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Nonprofit Law 101: What Every Executive Director and Board MemberShould Know about the Laws Governing CT Tax-exempt Organizations

Handout for “Legal Issues for Nonprofits in 2008”The Pond House

Hartford Foundation for Public GivingOctober 15, 2008

Presenters: Richard Hobish, Executive Director , the Pro Bono Partnership, Inc. andPriya Morganstern, Director Hartford Program of the

Pro Bono Partnership, Inc.

I. Underlying Laws Specific To Nonprofit and/or Tax-exempt Organizations –Overview

a. State Law

i. Corporate Law: CT Revised Nonstock Corporation Act (“CRNCA”) C.G.S§ 33- 1000 et. seq. Agency: Secretary of State

a. Corporate Structure: nonstock corporationi. No unincorporated associationsii. Limitation on distributionsiii. Member vs. non-member

a. Voting members (analogous to shareholders); non-voting members; other

iv. Affiliates; subsidiaries

b. Governancei. board standards of conductii. fiduciary dutiesiii. governing documents

c. Conflicting interests

d. Protections against liability

i. indemnificationii. limitation on monetary liabilityiii. business judgment rule

_________________________________________* See Handouts for links to applicable forms and/or more information


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ii. Tax Law - Agency: CT Dept. of Revenue Services (“DRS”)

a. Income tax exemption C.G.S. §12-214(a)(2)i. derivative of federal tax exemptionii. must provide Determination Letter to the DRS (see DRS

Ruling 89-57)

b. sales tax exemptions* (DRS) C.G.S. §12-412(8)i. not automaticii. goods and servicesiii. meals and lodging

c. property tax exemptions (local tax assessor) C.G.S. §12-81(7); §12-88; §12-81(58)

i. generally, real and personal property used exclusively fororganization’s charitable purposes is exempt

ii. applies to property owned and/or leasediii. not automatic; apply in town where property is located before

Oct 1 (grand list date)iv. if charity’s property is used by another entity, even if another

public charity, may be taxed - varies by municipalityv. initial application, then renew quadrennialy

d. collection of sales tax (DRS) C.G.S. §12-411i. if regular sale of goods or servicesii. driven by status of purchaser, not selleriii. need CT Sales and Use Tax Permit – Form OS- 114*

iii. Charitable Organization Rules - Agencies: Public Charities Unit (a programof the Attorney General and Dept. of Consumer Protection (“DCP”))

a. Fundraising: CT Solicitation of Charitable Funds Act – C.G.S. §21a-175

i. Any organization that solicits (i.e., does fundraising) mustregister w/ DCP or claim an exemption

ii. Other requirementsa. Fundraising counselb. Paid solicitorc. Charitable sales promotions

iii. See DCP publication General Information RegardingCharitable Solicitation Requirements* for more information

b. Use of Charitable Funds


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i. Attorney General: Oversight and standing re compliance withdonor intent and restricted gifts

c. Investment Rules

i. Uniform Prudent Investor Actii. Uniform Management of Institutional Funds Act (“UMIFA”)iii. Fundamentally, the Board must exercise the care a prudent

investor would exercise. The above laws address issues suchas evaluating entire portfolio instead of individualinvestments; need to balance risk and return, no prohibitedinvestments, no absolute requirement to diversifyinvestments, ability to delegate investment management, andthat donor restrictions can be released by donor.

iv. Lobbying Laws* - C.G.S. § 1-91 et. seq. – Agency: Office of State Ethics

v. Campaign Finance Reform (State Contractor Contribution Ban)* C.G.S.§9-333n (g) (2) (A) and (B) – Agency: State Elections EnforcementCommission

vi. So-called “Good Samaritan Act” C.G.S. § 52-557m

b. Federal Law

i. Internal Revenue Code and Regulations

a. 27 501(c), tax-exempt organizations

b. Only one kind - 501(c)(3) – is not only tax-exempt; contributions arealso tax-deductible to donor.

