent/nQSsR/.

 

[6] http://www.forbes.com/2006/11/20/uncle-pennybags-money-tech-media_cx_de_06fict15_monopoly.html and https://en.wikipedia.org/wiki/Rich_Uncle_Pennybags.

 

[7] N-PCL, §101.

 

[8] http://www.ag.ny.gov/press-release/ag-schneidermans-nonprofit-revitalization-act-signed-law.

 

[9] N-PCL, §717.

 

[10] N-PCL, §717, McKinney Practice Commentaries (2015).

 

[11] NYS Attorney General, Right from the Start: Rights and Responsibilities of Directors of Not for Profit Corporations. 

 

[12] N-PCL, §717.

 

[13] N-PCL, §406 & §715; EPTL §8-1.8.

 

[14] NYS Attorney General, Right from the Start: Rights and Responsibilities of Directors of Not for Profit Corporations.  https://www.charitiesnys.com/pdfs/Right-From-the-Start.pdf.

 

[15] N-PCL, §715(a).

 

[16] N-PCL, §716.

 

[17] N-PCL, §201, §202 & §402(a)(2); Consumers Union Of U.S., Inc., v. New York State, 5 N.Y.3d 327 (2005) (see footnote #16: The common law duty of obedience..

 

[18] N-PCL §701 & §713.

 

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The content on this website is for informational and educational purposes only. Said content does not, and is not intended to, constitute legal advice. No attorney-client relationship is created through your use of this website, or merely by contacting this law firm.  Results are never guaranteed, and prior results do not guarantee a similar outcome, but I will work hard toward attaining the best outcome for you.

 

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