This is the text from a document provided by David Atkin, attorney for OCSC, about the topic of board liability.
HOW TO AVOID PERSONAL LIABILITY FOR
THE CORPORATION’S DEBTS
The members of the Board of Directors for nonprofit corporations are frequently concerned about their liability for the debts or actions of the organization. Oregon law, like the laws of most other states, provides a strong “corporate shield” which protects unpaid directors of nonprofit corporations, and the courts have faithfully enforced those protections. In addition, the Federal Volunteer Protection Act, adds another layer of protection to volunteer (unpaid) officers and Board members of nonprofit organizations. Together, these two statutes make it safe for Board Members and officers to volunteer their time and services to nonprofit organizations, so long as they fulfill their duties with reasonable care. Further, case law shows that the courts have faithfully followed the intent of these statutory protections for volunteer directors and officers of nonprofit organizations.
I. YOUR LEGAL PROTECTION AGAINST PERSONAL LIABILITY. There are two major portions of the Oregon Nonprofit Corporation Act which provide this protection to Directors and Officers:
1. The unpaid Officers and Board members of qualified nonprofit organizations are protected against personal liability so long as they are not guilty of gross negligence or intentional misconduct. The statute (ORS 65.369) specifically states:
“The civil liability of a qualified director for the performance or nonperformance of the director’s duties shall be limited to gross negligence or intentional misconduct.”
‘Qualified director’ means a person who serves without compensation for personal services as” … An officer, director or member of an executive board for the purpose of setting policy and controlling or otherwise overseeing the activities … of a nonprofit corporation…” ORS 65.369
A director is not likely to be guilty of “gross negligence” if he or she exercises reasonable prudence and responsibility. For example, so long as a director attends most meetings of the Board, and he or she is reasonably well informed by reviewing the activities, expenses and income of the organization, then she or he would not be liable for the debts of the corporation. Directors will not become liable simply because they exercise poor business judgment or suffer a lack of fundraising success. However, if a Board of Directors continues to incur debts on behalf of the corporation without making any attempts to raise money to pay for them, at some point this would become “gross negligence” and they may be held to be personally liable.
If you commit some intentional act which injures or damages some other party, even if you did it as part of your duties as a director or on behalf of your nonprofit corporation, you can be held personally liable for those injuries or damages. This is especially true if your acts constitute a crime or an intentional tort, such as assault or defamation.
2. The second major protection for Directors and Officers comes from two separate provisions of the Nonprofit Corporation Act, ORS 65.357(4) for Directors and ORS 65.377(4) for Officers, which provide:
“A director is not liable to the corporation, any member or any other person for any action taken or not taken as a director, if the director acted in compliance with this section. The liability of the director for monetary damages to the corporation and its members may be eliminated or limited in the corporation’s articles to the extent provided in 65.047(2)(c).”
The section referred to in the first sentence states:
(1) “A director shall discharge the duties of a director, including the director’s duties as a member of a committee:
(a) In good faith;
(b) With the care an ordinary prudent person in a like position would exercise under similar circumstances; and
(c) In a manner the director reasonably believes to be in the best interests of the corporation.”
(4) A director is not liable to the corporation, any member or any other person for any action taken or not taken as a director, if the director acted in compliance with this section.”
II. FURTHER PROVISIONS LIMITING LIABILITY. There are some additional means for giving even greater protection the Directors and Officers of a nonprofit corporation from liability. The law allows a statement to be put in the Articles which will provide even further protection, as follows:
“A provision eliminating or limiting the personal liability of a director or uncompensated officer to the corporation or its members for monetary damages for conduct as a director or officer, provided that no such provisions shall eliminate or limit the liability of a director or officer for any act or omission occurring prior to the date when such provision becomes effective, and such provision shall not eliminate or limit the liability of a director or officer for:
(a) Any breach of the director’s or officer’s duty of loyalty to the corporation or its members; or
(b) Acts or omissions not in good faith or which involve intentional misconduct”
III. THE BOARD CAN MEET SOME OF ITS RESPONSIBILITIES THROUGH DELEGATION. To make it even easier for volunteer Board members and Officers to fulfill their duties, the law allows Directors and officers to delegate some of their duties to qualified persons, and to rely upon those persons to perform those duties, unless they have reason to know otherwise. The law states:
(2) In discharging the duties of a director, a director is entitled to rely on information, opinions, reports or statements, including financial statements and other financial data, if prepared or presented by:
(a) One or more officers or employees of the corporation whom the director reasonably believes to be reliable and competent in the matters presented;
(b) Legal counsel, public accountants or other persons as to matters the director reasonably believes are within the person’s professional or expert competence;
(c) A committee of the board of which the director is not a member, as to matters within its jurisdiction, if the director reasonably believes the committee merits confidence; or
(3) A director is not acting in good faith if the director has knowledge concerning the matter in question that makes reliance otherwise permitted by subsection (2) of this section unwarranted.”