c. Requirements for 501(c)(3) recognition:

i. Organized and operated for exempt purposea. Primary categories:

1. educational2. charitable3. religious4. literary5. scientific

ii. No private benefit; no private inurementiii. Limitation on lobbying; prohibition on political campaign

activity (discussed later)


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iv. Purpose and activities are not illegal or in violation of publicpolicy

v. Upon dissolution, assets must go to another public charity orgovernmental unit for public purpose

d. Types of 501(c)(3) organizations:

i. Public charitya. Broad public support (generally at least 1/3 of

receipts)b. What most people mean when they refer to a

nonprofit

ii. Private foundation (also private operating foundation)a. Support from limited number of major sources (e.g.,

family or corporation)b. Less desirable for most organizations:

1. limitations on deductibility of contributions2. subject to additional rules and excise taxes

c. Not covered in this outline. Can typically afford topay for legal counsel!

iii. IRS expects public charities to demonstrate significant anddiversified public support

a. IRS gives a new (c)(3) organization a five year “graceperiod” to establish public support, if it can show thatit reasonably can be expected to be publicly supportedwhen it applies for tax-exempt status. Then,beginning with the organization's sixth taxable year,the organization must establish that it meets thepublic support test through financial informationsubmitted as part of informational returns

b. On-going obligation over rolling 5-year periods tocontinue demonstrating broad public support

e. Other Public Charity Rules (discussed later):i. Prohibition against excess benefit transactions (intermediate

sanctions rules)ii. Unrelated business income subject to taxationiii. Disclosure obligation regarding documentsiv. Provide donor acknowledgement/substantiation

f. Must apply to IRS for 501(c)(3) recognition (evidenced in aDetermination Letter). Does not apply to churches and publiccharities with no more than $5,000/year in gross receipts


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g. Other, less common approaches to exemption:i. Group exemptionsii. Fiscal sponsorship arrangements

ii. Federal Volunteer Protection Act of 1997 - 42 USC §14501

iii. Sarbanes Oxley (“SOx”)

a. limited direct application to nonprofitsb. two requirements for nonprofits: must adopt written policies with

respect to federal matters:i. whistleblower policyii. document destruction policy

c. ripple effect re accountability, best practices; e.g.:i. independent audit committeeii. rotation of audit partner

d. Baby SOx in some states (e.g. Calif)

c. Other Substantive Area of Law: All other substantive areas of law (employment,real estate, intellectual property, contracts, etc) apply to nonprofits as they apply toall other businesses (with some exceptions for churches)

II. Board of Directors’ Roles and Responsibilities

a. The Board as a Unit

i. Statutory Basis for Board authority: C.G.S § 33-1080: (a) Each corporationshall have a board of directors. (b) All corporate powers shall be exercisedby or under the authority of, and the activities, property and affairs of thecorporation managed by or under the direction of, its board of directors,subject to any limitation set forth in the certificate of incorporation.

ii. The Board IS the organization, and is accountable to:a. Public trustb. Attorney Generalc. Internal Revenue Serviced. Members (if you have them)e. Donorsf. Mission including beneficiaries)g. Cooperating Organizationsviii. Employees

iii. Board Joint and Individual Roles:


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a. The Board acts as a unit in governance of the organizationb. Individual directors have specific duties and roles to assure that the

full board and the organization function together at their bestc. The Board can delegate, but it may not abdicate

b. Standards of Conduct for Individual Directors

i. Statutory Fiduciary Duties: General Standards for Directors – C.G.S §33-1104 Directors must discharge duties:

a. In good faithb. With the care an ordinarily prudent person in a like position would

exercise under similar circumstancesc. In a manner s/he reasonably believes to be in the best interests of

the corporation

ii. Care means competence in performing the director’s functions; usingcommon sense; being diligent and attentive to the organizations’management; making sound and informed decisions

