non-profit corporations: director liability

NON-PROFIT NON-PROFIT CORPORATIONS:CORPORATIONS:

DIRECTOR LIABILITYDIRECTOR LIABILITYJ. Keith Phifer, Esq., LL.M.J. Keith Phifer, Esq., LL.M.

Schlossberg, LLCSchlossberg, LLC35 Braintree Hill Office Park, Suite 20435 Braintree Hill Office Park, Suite 204

Braintree, Massachusetts 02184Braintree, Massachusetts 02184(781) 848-5028(781) 848-5028

E-mail: E-mail: [email protected]@sabusinesslaw.com

SCHLOSSBERG, LLCSCHLOSSBERG, LLC Firm HistoryFirm History

Schlossberg, LLC has provided specialized legal service to Schlossberg, LLC has provided specialized legal service to New England business owners for the past 30 years. New England business owners for the past 30 years. Schlossberg, LLC has represented a broad range of influential Schlossberg, LLC has represented a broad range of influential businesses and entrepreneurs that have had a significant businesses and entrepreneurs that have had a significant effect on the local and regional economy. It is the mission of effect on the local and regional economy. It is the mission of Schlossberg, LLC to continue to grow its heritage of Schlossberg, LLC to continue to grow its heritage of excellence over the next 30 years and beyond.excellence over the next 30 years and beyond.

Firm DescriptionFirm Description Schlossberg, LLC is a full service business law firm located in Schlossberg, LLC is a full service business law firm located in

Braintree, Massachusetts. Braintree, Massachusetts. Our team of professionals provide comprehensive legal Our team of professionals provide comprehensive legal

counsel for the closely-held business, charitable endeavor, counsel for the closely-held business, charitable endeavor, and individual with a broad range of legal needs.and individual with a broad range of legal needs.

The Firm’s team of experienced lawyers and support staff is The Firm’s team of experienced lawyers and support staff is large enough to provide the specialized expertise our clients large enough to provide the specialized expertise our clients need, yet small enough to establish a personal rapport with need, yet small enough to establish a personal rapport with each client. each client.

Welcome to the Board!Welcome to the Board!

Agenda:Agenda:I.I. Non-Profit BasicsNon-Profit Basics

II.II. The Function of the BoardThe Function of the Board

III.III. Duties of the BoardDuties of the Board

IV.IV. Taxes and Disclosure ObligationsTaxes and Disclosure Obligations

V.V. Director Liability: the Protections Director Liability: the Protections

I.I. Non-Profit BasicsNon-Profit Basics

Why the Corporation?Why the Corporation?

What are the other options?What are the other options? Charitable TrustsCharitable Trusts

More Restrictive. Trustees held to a higher standardMore Restrictive. Trustees held to a higher standard Unincorporated AssociationsUnincorporated Associations

No liability protection.No liability protection.

Separate Legal EntitySeparate Legal Entity Can enter into contracts, employ people, hold Can enter into contracts, employ people, hold

title to property, sue and be sued. title to property, sue and be sued. Limited LiabilityLimited Liability

Directors, officers, and employees are not Directors, officers, and employees are not personally liable for obligations of corporation. personally liable for obligations of corporation.

Corporations in General Corporations in General (Profit and Non-Profit)(Profit and Non-Profit)

Formed by filing Articles of Organization Formed by filing Articles of Organization with Secretary of Commonwealthwith Secretary of Commonwealth http://www.sec.state.ma.us/corhttp://www.sec.state.ma.us/cor

Bylaws: Rules for governing the Bylaws: Rules for governing the corporationcorporation

Officers: President, Treasurer, Officers: President, Treasurer, Secretary, Executive Director, CEO, Secretary, Executive Director, CEO, etc. . .etc. . .

