By James D. Cole, CPA
Perhaps the following situation is familiar to you or your clients, beginning with one telephone call:
"Hello, yes, this is he. Yes, I am a CPA. Oh yes, I have heard of your charity. I think it is a wonderful cause! Why yes, I might be interested in serving on your board of directors (as my mind races to the monthly stipends paid to directors that I read about in proxy statements). Yes, I could probably meet monthly and attend a planning retreat (as I think about the corporate retreats at The Homestead, the golf……the dinners…)."
I hang up the telephone, proud that my reputation has garnered such a coveted position. I begin to fantasize about the numerous contacts I will make while on the board. I brag to my wife about this new chapter in our life.
Even before the first meeting, the reality arrives. In my one page "orientation package" is a single sentence stating, "While ABC Charity appreciates that you donate your time without compensation and without reimbursement of travel expenses, we have a longstanding tradition that every board member must also be an annual contributor."
Let's see … NO stipend, NO mileage reimbursement, PLUS I have to donate money? I wonder how I will explain this to my wife?
Of the more than 1 million public charities in this country, almost all of them survive in part due to the sacrifices of professionals, business people and passionate supporters who willingly sacrifice time and money to serve on the boards of these organizations.
Unfortunately, many board members do not realize that such service can actually create a potential liability to the individual board member. This article is not intended to render specific legal advice. An excellent summary of several specific legal issues is provided here on the VSCPA Web site.
But in layman's terms, what is the potential harm in serving on nonprofit boards and how can that risk be mitigated?
First, we have all heard that a "cascade effect" from the Sarbanes-Oxley Act of 2002 could result in regulations for the nonprofit scene. "Increased accountability" and "fiduciary responsibility" are discussed at numerous conferences and can be read in many professional articles. One would think that CPAs and other professionals should be attending nonprofit board meetings only when they were allowed to bring their attorneys.
In truth, significant changes in laws affecting the legal liability of nonprofit board members have not come to fruition, at least not to the extent once anticipated. While a few states have enacted somewhat limited versions of Sarbanes-Oxley regulations for nonprofits, most have not made sweeping changes.
Some changes on the federal nonprofit tax return, Form 990, have been approved, and more changes in reporting and other rules are being considered by the U.S. Internal Revenue Service and U.S. Congress. Clearly, more changes are coming, but as the VSCPA article on liability I cited earlier concludes, for organizations in Virginia, strict legal liability can be avoided by nonprofit board members IF they comply with certain duties outlined for board members in the Code of Virginia. So what are the minimum standards for conduct?
Virginia Code Section 13.1-870 outlines general standards of conduct for directors, including the specific charge that "A director shall discharge his duties as a director, including his duties as a member of a committee, in accordance with his good faith judgment of the best interests of the corporation." A director is not liable for any action taken as a director, or any failure to take any action, if he performed the duties of his office in compliance with this section. A subsequent section (13.870.1) further provides for a limitation of financial liability for the director in any proceeding brought by the nonprofit organization. The director‘s personal financial liability in such a lawsuit is generally limited to his annual compensation from the nonprofit.
So, given that most CPAs are not paid for service on nonprofit boards, a director can simply exercise some "good faith judgment" and be free from worry, right? Wrong.
Of course, exercising good faith judgment is not as easy as it sounds. Also, CPAs and their clients who serve on nonprofit boards face both non-financial risk and indirect financial exposure.
First, exercising good faith judgment may sound simple enough. Attend most meetings, stay awake, listen to staff reports then depart for home. Not so fast. Even before agreeing to join a nonprofit board, CPAs should use their professional skills to evaluate whether they, or their clients, should become involved with any particular nonprofit entity. Fortunately, CPAs are trained to properly plan and prepare for engagements. Appropriate use of these very same skills can prove very useful to professionals when called upon to serve on nonprofit boards.
Similar to the professional planning involved in an audit or tax return, obtaining critical information prior to involvement with a nonprofit entity is crucial to any ultimate success. When a CPA receives an inquiry about serving on a nonprofit board, or if a client asks for his or her input regarding serving on a nonprofit board, the immediate response is simple. The CPA should review copies of the organization's recent IRS Forms 990 online at www.guidestar.org, an online database of nonprofit information. This will allow a CPA to obtain a wealth of useful information, such as:
Did the entity even file a return? A Form 990 (or Form 990-EZ, as applicable) is generally not required to be filed if an entity has, or reasonably expects to have, less than $25,000 in annual revenues. If the CPA is aware of revenues in excess of this amount and no return is available, something could be amiss.
If Form 990 returns are available, much can be learned from a cursory review of revenues and expenditures. Do the numbers imply any negative financial trends?
Does the balance sheet show any unusual items? Are there any unusual receivables or payables? Is the entity burdened with debt?
If this is a charity, is it successfully raising money? If so, how cost effective is their fundraising program? Gifts are reported on Line 1 of the Form 990. Costs associated with fundraising are specifically reported. For example, does it cost the charity more money to raise gifts than it actually receives in contributions? According to many "watchdog" organizations, most charities should be able to generate $5–$10 in gifts for each dollar expended for fundraising costs.