iii. In good faith and in the best interests of the organization means pursuing theinterests of the organization above your own; avoiding conflicts of interest(financial, political or otherwise); no self-dealing; making sure organizationfulfills its stated purpose and complies with all applicable laws. Theseobligations are sometimes described as the Duty of Obedience and the Dutyof Loyalty

iv. A Director is not liable for any action taken as a director if he or sheperforms his or her duties in compliance with these standards

v. This standard applies to committee participation as well

vi. In serving, Directors may rely on information, reports or opinions of others:a. Officers or employees of organizationb. Attorneys, accountants or other professionalsc. Committees of the Board

i. …provided the Director reasonable believes the individualsor committees are reliable, competent or otherwise meritconfidence

vii. Fulfill these standards as follows:a. Attend meetings and conference callsb. Be informed, educated and inquisitive

i. Review agenda and all supporting materials sent beforemeetings


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ii. Request additional information if appropriate (especiallyfinancial)

iii. Be aware of every major action the organization takesiv. Ask questions as necessary at the meetingsv. Clearly understand the organization’s mission and activitiesvi. Understand your role as a Director

c. Delegate appropriately - to the Executive Director and those withnecessary expertise (accountants, attorneys, etc.) but withappropriate oversight

d. Avoid conflicts of interest (addressed in more detail later)

e. Evaluate and use your own judgment on matters before the Board;do not simply rely on the opinion of others, no “rubber stamp”

f. Know your rights as director: the right to information necessary tofulfill your responsibilities, including:

i. The right to reasonable access to:a. Managementb. Internal information of the organization, including

books and recordsc. Organization’s principal advisors such as auditors and

consultantsii. Adequate advance notice of meetingsiii. The Board has the right to engage services of an outside

advisor or consultant at the organization’s expense

c. Responsibilities of the Board

a. General administrationi. Set policies for all aspects of the program and operationsii. Corporate governance - hold regular meetings; keep minutes;

manage the Board; assure regular election ofofficer/directors; establish committees

iii. Legal compliance - timely/proper filings; licenses;grant/contract compliance; act in compliance with theorganization’s mission; industry-specific regulation

iv. Adequate insurancev. Physical plant concerns

b. Finance - Ensure adequate financial resources and strong andresponsible financial management

i. Formulate/approve operating budget with Executive Directorii. Monitor income and expenses


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iii. Demand clear and understandable financial reportsa. Budget-to-actual is best practice

iv. Review/approve year-end financial reportv. Establish financial management procedures - e.g.,:

a. check writing: more than one signature on checksover a certain amount

b. expenditure controlsc. separate intake and deposit functions

vi. audit function – separate from management staffvii. Required reports to funding sourcesviii.Timely tax payments (employment, other)viii. Proper use of charitable giftsix. Ideally, establish relationship with accountant for assistance

with:a. Fiscal proceduresb. Accounting methodsc. Filingsd. Questions

x. Good Resource: Community Accounting Aid and Assistance(CAAS) provides pro bono accounting help(www.ctcaas.org; (860) 570-9113)

xi. key financial questions every Board member should be ableto answer:

a. Have we run at a gain or loss?b. Are our key sources of income rising or falling?c. Is our cash flow projected to be adequate (do we have

sufficient reserves?)d. Where are we compared to budget?e. Is our financial plan (budget) consistent with our

strategic plan?f. Are we filing all needed reports on a timely basis?g. Are we paying all taxes as necessary?

c. Personneli. Hire qualified Executive Director; evaluate his/her

performance and compensation periodicallyii. Develop/implement personnel policies, and make sure they

are followed (inc. whistleblower protections)iii. Be familiar with employment rules

a. Independent contractors vs. employeesb. Limitations on true “at will” employmentc. “comp” time/overtime

iv. Address sexual harassment complaintsv. Is staff productive and satisfied?

d. Program


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i. Determine - and periodically revisit - organizational mission,philosophy, goals

a. Consistent with organization’s charitable purpose andevolving environment

ii. Regular evaluation of program

e. Fundraisingi. Develop and oversee fundraising plan

a. Who takes the lead?b. Is it sufficient?