Board of DirectorsBoard of Directors

Profit vs. Non- ProfitProfit vs. Non- Profit

Profit

Officers

Directors

Shareholders

Non-Profit

Officers

Directors

The Non-Profit CorporationThe Non-Profit CorporationGeneral FormGeneral Form

Governed by Massachusetts General Governed by Massachusetts General Laws c. 180Laws c. 180


Articles of OrganizationArticles of Organization Names and addresses of the incorporatorNames and addresses of the incorporator Corporation’s nameCorporation’s name Purpose for which the corporation is formedPurpose for which the corporation is formed Address of the initial principal officeAddress of the initial principal office Names, residences, and post offices addresses of initial Names, residences, and post offices addresses of initial

directors, president, treasurer, and clerkdirectors, president, treasurer, and clerk Name and address of the registered agentName and address of the registered agent Fiscal year of the corporationFiscal year of the corporation Articles MAY include provisions eliminating or limiting Articles MAY include provisions eliminating or limiting

personal liability of a director to the corporation or its personal liability of a director to the corporation or its members for monetary damages arising from acts or members for monetary damages arising from acts or omissions taken in good faith. Limitations MAY NOT omissions taken in good faith. Limitations MAY NOT extend to breach of duty of loyalty, acts or omissions extend to breach of duty of loyalty, acts or omissions involving intentional misconduct or knowing violations of involving intentional misconduct or knowing violations of law, or transaction from which director derived improper law, or transaction from which director derived improper personal benefit. personal benefit.


Articles of Organization (Continued)Articles of Organization (Continued) Purpose clause important because it must be Purpose clause important because it must be

recognized under Massachusetts General Laws recognized under Massachusetts General Laws AND if non-profit is seeking 501(c)3 exemption, AND if non-profit is seeking 501(c)3 exemption, must state purpose is “religious, charitable, must state purpose is “religious, charitable, scientific, testing for public safety, literary, or scientific, testing for public safety, literary, or educational purposes, or to foster national or educational purposes, or to foster national or international amateur sports competition, or for international amateur sports competition, or for the prevention of cruelty to animals.”the prevention of cruelty to animals.”

If Members, then also in ArticlesIf Members, then also in Articles Distribution of Assets on Dissolution: Distribution of Assets on Dissolution:

Massachusetts Law requires assets on dissolution Massachusetts Law requires assets on dissolution are distributed for a similar charity.are distributed for a similar charity.

Powers: A Non-Profit can do anything a profit Powers: A Non-Profit can do anything a profit corporation can do (except issue shares)corporation can do (except issue shares)


BylawsBylaws How meetings of members and directors are called and How meetings of members and directors are called and

conductedconducted Number of Directors constituting a quorumNumber of Directors constituting a quorum How directors and officers are removed and the tenure of How directors and officers are removed and the tenure of

their office;their office; Members: If there are members, what are their rights? What Members: If there are members, what are their rights? What

are procedures on voting and on what matters can they vote are procedures on voting and on what matters can they vote on?on?

Directors: number, qualifications, procedure for board Directors: number, qualifications, procedure for board meetingsmeetings

Officers: titles, powers, and functions. This is important when Officers: titles, powers, and functions. This is important when entering into contracts. Who has the authority to bind?entering into contracts. Who has the authority to bind?

Conflict of Interest Policy. Driven by IRS requirements. Conflict of Interest Policy. Driven by IRS requirements. Intended to prevent self dealing. Intended to prevent self dealing.

How to revise the Bylaws? How to revise the Bylaws?

Non Profit vs. Public Non Profit vs. Public CharityCharity Not all Non-Profits are Public CharitiesNot all Non-Profits are Public Charities

Non-profits are accountable to the Secretary of State and governed by Non-profits are accountable to the Secretary of State and governed by Massachusetts General Laws Chapter 180Massachusetts General Laws Chapter 180

