Many of us are generous to say “yes” when asked to volunteer on the board of a non-profit organization – church, fire department, animal shelter, chamber of commerce, civic club, tennis club, historical society, hunger relief organization, etc. These organizations make our communities better (and some make our communities more fun).
While these examples of non-profits are different kinds of 501(c) organizations, the legal obligations of a board member are much the same. Good governance for all non-profits is governed by IRS and other federal regulations and by state statute (which for this article means North Carolina).
Board members have a fiduciary duty to the organization (and to members, if it has them). A fiduciary duty simply means putting the organizations’ (and members’) interests first, above your own. North Carolina law divides this duty into 3 categories:
(1) Duty of Care: Board members must give reasonable care and attention to their duties and to overseeing the organization. They must exercise independent judgment. To fulfill this duty, it is important to:
- Attend meetings and participate in discussions
- Read reports, and ask for reports if not already provided
- Be generally familiar with the laws and regulations that apply to the organization’s mission and circumstances
- Call on experts when needed (accountants, investment advisors, lawyers, specialists) – Once you do, you can rely on their advice
- Be transparent and communicate with members
(2) Duty of Loyalty: The organization should have rules on conflicts of interest, and the Board must follow them. A majority of disinterested board members (but at least 2) may approve a conflict transaction if they believe it is in the best interest of the organization (e.g., doing business with a Board member of their family).
(3) Duty of Obedience: Board members must be true to the organization’s purposes and goals. They must use conditional gifts (those given on condition of using them in a particular way) as intended.
You may wonder, “Does that mean if hindsight shows I voted for an unwise decision that I will be personally liable for breach of fiduciary duty?” That would be scary. Fortunately, that is not usually the case. Fiduciary duty is tempered by the Business Judgment Rule (BJR). This means that even if the organization’s action turns out to be unwise or unsuccessful, if the board member exercised good faith in learning about the matter and in making a judgment about it, they won’t face liability for their vote or action. The BJR never protects directors in the case of criminal action, fraud, or willful misconduct; one can never say they overlooked them or facilitated them in “good faith.”
Who enforces these duties? If the organization has members, any member can bring an enforcement action on behalf of the organization (called a derivative action). If the organization has no members, the NC Secretary of State is authorized to investigate complaints and to refer them to the NC Attorney General for enforcement action. Some violations by the Board may be serious enough that the IRS revokes the organization’s tax-exempt status. Keep in mind that the same types of conduct or problems may also give rise to a third party suing the organization for damages (e.g., in an employment law scenario). It will help board members in third-party claims if the organization’s Articles or Bylaws include indemnification provisions. Indemnification means that if an individual board member is sued successfully by a third-party for something arising out of the board member’s normal duties carried out in good faith, the organization will pay for the claim and reimburse the board member’s legal defense fees. Some non-profits purchase Directors’ and Officers’ (D&O) coverage that backs up indemnification with an insurance policy. Such a policy pays also defense costs as you go along, whereas indemnification pays for them after the fact as a reimbursement.
The federal Sarbanes-Oxley Act of 2002 puts two additional requirements on non-profits. First, it is unlawful to take retaliatory action against a whistleblower (usually an employee) who reports possible federal illegal activity by the organization or by someone connected to it (e.g., IRS violations, violations of federal law on hazardous wastes). Second, it is illegal to knowingly modify, falsify, or destroy documents to prevent their use in an official federal proceeding (like an EEOC investigation or IRS investigation). These obligations are enforced by federal agencies. A whistleblower violation may also give rise to a claim by that employee against the organization. Because these obligations concern federal rather than state law, they don’t often arise for most non-profits. However, they still can arise for any non-profit at any time.
The community owes a debt of gratitude to those who volunteer to serve on the boards of non-profits. Hopefully this information makes those volunteers feel more prepared and more comfortable in their role.
Kim K. Steffan is an attorney with Steffan & Associates, P.C. in Hillsborough, NC. She can be reached at (919)732-7300 or firstname.lastname@example.org.