ii. Compliance with State charitable solicitation rulesiii. Assure that use of donated funds is consistent with intent of

donor if specified)iv. Donor privacy issues

f. Strategic planning

g. Public Relationsi. Represent and communicate the organization’s mission, goals

and services to the public; maintain public trusta. May be through an identified spokesperson

ii. As appropriate, issue an annual report, press releases,program brochures, other communications

iii. Identify/network with similar organizationsiv. Monitor relevant legislation

h. Board self-evaluationi. evaluate Board’s performance annually (as a unit, and

individually)ii. take necessary ongoing steps to develop and strengthen

Boardiii. review:

a. composition (develop optimal board “profile”)b. diversityc. tenured. recruitmente. orientation; trainingf. relationship with officers and Executive Directorg. meetingsh. committees

III. Compliance Checklist


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a. Corporate documents – Are they consistent with organization’s currentactivities and operations? Consistent with federal and state law? Are they asbeneficial to organization as possible? Reflect best practices?

i. Certificate of incorporationii. Bylaws

iii. Policiesa. conflict of interestb. whistleblowerc. document destruction

b. Governance – Is the organization being governed effectively, in the bestinterests of the organization? Is it operating in compliance with state andfederal law, and with its own organizing documents? Is the Board fulfilling itsfiduciary duties?

i. meetingsii. directors’ votes

a. valid corporate action: at a meeting w/ a quorum (directors canparticipate in person or by teleconference) or by unanimous writtenconsent. Directors may not voted by proxy, by email or by polling

iii. terms and term limitsa. Directors’ terms are 1 year unless Board is staggeredb. Pros and cons of term limits

iv. committeesa. must be established, and people assigned, by vote of majority of

directors then in office

c. Conflicts of interest – Are all business decisions and transactions – especiallywith “insiders” – being made with the organization’s best interests in mind? Isanyone receiving an improper benefit? Has the organization adopted aConflict of Interest policy? Does the Board understand and comply with it?

i. Basics of a Conflict of Interest Policy:a. comply with State and Federal laws (described in more detail below)b. avoid even the appearance of impropriety or conflictc. full disclosure of actual or potential conflicts prior to approval of any

transactiond. all transactions must be fair to the organizatione. approved by disinterested (non-conflicted) directors

ii. Other considerations:a. prohibit loans to directors and officersb. As a director, make sure your vote is recorded if you disagree with a

Board action


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c. consider requiring annual disclosure statements from Directors,officers and senior staff

iii. Federal Conflict of Interest Law: IRS rules re excess benefittransactions/intermediate sanctions I.R.C. § 4958

a. Background: Prior to 1996, IRS could only revoke tax-exempt statusfor “sweetheart deals;” had no authority to penalize the individualinsider(s); Established Intermediate Sanction Rules: substantial,personal liability for insiders

b. Regulatory Schemei. Tax imposed on disqualified person (the “insider”)ii. who receives an “excess benefit”iii. equal to 25% of the excess benefitiv. increasing to 200% unless corrected within one yearv. 10% tax also imposed on “organization managers” who

knowingly participate in transaction (penalty limited to$20,000)

c. The Disqualified Person (“DP”) is:i. Any individual who is - or who has been in the last five years

- in a “position to exercise substantial influence over theaffairs of the organization”

ii. Officers, directors, certain key employees; can also includefounders, substantial contributors and others

iii. Family members of a DPiv. Entities 35% or more controlled by DPsv. Note the five year look-back rule; cannot avoid application of

rules by resigning from Board or position

d. An “excess benefit transaction” is a transaction in which a DPreceives more than fair market value from an exempt organization.Examples:

i. Compensation (must be reasonable)ii. Sale or lease of propertyiii. Purchase of equipment or services

e. Reasonable Compensation is:i. The amount that would ordinarily be paid for like services by

like enterprises under like circumstancesii. Includes all related economic benefits (e.g., health benefits,

contributions to pension plans, bonuses), unless explicitlydisregarded under regs