Section 4. A corporation may be formed for any one or more of the following purposes: Section 4. A corporation may be formed for any one or more of the following purposes: for any civic, educational, charitable, benevolent or religious purpose; for any civic, educational, charitable, benevolent or religious purpose; for the prosecution of any antiquarian, historical, literary, scientific, medical, for the prosecution of any antiquarian, historical, literary, scientific, medical,

chiropractic, artistic, monumental or musical purpose; chiropractic, artistic, monumental or musical purpose; for establishing and maintaining libraries; for establishing and maintaining libraries; for supporting any missionary enterprise having for its object the dissemination of for supporting any missionary enterprise having for its object the dissemination of

religious or educational instruction in foreign countries; religious or educational instruction in foreign countries; for promoting temperance or morality in the commonwealth; for promoting temperance or morality in the commonwealth; for fostering, encouraging or engaging in athletic exercises or yachting; for fostering, encouraging or engaging in athletic exercises or yachting; for encouraging the raising of choice breeds of domestic animals and poultry; for encouraging the raising of choice breeds of domestic animals and poultry; for the association and accommodation of societies of Free Masons, Odd Fellows, for the association and accommodation of societies of Free Masons, Odd Fellows,

Knights of Pythias or other charitable or social bodies of a like character and Knights of Pythias or other charitable or social bodies of a like character and purpose; purpose;

for the establishment and maintenance of places for reading rooms, libraries or for the establishment and maintenance of places for reading rooms, libraries or social meetings; social meetings;

for establishing boards of trade, chambers of commerce and bodies of like nature; for establishing boards of trade, chambers of commerce and bodies of like nature; for providing nonprofit credit counseling services, as defined in section four A; for providing nonprofit credit counseling services, as defined in section four A; for encouraging agriculture or horticulture; for improving and ornamenting the for encouraging agriculture or horticulture; for improving and ornamenting the

streets and public squares of any city or town by planting and cultivating streets and public squares of any city or town by planting and cultivating ornamental trees therein and also otherwise improving the physical aspects of ornamental trees therein and also otherwise improving the physical aspects of such city or town and furthering the recreation and enjoyment of the inhabitants such city or town and furthering the recreation and enjoyment of the inhabitants thereof; thereof;

for the purpose of purchasing, holding, preserving and maintaining burial grounds for the purpose of purchasing, holding, preserving and maintaining burial grounds in accordance with the provisions of chapter one hundred and fourteen; in accordance with the provisions of chapter one hundred and fourteen;

for establishing a not-for-profit association of employers as authorized by section for establishing a not-for-profit association of employers as authorized by section twenty-five E of chapter one hundred and fifty-two, including such not-for-profit twenty-five E of chapter one hundred and fifty-two, including such not-for-profit associations of employers organized as nonprofit corporations. associations of employers organized as nonprofit corporations.

Non-Profit vs. Public Non-Profit vs. Public CharityCharity Public Charities are subject to the oversight of the Public Charities are subject to the oversight of the

Attorney General’s office.Attorney General’s office. Public Charities generally share three Public Charities generally share three

characteristics:characteristics: They are Non-Profit OrganizationsThey are Non-Profit Organizations They have a purpose that is primarily charitableThey have a purpose that is primarily charitable They benefit an indefinite class or number of people. They benefit an indefinite class or number of people.

Public charities must comply with rules and annual Public charities must comply with rules and annual filing requirements of the Division of Public filing requirements of the Division of Public Charities of the Attorney General of Massachusetts Charities of the Attorney General of Massachusetts office.office.

The Division of Public Charities has the obligations The Division of Public Charities has the obligations to the public to ensure the proper use and to the public to ensure the proper use and solicitation of charitable funds. solicitation of charitable funds.

Requirements include: initial filing, Form PC, IRS Requirements include: initial filing, Form PC, IRS Form 990, audited financial statement. Also must Form 990, audited financial statement. Also must obtain Certificate for Solicitation.obtain Certificate for Solicitation.

II.II. The Function of the The Function of the BoardBoard

How are Directors How are Directors Chosen?Chosen?

