Governance and Best Practices -...

Governance and Best Practices

Missouri Association for County

Developmental Disabilities Services

April 26, 2012

Keith J. Kehrer

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Recent History of Governance

• In 2002, Sarbanes Oxley enacted in response to for-profit financial and corporate governance scandals.

• In 2004, the Senate Finance Committee criticizes nonprofit governance (or lack thereof) and calls for industry study.

• In 2004, California enacts a version of Sarbanes Oxley for nonprofits.

• In 2006, the Independent Sector releases the study regarding nonprofit governance and best practices.

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Recent History of Governance

• In 2007, the IRS releases draft “Governance Best Practices.”

• In 2008, the new Form 990 is released – Part VI requires public disclosure of governance and policies for the 1st time.

• In 2009, IRS releases Governance Checklist for Auditors.– Checklist is included as part of every IRS exam.

• In 2012, the IRS Work Plan provides it will use Form 990 data to identify connections between governance and tax compliance.

• April 19, 2012 – Senior IRS Official states charities with a written mission statement and board review of Form 990 more likely to be compliant / notes connection between governance and compliance.

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Reason for the New Form 990

• 2008 Form 990 First Major Redesign in over 30 Years.

• Form 990 failed to keep pace with changes:

� New laws and regulations;

� Increasing diversity and complexity of exempt sector; and

� Form became confusing, led to incomplete, inaccurate, and inconsistent responses.

• Redesigned Form 990 was phased in over 3 years.

• For 2010 and beyond, public charities with gross receipts ≥ $200,000 or total assets ≥ $500,000 must file Form 990.

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Reason for the New Form 990

• Form 990 changes designed to satisfy:� IRS tax compliance interests – key vehicle to assess risk of

noncompliance (answers could lead to audit).

� Transparency and accountability needs of IRS, states, public, and communities served – present “realistic picture” of organization.

� Form 90 is publicly available on GuideStar.

� Lack of Governance Disclosure (Our primary focus for this session).

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Governance Disclosure

• Governance disclosure is controversial� Does the IRS have authority to regulate governance?

� Governance policies are not required by law.

� There is a concern that disclosure creates de facto legal requirements and may lead to a presumption of wrongdoing.

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Governance Disclosure

• IRS position� “Independent governing body and well-defined governance and

management policies and practices increase the likelihood that an organization is operating in compliance with federal law.”

� Therefore, regardless of whether an organization is required to file Form 990, the IRS is clear that good governance is essential to any nonprofit (or public) organization.

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Section A. Governing Body

• Director “Independence”� How many voting directors are there?

� How many voting directors are “independent”?

� “Independent” means a voting director who:

– Was not compensated as an officer or employee of the organization or a related organization;

– Did not receive compensation or other payments exceeding $10,000 as an independent contractor (other than expense reimbursements or reasonable compensation as a director); and

– Did not engage in an “interested person” transaction.

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Section A. Governing Body (cont.)

• Transactions with “Interested Persons” – Schedule L� Any business transaction (sale, lease, license, service, etc.)

between the organization and “interested persons” must be disclosed.

� An “interested person” includes: (a) A current or former officer, director, trustee, or key employee,

(b) A family member of such a person,

(c) An entity more than 35% owned by such persons, and

(d) An entity of which such a person was serving at the time of the transaction as an officer, director, trustee, key employee, 5% partner or member, or 5% shareholder.

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• Family and Business Relationships

� Identify family and business relationships among directors, officers, and key employees.

– Business relationships include co-directorships, contracts in excess of $10,000, and employment arrangements.

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Board Questionnaires

� It may be difficult to obtain information regarding the governing body, including board relationships and transactions with board members.

� Form 990 Instructions provide that an organization must use reasonable efforts to obtain information, which may include reliance on responses included in a board questionnaire.

� Many organizations, especially with large boards, have developed a board questionnaire to obtain the information.

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• Contemporaneous Documentation� Does board and committees document meetings/actions?

� State law and/or Bylaws typically require documentation.

� Also important to follow all corporate formalities.

� A formal policy may be necessary if there is a history of non-compliance or to educate board members.

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• Form 990 Review� Has a copy of the Form 990 been provided to the board

members before filing?

� Describe in Schedule O the process used to review the Form 990.

� There is no legal obligation or duty to review the Form 990.

� However, the board has fiduciary duty to monitor the organization’s finances and activities.

� Form 990 provides substantial information that enables a board to satisfy its duty.

� Best practice: Require board or committee review as well as CEO / CFO review prior to filing (similar to Sarbanes Oxley).

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Section B. Policies

• Conflict of Interest Policy� Does the organization have a written conflict policy? � Does the policy require annual disclosure of interests? � Does organization regularly and consistently monitor and enforce

compliance its policy? Describe in Schedule O. – The IRS wants to know how an organization actually

implements its conflict policy.� Does the policy cover Key Employees?� The policy should be designed to satisfy state law and the

inurement, excess benefit, and self-dealing rules.� IRS will look closely at organizations without a conflict policy to

determine whether further inquiry is necessary. � Adoption of a Conflict of Interest Policy is strongly recommended

(IRS provides sample policy).

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Section B. Policies (cont.)

• Whistleblower Policy� Does the organization have a written whistleblower policy?

� Sarbanes Oxley makes it a crime to retaliate against certain whistleblowers (law applies to nonprofits).

� Whistleblower policy should satisfy state law.

� Policy should encourage reporting of potential improprieties, promise confidentiality, include a procedure to investigate reports, and strictly forbid retaliation.

� Although a policy is not legally required, it communicates a strong culture of legal compliance and ethical integrity and will help ensure compliance with Sarbanes Oxley.