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iii. Organization must indicate intent to treat all such benefits ascompensation – typically reported on Form 990; on W-2 or1099; and on individual’s Form 1040

a. If not included as compensation, could be treated asseparate, non-fair market value transaction

f. Rebuttable Presumption: A transaction is presumed to be FMV if:i. It is approved by the Board or a Board Committeeii. AND the Board or Committee

a. Is composed entirely of individuals that are unrelatedto and independent of the DP

b. Relies on comparables (e.g., surveys, bids, appraisals)c. Adequately documents the basis for its conclusion

g. Important Special Rules and Exceptionsi. First Bite Rule” – The Intermediate Sanctions Rules do not

apply to any fixed payments made to a DP under an initialcontract

ii. Small Organization Rule – Organizations with annual grossreceipts under $1 million: For compensation decisions, canrely on data as to compensation paid by three comparableagencies in the same or similar circumstances

iv. State Conflicting Interest Transactions – CGS § 33-1127 et. seq.a. Somewhat broader than IRS rules but consistent; for example,

interested person may participate I discussion of transactions ifpermitted to do so by Board

b. Also confers a shield on any transaction determined by a judge tohave been fair to the organization at the time it was approved.

v. Conflicts in General: Three Prong Test (Should pass all three):a. Does it feel right? Would I hesitate to stand in front of peers,

superiors or the public and explain fully what I did?b. Does the conduct give me an advantage me over another? Have I

received a special benefit not available to peers or the public?c. How would I feel if someone else did it? Would I feel cheated?

d. Required filings – Are all filings being made timely and accurately? Isaccountability for each filing clearly delineated? Is organization takingadvantage of all the exemptions available to it?

i. IRS - Informational Tax Returns: Form 990,* 990EZ,* or 990–N *

a. Due 1st day of 5th month following end of organization’s fiscal year(for calendar year fiscal year, that is May 15th).


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b. Form 990 or 990EZ is req’d if annual gross receipts are normallyover $25,000 for the tax year

c. Form 990 completely redesigned for tax year 2008 (returns filedbeginning in 2009). Major changes:

i. Front page summary that provides snapshot of key financialand operating information

ii. Governance sectioniii. Increased focus on private benefitiv. Revised compensation and related organization reportingv. Formal schedules replace unstructured attachmentsvi. Additional schedules added (total of 16 schedules; previously

were 2)

d. Phase-in for smaller organizations - addresses transition concerns bypermitting the following organizations to file Form 990EZ or thenew Form 990:

i. 2008 tax year (filed in 2009): organizations with grossreceipts more than $25,000 and less than $1 million, and totalassets less than $2.5 million

ii. 2009 tax year (filed in 2010): organizations with grossreceipts more than $25,000 and less than $500,000, and totalassets less than $1.25 million

iii. 2010 and later tax years: organizations with gross receiptsmore than $50,000 and less than $200,000, and total assetsless than $500,000

e. If gross receipts are $25,000 or less, organization must file Form990-N (also called the “e-card”); simple electronic filing – no paper.Threshold for 990-N will be raised to $50,000 for tax years 2010 andbeyond

f. Failure to file return three years in a row can result in loss of tax-exempt recognition

g. Changes to Form 990 EZ are also in the works

h. Not required to file annual informational returns: churches andchurch-related organizations, certain state and localinstrumentalities, and some others

ii. CT Dept. of Revenue Services Tax Forms


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a. Sales Tax Exemptioni. goods and services – Form CERT 119*ii. meals and lodging – Form CERT 112*

a. special rules if organization will be reimbursed in partfor costs (e.g., by sale of tickets for event); See SN98(11)*

b. CT Sales and Use Tax Permit (if collecting sales tax)i. CT Sales and Use Tax Permit – Form OS- 114*

a. filing and taxes due monthly unless annual taxliability < $4,000, then can file quarterly, and if<$1,000 can file annually. But must file monthlyuntil org can demonstrate it falls below threshold