Membership CorporationsMembership Corporations Members elect directors just like Members elect directors just like

shareholders in a corporation elect directorsshareholders in a corporation elect directors Usually at annual meeting, as specified in Usually at annual meeting, as specified in

the bylaws. Bylaws establish notice to the bylaws. Bylaws establish notice to members before the meetingmembers before the meeting

Nonmembership Corporations Nonmembership Corporations Incumbent directors elect or re-elect Incumbent directors elect or re-elect

directorsdirectors Again, usually at annual meeting, as Again, usually at annual meeting, as

specified in the bylawsspecified in the bylaws

Period of ServicePeriod of Service Generally serve until the next annual Generally serve until the next annual

meetingmeeting Sometimes staggered or for multiple year Sometimes staggered or for multiple year

termsterms Number of DirectorsNumber of Directors

Stated in the BylawsStated in the Bylaws Must be at least three (3) by statute.Must be at least three (3) by statute. Always make sure the correct number are Always make sure the correct number are

serving.serving.

How are Directors How are Directors Chosen?Chosen?

Special Categories of DirectorsSpecial Categories of Directors Ex officio: Sometimes officer of the Ex officio: Sometimes officer of the

Corporation is stated in the Bylaws to Corporation is stated in the Bylaws to automatically be a director. Are these automatically be a director. Are these directors entitled to the same voting rights as directors entitled to the same voting rights as other directors? Depends.other directors? Depends.

Honorary or Emeritus: Generally not allowed Honorary or Emeritus: Generally not allowed to voteto vote

Removal of DirectorsRemoval of Directors Provided for in BylawsProvided for in Bylaws With or without cause provisionsWith or without cause provisions Missing meetingsMissing meetings

How are Directors Chosen?How are Directors Chosen?

CompensationCompensation Massachusetts law allows directors to get paidMassachusetts law allows directors to get paid Most serve without compensationMost serve without compensation Expense reimbursement okExpense reimbursement ok Statutory immunity for “volunteers” not Statutory immunity for “volunteers” not

available for paid service on the boardavailable for paid service on the board Who can serve on the Board?Who can serve on the Board?

Articles or Bylaws can specify qualificationsArticles or Bylaws can specify qualifications Special background, qualifications or Special background, qualifications or

management experience not requiredmanagement experience not required Choosing right people critical for successChoosing right people critical for success

How are Directors Chosen?How are Directors Chosen?

What are Functions of What are Functions of the Board?the Board?

Priority Number One: Knowing the Nonprofit’s Purpose.Priority Number One: Knowing the Nonprofit’s Purpose. What does it do and for whom?What does it do and for whom? General Purpose Statement in ArticlesGeneral Purpose Statement in Articles Mission Statement Mission Statement

Board’s power is cornerstone of corporate lawBoard’s power is cornerstone of corporate law Govern enterprise by delegation and oversight of management to Govern enterprise by delegation and oversight of management to

officersofficers Board only acts as a groupBoard only acts as a group

Board Functions:Board Functions: Setting and overseeing policy and overall direction of the CorporationSetting and overseeing policy and overall direction of the Corporation Remaining reasonably informed of corporate activitiesRemaining reasonably informed of corporate activities Providing reasonable oversight of management and committeesProviding reasonable oversight of management and committees Review of possible conflict of interest transactionsReview of possible conflict of interest transactions Delegating functions to committees and officersDelegating functions to committees and officers

Management functionsManagement functions Developing long term and strategic plans for review and approval by Developing long term and strategic plans for review and approval by

the boardthe board Implementing directives of the BoardImplementing directives of the Board Conducting and Managing day to day operationsConducting and Managing day to day operations

Board MeetingsBoard Meetings Directors generally must meet in order to act.Directors generally must meet in order to act. Meetings can be conducted through electronic Meetings can be conducted through electronic

means, so long as all “present” can simultaneously means, so long as all “present” can simultaneously hear each other during the meeting hear each other during the meeting (Massachusetts General Law c 156B, S 59)(Massachusetts General Law c 156B, S 59)

Board Action can be approved, however, by Board Action can be approved, however, by unanimous written consent. All directors must sign unanimous written consent. All directors must sign vote. vote.

