Knowledge and Insights
Many individuals volunteer to serve on the boards of directors or trustees of nonprofit organizations they believe serve an important role in the community. The reasons individuals decide to lend their expertise to an organization are varied. Most board members would agree that serving on a board is a rewarding and important experience on a personal and, oftentimes, professional level.
Board members take on the responsibility of helping an organization with fundraising activities, acting as an advocate for the organization, and providing governance to the organization. Boards (and their members) are not responsible for managing the day-to-day operations of the organization. However, they do take on specific legal responsibilities as fiduciaries, while providing oversight, to ensure the organization is true to the mission for which it has received a tax-exempt designation from the IRS.
The bad news is that individual members of an organization’s board can be sued. Therefore, it is critical for a prospective board member to ensure that the organization has an adequate Directors and Officers (D&O) insurance policy in place to cover expenses associated with legal claims.
A common misconception is that D&O insurance is only important to large for-profit companies due to the existence of shareholders. Another misconception is that directors and trustees of nonprofit organizations do not have exposure to personal liability, due to the lack of shareholders. Keep in mind that nonprofit is just a tax status; the organization is, in fact, a business. You can view the public as the shareholder group for a public charity. In today’s litigious environment, nonprofit boards are subject to legal actions from a myriad of groups, including:
- Current and former staff members of the organization alleging wrongful acts, such as discrimination, sexual harassment or wrongful termination.
- Vendors and other third parties claiming harm has been caused by the organization.
- The organization itself may file a complaint against its board; for instance, the current management of an organization may make a claim against a board member.
- Other board members may feel compelled to sue a board member for acts they feel are in conflict with the fiduciary responsibility applicable to a board member.
The list of potential claimants against a board is broad and includes the beneficiaries the organization is in business to help, members of the association the board services, donors who feel donations have been misused by the organization, and government officials alleging violations of laws.
Nonprofit organizations generally fall into two categories:
- Public benefit organizations – community organizations, civic groups, churches or hospitals, among other types that exist for the betterment of the community; and
- Mutual benefit organizations – serve members of a specific group, such as trade associations, credit unions or cooperatives.
The category the organization falls into, along with other factors, such as corporate structure, tax exemption status (private foundation or public charity) are variables to consider when determining the degree of D&O exposure board members may have.
A properly structured D&O insurance policy helps to indemnify board members from damages and the cost of defending oneself in a legal proceeding arising from wrongful acts claims against the board or the organization. General liability and umbrella insurance policies in place at a nonprofit organization cannot and should not be relied upon to provide personal indemnification to board members and officers. These types of policies provide coverage for losses associated with bodily injury or property damage, but do not provide coverages for claims that could potentially be applied to board members.
This article is not meant to scare you away from volunteering to serve as a board member. By all means, volunteer your expertise to a multitude of organizations you feel are worthy of your time and effort. However, before doing so, insist that adequate steps have been taken to protect the personal welfare of board members. Be proactive in questioning members of management about the existence and coverage amount of organizational D&O insurance, and don’t give up your search for information until you have ensured yourself that you, as well as your fellow board members, are properly protected.
For more information on D&O liability insurance and other issues that affect nonprofit organizations, contact 609-689-9700.
The author of this article, John Trench, is a former employee of Mercadien.