IV. HOW TO AVOID OTHER POSSIBLE SOURCES OF INCREASED EXPOSURE TO PERSONAL LIABILITY. Directors and Officers should realize that their “Corporate Shield” will only protect them if they properly maintain their nonprofit corporation’s legal status and comply with legal requirements. That involves the following considerations:
1. Always Use the Proper Corporate Formalities. If the Board allows the separate identity of the corporation to be lost by failing to use the standard “corporate formalities,” the directors may be found to have been acting as individuals and can be held personally liable. To avoid any possibility of liability, be sure to make decisions for the corporation in the proper way: make all decisions at properly called meetings for which legally adequate notice was given, and at which a quorum is present. Make decisions by stating motions and voting on them and always keep good written minutes of the Board’s decisions. Mere technical violations or occasional lapses of corporate formalities will not, by themselves, bring individual liability to directors.
2. Do Not Act Without Proper Board Authority. If the directors or officers of a nonprofit group act outside the authority delegated to them by the Board of directors, they may be individually liable for any losses or liabilities the corporation incurs as a result. You can avoid this risk by passing clear resolutions regarding the corporation’s programs, activities, expenditures, policies and delegations of authority.
3. Always Follow the “Conflict of Interest” Transaction Rules. Whenever a Director has a direct or indirect conflict of interest, she or he must use a 3-step process: “Declare, Disclose and Abstain.” That is, whenever an issue arises in which a Director may have a conflict of interest, the Director must formally declare that conflict of interest, disclose the nature of the conflict of interest, and abstain from the vote. The minutes of the meeting should report that the Director did follow these steps. The rest of the Board must then analyze the issue and ensure that no directors receive any special unearned benefits. Failure to properly handle conflicts of interest may cause a Director to lose the protection of the “Corporate Shield.” (See report on Handling Conflicts of Interest)
4. Don’t Participate in Breaches of Conduct by Other Directors. If a director knowingly allows another director to gain improper financial benefits, they too may be held liable. Any director present at a meeting where another director knowingly breaches his or her fiduciary responsibility to act in the best interests of the corporation may be personally liable, unless a dissent is entered in the minutes, or a written dissent is filed with the secretary before adjournment, or filed by registered mail immediately after the meeting.
5. Always File State and Federal Reports as Required. The directors are responsible to make certain that the corporation files all state and federal tax returns and other required reports in a timely fashion. If the necessary forms and applications are not properly filed due to the fault or inattention of a director, and the director(s) do not remedy the error after notification by the IRS or state agency, the director(s) may be personally liable, under some circumstances, for the payment of some taxes or penalties.
6. Comply with IRS Restrictions. If a nonprofit corporation is penalized by the IRS for acting improperly, for instance by lobbying too much or by allowing donors to take improper tax deductions, then any directors who knowingly allowed or participated in allowing those actions could be held personally liable by the IRS for penalties, under some circumstances.
7. Insurance. Finally, a Board may decide to talk with an insurance agent about purchasing “Directors and Officers” insurance (often called D&O Insurance). Many small and medium sized organizations with relatively “normal” or “common” operations feel that these policies do not add that much to the protection they already have from state law to make the policies worth the price; however if you have questions you should contact your insurance agent.
Alternatively, individual directors can often add a “rider” to their homeowners insurance policy or their personal liability umbrella insurance policy, to protect them from liability incurred for volunteer activities (such as serving as a director or officer of a nonprofit organization). This is usually much, much less expensive than purchasing formal D&O insurance.
If you have further questions or concerns, please call us.
David E. Atkin
Nonprofit Support Services