MinutesMinutes Rights to informationRights to information

In order to carry out duties, directors have right to In order to carry out duties, directors have right to inspect books and records of Corporationinspect books and records of Corporation


Setting Executive CompensationSetting Executive Compensation Balancing fair compensation with non-Balancing fair compensation with non-

profit resources and charitable purposeprofit resources and charitable purpose Pay should be related to performance Pay should be related to performance

and based on comparisons of similar and based on comparisons of similar executives performing similar duties in executives performing similar duties in comparable organizationscomparable organizations

IRS can impose fines on both executives IRS can impose fines on both executives and board of directors for excessive and board of directors for excessive salaries and benefits.salaries and benefits.


III.III.Duties of the BoardDuties of the Board

Fiduciary DutiesFiduciary Duties Massachusetts law imposes “fiduciary duties” on both Massachusetts law imposes “fiduciary duties” on both

directors and officers of non-profit corporationsdirectors and officers of non-profit corporations 2 primary duties are Duty of Care and Duty of Loyalty2 primary duties are Duty of Care and Duty of Loyalty

““A Director. . .shall perform his duties as such, A Director. . .shall perform his duties as such, including. . .his duties as a member of a committee of the including. . .his duties as a member of a committee of the board upon which he may serve, in good faith and in a board upon which he may serve, in good faith and in a manner he reasonably believes to be in the best interest of manner he reasonably believes to be in the best interest of the corporation, and with such care as an ordinarily prudent the corporation, and with such care as an ordinarily prudent person in a like position with respect to a similar corporation person in a like position with respect to a similar corporation . . .would use under similar circumstances.” (M.G.L. c. 180, . . .would use under similar circumstances.” (M.G.L. c. 180, S6C)S6C)

Third duty is Duty of ObedienceThird duty is Duty of Obedience Not specifically imposed in Massachusetts but is imposed in Not specifically imposed in Massachusetts but is imposed in

other jurisdictionsother jurisdictions It is likely that Massachusetts Attorney General would take It is likely that Massachusetts Attorney General would take

the position that duty of obedience is requiredthe position that duty of obedience is required

Duty of CareDuty of Care That degree of diligence, care, and skill which That degree of diligence, care, and skill which

ordinarily prudent person would exercise under ordinarily prudent person would exercise under similar circumstancessimilar circumstances

Plainly, thoughtfulness and carePlainly, thoughtfulness and care Standard which would be expected by someone Standard which would be expected by someone

with common sense and wisdom, exercising with common sense and wisdom, exercising informed judgment and acting under similar informed judgment and acting under similar circumstancescircumstances

““Similar circumstances” takes into account the Similar circumstances” takes into account the non-profit nature of the corporation and the non-profit nature of the corporation and the expertise and qualifications of the individual expertise and qualifications of the individual directordirector

Applicable to all aspects of a director’s serviceApplicable to all aspects of a director’s service Not just specific transactions but also regular governanceNot just specific transactions but also regular governance

Fiduciary DutiesFiduciary Duties


Duty of Care (continued)Duty of Care (continued) Requires active involvement meaning:Requires active involvement meaning:

Preparation for meetings by reading materials in advancePreparation for meetings by reading materials in advance Assess the adequacy or insufficiency of information Assess the adequacy or insufficiency of information

provided, and if insufficient, ask for additional informationprovided, and if insufficient, ask for additional information Attend meetings and actively participate in discussions Attend meetings and actively participate in discussions

and decision makingand decision making Inquiry. Ask questions of management and outside Inquiry. Ask questions of management and outside

advisors that are necessary to fully appreciate issues and advisors that are necessary to fully appreciate issues and decisionsdecisions

Carefully review financial reportsCarefully review financial reports Maintain confidentialityMaintain confidentiality Exercise independent judgmentExercise independent judgment

Duty of LoyaltyDuty of Loyalty Conduct performed in good faith and in a manner the Conduct performed in good faith and in a manner the

director believes are in the best interest of the director believes are in the best interest of the corporation (as opposed to self interest or in the corporation (as opposed to self interest or in the interest of another)interest of another)

Director can not unfairly profit form the corporationDirector can not unfairly profit form the corporation Conflicts of interestConflicts of interest Corporate opportunity doctrineCorporate opportunity doctrine

Director must reject corporate opportunities unless that Director must reject corporate opportunities unless that corporate opportunity has first been offered to the Boardcorporate opportunity has first been offered to the Board