b. Exception: nonprofit can make sales at up to 5fundraising events of a day’s duration/year withoutcollecting sales tax. See SN 98(11)*

iii. Local Property Tax Exemption forms

a. Application and quadrennial renewalb. Must be filed in every town in which the organization owns or leases

property used for its charitable mission

iv. Filings with Secretary of State

a. annual report - $25i. sent to organization by Sec. of Stateii. can file on-line

b. changes of address, registered agentc. amendments to certificate of incorporationd. can check filing history at Sec. of State website on CONCORD*

e. Fundraising and Use of Charitable Contributions – Is organization registeredwith the DCP? Are charitable donations being used in a manner consistentwith the terms of any solicitation? Does organization have a contract with afundraising consultant? If so, has the contract been filed with the DCP?

i. If you are doing any fundraising - Register w/ DCP and report annually

a. File Form PCUREG – 1* before fundraising begins; providefinancials and copy of most recent Form 990 or 990EZ; $50 fee.Note – must provide 990 or 990EZ even if organization is notrequired to file it with the IRS (e.g., revenues less than $25,000)


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b. Once registered, file annual renewal (on same form: PCUREG - 1):include financials and copy of most recent Form 990 or 990EZ; $50fee

c. If gross receipts exceed $200,000, must provide audited financials

d. Exemption: if organization receives less that $50,000/year incontributions and does not compensate any person primarily to dosolicitation

i. File Form CPC- 54*; no filing feeii. No annual reporting requirement, but organization must

register if the circumstances giving rise to the exemptionchange

ii. Fundraising Counsel: Grantwriters (independent contractors) are considered“fundraising counsel” under the Act

a. arrangement between organization and grantwriter must be inwriting, and must be filed with the DCP even if the organization isexempt from registration

b. most charities (and grantwriters) are unaware of this requirement;rarely followed

iii. Paid Solicitors: Any contract with a “paid solicitor” must be filed with theDCP, and paid solicitor must register with DCP and post bond

iv. Charitable Sales Promotions: Charity and commercial co-venturer musthave written agreement

a. commercial co-venturer must be file the agreement with DCP priorto start of promotion

b. certain provisions required

f. IRS Required disclosures – Is the organization complying with the publicdisclosure rules?

i. I.R.C. § 6104 (d) - Must make application to IRS (Form 1023) and last threeinformational returns (including all schedules, but not names of donors)available as follows:

a. available for inspection at organization’s principle office duringregular business hours

b. if requested in person, on-site, must provide copy that dayc. if requested in writing, provide copy within 30 daysd. can charge reasonable copying and mailing feese. penalties for failure to comply: $20/day


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f. If forms have been made widely available (e.g., on organization’swebsite), no need to provide copies (but must still be available forinspection)

g. Compliance not required for requests that are part of a harassmentcampaign

ii. Not required to provide copy of Form 1023 if originally filed before7/15/87; only req’d to make it available for inspection if have a copy on dateit is requested

g. Substantiation/acknowledgment of donation – Is the organization providingacknowledgments as required by law?

i. three general disclosure rules:a. a donor must have a bank record or written communication from a

charity for any monetary contribution before the donor can claim acharitable contribution on his/her federal income tax return (this ruleis relatively new)

b. a donor must obtain a written acknowledgment from a charity forany single contribution of $250 or more before the donor can claim acharitable contribution on his/her federal income tax return;

c. a charitable organization must provide a written disclosure to adonor who makes a payment in excess of $75 partly as a contributionand partly for goods and services provided by the organization.

ii. the statement from the organization should include:a. the amount of the donation, if cashb. a description of the item or property donated, if not cash

(organization is not req’d to estimate the value)c. a statement of whether the organization provided any goods or

services in return for the payment, andd. if goods or services were provided, a good faith estimate of value of

the goods/services supplied (note – value is not necessarily the cost,although that can be a factor in the determination)

iii. See IRS Publication 1771* for more information

h. Political Campaign Activities – Is organization engaging in these activities(sometimes also called “electioneering”)? If so, it must stop!