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• Document Retention & Destruction Policy� Does organization have a written document retention and

destruction policy?

� Sarbanes Oxley makes it a crime to destroy documents in connection with certain investigations.

� Policy should facilitate compliance with federal and state law.

� IRS Pub. 4221 provides guidance in developing a policy.

� Policy not legally required, but communicates strong culture of legal compliance and ethical integrity and ensures compliance with Sarbanes Oxley.

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• Chapters, Branches, or Affiliates

� Does the organization have local chapters, branches or affiliates?

� If yes, does the organization have written policies or procedures governing activities?

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• Joint Venture Policy� Did the organization contribute assets to, or participate in a

joint venture or similar arrangement with a taxable entity during the year?

� If yes, has the organization:

– Adopted a written policy or procedure requiring evaluation of its participation in joint ventures under Federal tax law?

– Taken steps to safeguard exempt status?

– Rev. Rul. 98-15 and Rev. Rul. 2004-51.– Charity may not cede control to for-profit persons.

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Section C. Disclosure

• Disclosure of Form 990, 1023

� Are these documents available on own website, another’s website, and/or upon request?

� Disclosure is required by law / Schedule B exception (I.R.C. § 6104).

• Disclosure of governing documents, conflict policy, financials

� Describe how these documents were made available to the public.

� Disclosure is not required by federal tax law (certain states may require disclosure).

� IRS argues disclosure promotes transparency & may inspire greater confidence in the organization.

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Other Policies

• Gift Acceptance Policy

� Schedule M of Form 990 inquires whether the organization has a policy regarding acceptance of non-standard gifts.

� The Form 990 also requires additional reporting regarding non-cash gifts.

� A gift acceptance policy should be designed to address non-standard and non-cash gifts, the organization’s gift acknowledgment obligations, and could provide guidance regarding the acceptance of gifts.

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Other Policies (Cont.)

• Reimbursement Policy � Does the organization have a written reimbursement policy

that satisfies the IRS “accountable plan” procedures?

� A reimbursement that does not satisfy the “accountable plan”procedures may constitute an excess benefit transaction even if the payment is not excessive.

� In order for a reimbursement to satisfy the “accountable plan” procedures, (a) the reimbursement must relate to a reasonable business expense, (b) the reimbursed individual must properly substantiate the expense, and (c) the individual must return any excess allowance or reimbursement.

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Governance Check Sheet

• IRS Governance Check Sheet used by auditors in Section 501(c)(3) exams – Topics Include:� Governing Body and Management

� Written Mission Statement

� Comprehensive Bylaws

� Board Meetings and Minutes (how frequent)

� Compensation

� Organizational Control

� Conflict of Interest

� Financial Oversight

� Document Retention

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Sarbanes Oxley

• Generally a Source of Best Practices for Nonprofits � Not Required in Missouri for Nonprofits

� Exception - Whistle blower and document retention rules apply

� California has Adopted a Nonprofit Version

• Best Practices for Nonprofits include the following:� Independent Directors

– Majority Should be Independent and Non-Management

� Compensation Committee

� Independent Audits – Outside Auditors

– Audit Committee

� Certification and Review of Financials by CEO and CFO

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Why Adopt Policies

• An organization may consider adopting one or more policies to:

� Facilitate compliance with state and federal law.

� Identify and address areas of concern or areas requiring special attention / procedures.

� Provide guidance to the board, officers, staff, and volunteers on how to handle particular issues.

� Promote effective management.

� Promote donor confidence.

� Avoid IRS, Attorney General, and/or public scrutiny.

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Going Forward

• The board should determine the desired level of transparency for the organization.

• The board should use the check sheet to determine potential areas of concern.

• The board should consider whether an annual board questionnaire is necessary in order to ensure a proper response to the Form 990 questions.

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Going Forward (cont.)

• The board should examine, revise, or adopt those governance policies which it concludes are appropriate:

�The board should not merely adopt a policy in order to respond favorably to Form 990 questions – not following a policy is worse than having no policy.

�The organization must ensure that adequate resources are in place to follow and monitor the policy.

�Policies should be reviewed periodically for effectiveness.

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Other Schedules (cont.)

• Schedule C – Political Campaign and Lobbying Activities.

• Schedule F – Foreign Grants.

�Requires additional information regarding grants to foreign organizations.

�Particular focus on the country or region of the grant.

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• Schedule G – Fundraising and Gaming Activities.�Requires additional information regarding agreements with

professional fundraisers.

�Requires additional information regarding fundraising events and charitable gaming activities.

�Such agreements have been the source of recent scrutiny.

• Schedule J – Compensation.

�Requires a breakdown of W-2 compensation, retirement and deferred compensation, and non-taxable benefits.

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• Schedule R – Related Organizations.�Requires additional disclosure regarding related disregarded

entities, exempt organizations, corporations, and partnerships / limited liability companies.

• Potential Impact of Related Organizations.�Disregarded Entities. 100% of activities attributed to charity.

�Tax-Exempts. Few issues for related 501(c)(3) but closer look at non-501(c)(3) exempts for attribution and support.

�C Corporations. Few issues unless attribution rules apply.

�Partnership / LLC. Charity receives allocable share of income and loss, and activities.

– Potential issues include UBIT, commerciality, attribution.

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Contact Information

Keith J. Kehrer, Partner

Bryan Cave LLP

211 N. Broadway, Suite 3600

St. Louis, MO 63102

Phone. 314-259-2063

Fax: 314-552-8063

Email: [email protected]

Website: http://bryancavecharitylaw.com

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