Any opportunity to engage in business activity that Director Any opportunity to engage in business activity that Director became aware of in connection to his or her role with the became aware of in connection to his or her role with the corporation, or through the use of corporate information or corporation, or through the use of corporate information or property, and which the director would reasonably believe to property, and which the director would reasonably believe to be of interest to the corporationbe of interest to the corporation


Duty of Loyalty (Continued)Duty of Loyalty (Continued) Example: Phil is Director at local Private School. Bob Example: Phil is Director at local Private School. Bob

owns land next to School. Bob asks Phil if School is owns land next to School. Bob asks Phil if School is interested in buying adjacent land . Phil purchase land interested in buying adjacent land . Phil purchase land directly from Bob without disclosing opportunity to directly from Bob without disclosing opportunity to School.School.

Example: Jane is Director at local Hospital. Hospital is Example: Jane is Director at local Hospital. Hospital is considering entering into contract with financial considering entering into contract with financial services company to oversee employee retirement plan. services company to oversee employee retirement plan. Jane purchases stock of financial services company. Jane purchases stock of financial services company.

First step is to recognize potential conflict of First step is to recognize potential conflict of interest or corporate opportunity exists (not interest or corporate opportunity exists (not always easy)always easy)

Once recognized, Director must discloseOnce recognized, Director must disclose True regardless of whether deal is ‘fair’ or opportunity True regardless of whether deal is ‘fair’ or opportunity

would not be valuable to corporationwould not be valuable to corporation Director should not be present on board Director should not be present on board

deliberations regarding the matterdeliberations regarding the matter


Duty of ObedienceDuty of Obedience Attorney General’s office has stated that Duty of Attorney General’s office has stated that Duty of

Obedience will applyObedience will apply Requires directors to ensure that the Requires directors to ensure that the

corporation’s resources are used in a manner that corporation’s resources are used in a manner that is consistent with mission and that corporations is consistent with mission and that corporations does not engage in unauthorized activitiesdoes not engage in unauthorized activities

Specifically, Director must:Specifically, Director must: Read incorporating documentsRead incorporating documents Be familiar with the corporate purposeBe familiar with the corporate purpose Perform duties in a manner that ensures the Perform duties in a manner that ensures the

corporations does not engage in activities for which it is corporations does not engage in activities for which it is not authorizednot authorized

““Be true to your school” Be true to your school” Watch out for restricted gifts!Watch out for restricted gifts!


LiabilitiesLiabilities

Who can sue?Who can sue? If Director breaches any of these duties who If Director breaches any of these duties who

has standing to make claim?has standing to make claim? Suit by the CorporationSuit by the Corporation Suit by members, if anySuit by members, if any Massachusetts Attorney GeneralMassachusetts Attorney General

Whenever the attorney general believes that Whenever the attorney general believes that breaches of trust are being committed in the breaches of trust are being committed in the administration of a public charity, and administration of a public charity, and investigation may be conducted with the investigation may be conducted with the approval of the trial court. approval of the trial court.

This authority may also be used to enforce directors’ This authority may also be used to enforce directors’ fiduciary duties.fiduciary duties.

LiabilitiesLiabilities

Liability can arise from many Liability can arise from many sources:sources: CorporationCorporation IRSIRS DORDOR Attorney GeneralAttorney General Outside PartiesOutside Parties

IV. Taxes and Disclosure IV. Taxes and Disclosure ObligationsObligations

Tax ExemptionsTax Exemptions

Not all Non-Profits are exemptNot all Non-Profits are exempt Internal Revenue Code has various Internal Revenue Code has various

categories for tax exemptions. categories for tax exemptions. 501(c)3 is only section that entitles 501(c)3 is only section that entitles

contributors to a tax deduction for contributors to a tax deduction for their gifts to non-profitstheir gifts to non-profits


