Fiduciary Duty: What This Means in Practice for Nonprofit Board Members

  • Governance
  • 3/26/2024
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Key insights

  • Most states require nonprofit board members to perform duties in good faith.
  • Nonprofit practices have evolved and include recommended practices demonstrating careful prudent management. They include strong governance policies and internal controls, budget adoption, and strategic planning.
  • Board members have a duty of care, loyalty, and honesty regarding the nonprofits they serve. The board should speak with one voice and support majority decisions.

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What’s required of nonprofit board members? Overall, nonprofit boards have ultimate legal responsibility and authority for the organization, but board effectiveness can vary widely — and understanding the board's role and duties can help improve a nonprofit’s outcomes.

Board members have a duty of care, loyalty, and honesty regarding the nonprofits they serve. The board should speak with one voice and support majority decisions.

In most states, nonprofit board members must also perform duties in good faith. More specifically, they should act in (or not opposed to) the nonprofit’s best interests and with such care an ordinary prudent person would use under similar circumstances.

What is a fiduciary duty?

This requirement serves as an overall perspective for board members’ responsibilities and describes a fiduciary duty: one who manages a corporation’s affairs for the benefit of stakeholders, not the individual.

Fiduciary protection

State statutes provide significant protection for nonprofit directors and officers. Directors are not liable for the corporation obligations and no director shall be personally liable to the corporation or its members for monetary damages for breach of fiduciary duty unless there is a breach of duty and the breach constitutes willful misconduct or recklessness.

Legally, the nonprofit board member is a fiduciary, but due in part to their volunteer standing, they are protected except for actual breaches constituting willful misconduct or recklessness. Careful prudent management is the standard designed to protect the board member. Nonprofit organizations (NPOs) usually have indemnification clauses in their bylaws and carry director’s errors and omissions policies to further protect board members for their service.

Manifestations of NPO fiduciary duty

Over time, nonprofit practices have evolved, including recommended practices demonstrating careful prudent management. Consider how these practices can help your nonprofit board maintain its fiduciary duty.

Create strong governance policies and structure including ethics policies

Certain policies applicable to nonprofits involve ethics. These include a code of conduct, conflict of interest, and whistleblower policies. These policies emphasize ethics and tone at the top and directly affect board members.

Form 990 asks questions regarding the nonprofit’s policies in this area. Negative answers related to adopting specific policies isn’t a good look. Some other governance practices include:

  • Bylaws are updated and followed
  • Compliance reports and filings are up to date
  • Financial statements and management reports are timely

Consider board job descriptions and evaluations

Job descriptions provide detail to positions on the organization chart and can bring clarity to the role and objectives of staff positions. Similarly, a board job description and orientation for new board members should be in place. Not everyone knows what their job is!

Various online evaluation materials can help the board evaluate themselves annually and use feedback to improve. The nominating committee plays an important role in identifying talent and resources for the board.

Capture board meeting minutes

Nonprofit board meeting minutes are generally quite detailed compared to commercial enterprises, and auditors find them useful as a source of information. Detailed minutes capture the board activity and reveal what the board was working on and how they felt about it.

Minutes further document which action items the board approved or disapproved, providing authority for the board’s actions. Approving minutes is important. Minutes document the governance process, which supports fiduciary duty.

Define and maintain operational policies and procedures

Policies and procedures are part of the system of internal control as they describe what should happen in the organization and further describe the expectations. Adopted policies provide for efficiency evaluating staff actions and accountability for actions outside policy.

Certain documented policies are required for federal funding administration. They also demonstrate the organization knows what to do in connection with federal funds administration and further demonstrate intention to comply.

Prioritize budget adoption

All nonprofits adopt an operating budget, and the budget is a management tool, especially for smaller nonprofits that may only have annual financial statements in relation to an audit.

An accurate and effective budget provides confidence the nonprofit is tracking favorably according to plan. Budgeted expenses represent a kind of speed limit that must be formally waived if the budget is exceeded. Variances are signals to investigate and direct board attention to those most important to review.

Reflect on annual financial statement and compliance audits

A quality annual audit protects the nonprofit, stakeholders, board, and employees by having external sets of eyes review financial data and to an extent, organization controls.

Board members are entitled to rely on information given to them by professionals and employees. An exiting board member whose term is up can leave with some comfort the nonprofit was audited every year during their term. An audit will document control procedures designed to provide accurate reliable financial data and report on gaps in controls; this is of significant value to a board member.

Develop strong internal controls

Internal controls apply to every nonprofit organization and are a board member’s “best friends.” Strong effective internal controls work 24/7 to help prevent financial reporting errors, which can mislead a board member if not detected.

Management must correct internal control items arising from the annual audit and the board must confirm they were corrected. Absolute requirements for effective internal controls are part of federal funding administration.

There is an inverse relationship between effective internal controls and fraud occurrences. The stronger the controls, the less the fraud risk. Board members must act on any information suggesting fraud has occurred, and it’s better to prevent the whole issue to the greatest extent possible.

Certain internal controls are essential, including segregation of duties regarding:

  • Processing and signing checks
  • Reviewing and approving bank reconciliations
  • Adjusting journal entries

Focus on strategic planning

The strategic plan is the starting point for nonprofit activity as it defines the organization’s objectives. Detail and document objectives in the mission, vision, and plan document.

Criteria board members should keep ever present include “Are we meeting our mission?” and “Are we making progress on our strategic plan?” Annual planning should integrate with the strategic plan, then monitor and modify the strategic plan as needed.

While not every nonprofit has a strategic plan or references it, this decision-making framework provides the basis for the nonprofit to proceed and succeed. The strategic plan provides a foundation and rationale for board decisions, and for the conduct of annual budgets and projects in their roles as fiduciaries.

Consider using consultants

Sometimes the board may need experienced individuals to advise them on matters facing the organization. Most common is using lawyers or investment advisors; in some cases human resource individuals may be consulted. Consultants can provide the pathway for the board to receive relevant information to factor into their decision making.

Reflect on the nonprofit’s reputation

A nonprofit’s brand and reputation is an intangible asset not recorded on the financial statements but has significant value. The board must analyze any event with the potential to reflect badly on the organization. Look to consistently improve all systems to help maintain the quality of the organization’s information.

Corporate culture is another intangible asset of extreme value but is hard to pin down. Strong internal controls play a part in maintaining reputation and in developing positive culture. The tone at the top reflects on the board and on the organization’s reputation.

If there is any suggestion of fraud, the board must investigate immediately not only to protect the reputation but to also protect financial assets. Not investigating possible fraud might be a breach of fiduciary duty.

How we can help

Board members are key to a successful nonprofit organization. But board duties can be unclear, especially for first-time board members.

CLA's nonprofit team has extensive experience serving a wide variety of organizations and understands how these practices can boost effective board service and strengthen the nonprofit.

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