A review of Schedule A will usually indicate the entity's major service providers. Do any of these contractors pose any conflicts of interest to the CPA or to his client?
Part III of Form 990 could outline significant program service accomplishments, which might indicate how successful the charity has been in fulfilling its mission.
Part VI might provide information concerning associated organizations, which could be useful in learning about potential conflicts of interest for new board members.
Form 990 schedules will normally include a list of officers and directors. Does this list appear to include individuals with solid backgrounds and with appropriate business experience? If the board is made up entirely of non-business supporters, the CPA, or his client, might well be the sole director with appropriate "business judgment."
The CPA should then use an Internet search engine such as Google, Yahoo, etc. to find what information is publicly available about the organization. For example:
Does the organization have a Web site? The lack of a Web site could indicate that the board has not considered the entity's Web presence, or it could point to possible resource or staffing constraints that prohibit effective use of the Internet.
If there is a Web site, does the information seem consistent with the data gleaned from the review of the Forms 990? Any significant contradiction could suggest either a lack of timely Web updates or problems with inconsistent communication.
Does the Web site present a coherent image of the entity, or does it suggest possible concerns? After all, this information is available to the entire world. Each director is, in effect, perceived to be a part of this worldwide image.
Based upon perhaps an hour or less for this review of public information, a CPA should be able to "size up" the nonprofit. This is necessary to be able to answer the following questions, from the perspective of the CPA or the CPA's client:
Is the organization's financial condition such that it could be facing financial concerns in the near future? If so, this could suggest that any board members would have a difficult tenure on the board.
Does the organization publicize a consistent image? Major inconsistencies might suggest issues among the board and/or management related to communication strategies.
Does any of the information imply that the CPA or the CPA's client might have potential conflicts of interest that should be avoided?
Obviously, additional information could be collected from the organization and used in determining if the board membership could pose problems for the CPA or client. However, a Form 990 and general Web search can literally be performed while the CPA is still on the telephone with the nonprofit or client. Certainly the speed at which the information can be attained should encourage our profession to readily make use of it for this purpose.
After all available information is reviewed, the CPA should make an informed decision, keeping in mind that CPAs and their clients who serve on nonprofit boards face both non-financial risk and indirect financial exposures:
Directors are often interviewed by news media when the organizations undergo significant changes in strategy or when key employees leave the organization. Is this "spotlight" something the CPA or client craves?
If the CPA is the only director with business knowledge, he or she, or the client, might well become a "scapegoat" if any problem of a business or financial nature arose. Other directors may have high expectations of a CPA board member's efforts.
If the nonprofit organization is ever perceived as mismanaged or is forced to dissolve, merge, etc., the reputations of the directors could be negatively affected. For a CPA, this could mean lost business.
Conflicts of interest for board members are specifically regulated by the Code of Virginia and are coming under increasing scrutiny by the IRS. Many of these conflicts are best avoided prior to appointment to the board. CPAs in particular should take care to ensure that ethical concerns are avoided.
In short, general risks faced by CPAs or clients are damage to reputation, loss of business, increased stress and legal and ethical issues associated with conflicts of interest. If, after thoroughly and thoughtfully reviewing the information and weighing possible risks, a professional decides to join a nonprofit board, the new director should remember to "exercise good faith judgment of the best interests of the corporation," as specified in the Code of Virginia. At a minimum, this suggests for CPAs in particular to consider the following:
Insist on timely financial reporting. Do not allow the board to get into the habit of "skipping the financial report" on a crowded agenda.
Although most nonprofit organizations do not have a financial statement audit, several states and many funding organizations are now requiring either an independent audit or a review of the financial statements. At a minimum, in the absence of an independent review or audit, insist that a sub-committee of the board review basic financial records annually — in essence, a "volunteer audit effort." CPAs should avoid serving on such committees due to potential ethical and licensing issues.
Insist on receiving a copy of the timely filed Form 990, or for smaller entities, a copy of the Form 990-EZ or the new Form 990-N. Review it in a manner that indicates you realize it will be available for the world to see.
Remain inquisitive. Do not try to "audit" everything, but at least use some of those skills to ask thoughtful questions when reports, budgets or strategic plans are presented.
CPAs have specialized training that can assist them in effective service on nonprofit boards. These organizations very much need such professionals. While this article sounds many warning bells and points out several pitfalls to avoid, nonprofit organizations play a critical role in our society.
CPAs and their clients can render a very valuable service to the world through effective service on nonprofit boards. They should be careful, but should be very willing to serve under appropriate circumstances. More thoughtful service by CPAs on such boards will certainly improve the quality of life for all of us in the long run.
About the author
James D. Cole, CPA, is chief executive officer for the Masonic Home of Virginia, a continuing care retirement community. His 27 years of experience with corporations and nonprofits include roles as a founder, officer, consultant and auditor. He regularly speaks and writes on topics including financial reporting, communication skills, fundraising, nonprofits and more. Cole is a former VSCPA Board of Directors member and sits on the VSCPA Editorial Task Force.
Reprinted with permission from the Virginia Society of CPAs.