9 common types of non profits exempt from 9 common types of non profits exempt from taxestaxes Charitable organizations – 501(c)(3)Charitable organizations – 501(c)(3) Social welfare organizations -501(c)(4)Social welfare organizations -501(c)(4) Labor and Agricultural Organizations -501(c)(5)Labor and Agricultural Organizations -501(c)(5) Business Leagues -501(c)(6)Business Leagues -501(c)(6) Social Clubs -501(c)(7)Social Clubs -501(c)(7) Fraternal Societies -501(c)(8)Fraternal Societies -501(c)(8) Veterans Organizations -501(c)(19)Veterans Organizations -501(c)(19) Employees Associations -501(c)(9)Employees Associations -501(c)(9) Political Organizations -527Political Organizations -527


501(c)(3) Organizations501(c)(3) Organizations Must be organized exclusively for Must be organized exclusively for

charitable, religious, educational, charitable, religious, educational, literary, or scientific purposesliterary, or scientific purposes

Earnings can not inure to private Earnings can not inure to private individualsindividuals

No substantial activities to influence No substantial activities to influence legislationlegislation

No participation in political campaignsNo participation in political campaigns

Tax ExemptionsTax Exemptions ApplicationApplication

Must apply (Form 1023)Must apply (Form 1023) Churches and corporations with less than gross Churches and corporations with less than gross

receipts of $5,000 need not apply.receipts of $5,000 need not apply. Public Charity vs. Private FoundationPublic Charity vs. Private Foundation

Private Foundation subject to additional Private Foundation subject to additional restrictionsrestrictions No self dealingNo self dealing Minimum requirements for distributionMinimum requirements for distribution Limits on ownership interests in other entitiesLimits on ownership interests in other entities Prohibition on certain investmentsProhibition on certain investments Excise taxes Excise taxes

Tax ExemptionsTax Exemptions Unrelated Business IncomeUnrelated Business Income

If trade or business is “unrelated” to its If trade or business is “unrelated” to its exempt purpose, then taxableexempt purpose, then taxable

If substantial, the nonprofit may lose its If substantial, the nonprofit may lose its exemptionexemption

Does not include passive income –rents, Does not include passive income –rents, dividends, interest, etc.dividends, interest, etc.

Potential Strategy is to set up for profit Potential Strategy is to set up for profit subsidiarysubsidiary

Subsidiary is fully taxedSubsidiary is fully taxed Dividend to Non-Profit is a dividend not Dividend to Non-Profit is a dividend not

considered unrelated business incomeconsidered unrelated business income


Maintaining Exempt Status:Maintaining Exempt Status: Limit unrelated business activitiesLimit unrelated business activities

Private BenefitPrivate Benefit No net earnings can inure to private individualNo net earnings can inure to private individual No excess compensationNo excess compensation Purchase of goods at higher than fair marketPurchase of goods at higher than fair market Use of corporate assets without payingUse of corporate assets without paying Can result in penalty taxes for “Disqualified Can result in penalty taxes for “Disqualified

Persons”Persons” Special Rules for HospitalsSpecial Rules for Hospitals

Disclosure RequirementsDisclosure Requirements

Informational FilingsInformational Filings File Form 990 with IRSFile Form 990 with IRS Annual Report with Secretary of StateAnnual Report with Secretary of State Annual Filing with Division of Public Annual Filing with Division of Public

Charities Charities Public DisclosurePublic Disclosure

Application for ExemptionApplication for Exemption Copies of Informational ReturnsCopies of Informational Returns

V. ProtectionsV. Protections

Liability Protection By Liability Protection By StatuteStatute

ProvidedProvided the Director acts in accordance with their the Director acts in accordance with their Fiduciary obligations (Duty of Care, Duty of Loyalty, Fiduciary obligations (Duty of Care, Duty of Loyalty, and Duty of Obedience), Massachusetts law provides and Duty of Obedience), Massachusetts law provides protectionsprotections

Directors may rely on outside experts, if such Directors may rely on outside experts, if such reliance is reasonablereliance is reasonable Must be criticalMust be critical

Volunteer ProtectionVolunteer Protection If Director serves without compensation, “no civil damages If Director serves without compensation, “no civil damages

for actions relating solely to the performance of his duty as for actions relating solely to the performance of his duty as an officer, director or trustee. . .”an officer, director or trustee. . .”

Grossly negligent acts or omissions are not protected nor are Grossly negligent acts or omissions are not protected nor are activities that are primarily commercial in natureactivities that are primarily commercial in nature

No protections for actions relating to operation of an No protections for actions relating to operation of an automobile.automobile.

Massachusetts General Law C. 231, S. 85WMassachusetts General Law C. 231, S. 85W Federal law is similar (42 U.S.C. S 14501)Federal law is similar (42 U.S.C. S 14501)

Business Judgment RuleBusiness Judgment Rule

Applies to all corporations (profit Applies to all corporations (profit and non-profit)and non-profit)

Director will not be found liable for Director will not be found liable for an honest mistake or error in an honest mistake or error in judgmentjudgment

Requires actions in good faith after Requires actions in good faith after due considerationdue consideration

Statutory ExculpationStatutory Exculpation

Massachusetts allows nonprofits to limit the Massachusetts allows nonprofits to limit the liability of directors in lawsuits brought by liability of directors in lawsuits brought by the corporation or on its behalf (M.G.L. C. the corporation or on its behalf (M.G.L. C. 156B S 13(b))156B S 13(b))

Limitation MUST BE STATED IN THE Limitation MUST BE STATED IN THE ARTICLES OF ORGANIZATIONARTICLES OF ORGANIZATION

Helpful, but significant gaps remainHelpful, but significant gaps remain Director can still have to pay own legal fees to Director can still have to pay own legal fees to

defend himself or herselfdefend himself or herself Does not apply to suits by outside parties or Does not apply to suits by outside parties or

government regulatorsgovernment regulators

IndemnificationIndemnification

Corporation can indemnify the Corporation can indemnify the directordirector

Corporation would pay for the cost of Corporation would pay for the cost of defense and costs of legal judgments defense and costs of legal judgments or finesor fines

Indemnification language should be in Indemnification language should be in BylawsBylaws

Only as good as corporation’s ability Only as good as corporation’s ability to payto pay

Directors’ and Officers’ Directors’ and Officers’ InsuranceInsurance

Best protectionBest protection Business judgment rule and exculpatory Business judgment rule and exculpatory

language only protect against suits by the language only protect against suits by the corporationcorporation

Indemnity only as good as corporation’s ability to Indemnity only as good as corporation’s ability to paypay

D & O insurance has 2 aspects:D & O insurance has 2 aspects: Reimbursement of individual directors’ liability to the Reimbursement of individual directors’ liability to the

corporation or outside parties (if the director is not corporation or outside parties (if the director is not indemnified)indemnified)

Funding of the corporation’s indemnification Funding of the corporation’s indemnification obligations if the director is indemnifiedobligations if the director is indemnified

Directors’ and Officers’ Directors’ and Officers’ InsuranceInsurance

D & O policies are indemnity vs. liabilityD & O policies are indemnity vs. liability Paid reimbursements after insured is required Paid reimbursements after insured is required

to make paymentsto make payments Exclusions:Exclusions:

Pollution and environmental claimsPollution and environmental claims Claims involving intentional conduct Claims involving intentional conduct

(employment discrimination, defamations, (employment discrimination, defamations, securities fraud)securities fraud)

Payment of finesPayment of fines Penalties and punitive claimsPenalties and punitive claims Matters in which director realized profitMatters in which director realized profit

Umbrella PoliciesUmbrella Policies May have coverage, but need to discloseMay have coverage, but need to disclose

QUESTIONS?QUESTIONS?

J. Keith Phifer, Esq.J. Keith Phifer, Esq.Schlossberg, LLCSchlossberg, LLC

35 Braintree Hill Office Park, Suite 20435 Braintree Hill Office Park, Suite 204Braintree, Massachusetts 02184Braintree, Massachusetts 02184

(781) 848-5028(781) 848-5028 E-mail: E-mail: [email protected]@sabusinesslaw.com

non-profit corporations: director liability

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