i. Political Campaign Activities (support of, or opposition to, candidates forpublic office) are absolutely prohibited for 501(c)(3) organizations


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a. can result in revocation of exempt status as well as penalty taxes.(Do not confuse political activity with lobbying, or legislativeactivity, described below.)

b. applicable to candidates for federal, state, and local office

c. Some examples of forbidden political activity:i. contributions to political campaign funds.ii. written or oral statements in support of or in opposition to a

candidate.iii. making mailing lists, office space, or other services or

facilities available only to a favored candidate.

d. Additional penalties:i. 10% tax on the political expenditure, and require recovery of

the political expenditure. A 100% tax can be imposed if thefunds are not recovered.

ii. If exemption is lost, organization will be barred fromapplying for 501(c)(4) status.

ii. Certain non-partisan election-related activities are permitted, such as:a. publication of voting records; voter guidesb. Publication of candidates responses to questionnairesc. Public forumsd. Voter registration activities

iii. Be wary: Determination of whether the above activities are truly non-partisan is very fact-specific, and can depend on when the activity takesplace, and the nature of organization’s other (non-election season) activities

i. Lobbying – Is organization lobbying? If so, is the level permissible or excessiveunder federal law? Has (should) the organization made the 501(h) election?Has it registered if necessary under state law?

i. Federal Rulesa. 501(c)(3) organizations may engage in insubstantial amounts of

lobbying


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b. Lobbying: communication in support of or in opposition to specificlegislation. “Legislation” does not include action by administrative.Executive or judicial bodies

i. Direct lobbying: communication with a legislator or publicofficial

ii. Grassroots lobbying: communication with broadercommunity, which includes a “call to action”

c. Lobbying does not generally include:i. Nonpartisan research and analysis available to general publicii. Response to official written request for recommendations or

advice from legislative bodyiii. Examining or discussing broad social, or economic issues,

even if government will be expected to deal with itiv. Communication to legislative body in response to pending

legislation which would affect organization’s existence,powers or duties

v. 501(c)(3)’s can engage in these advocacy activities withoutlimit (subject to applicable State law)

d. What is “Substantial?” Two tests:i. facts and circumstancesii. expenditure test

a. more liberal; offers “bright line” and predictabilityb. organization must elect to be subject to expenditure

test by filing Form 5768* (churches are not eligible)c. limits based on actual expenditures for lobbying

activities, as follows:1. direct lobbying: can spend up to 20% of first

$500,000 of organization’s exempt purposeexpenditures (EPE), plus 15% of second$500,000, plus 10% of third $500,000, plus5% of balance. Overall limit on lobbyingexpenses: $1 million

2. grassroots lobbying: can spend up to 25% ofdirect lobbying ceiling (above)

d. if exceed limit in any year, will be subject to penaltytax; if average expenditures exceed limit over a 4-year period, can lose tax-exempt status (and allincome over that 4-year period becomes subject totax)

e. expenditures are reported on Schedule C (new) toForm 990.

e. Other applicable laws:


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i. Federal Lobbying Disclosure Act – registration and reportingreq’ts if organization employs a lobbyist, unless lobbyingexpenditures are less than $20,000

ii. OMB Circular A-122 - Nonprofits that receive federal fundsmay not use any portion of their federal funds to lobby at thefederal or state level

f. Recommend Alliance for Justice website* as excellent resource onadvocacy issues

ii. State Rules on Lobbyinga. Office of State Ethics enforces. Very detailed.

b. “Lobbying” is communicating directly or having otherscommunicate with any official or his staff in the legislative orexecutive branch or in a quasi-public agency for the purpose ofinfluencing any legislative or administrative action.

i. Note: broader than federal definition, which does not includeadministrative and executive actions, and which applies onlyto specific legislation

c. Rules for “Client Lobbyists: ” the nonprofit organization mustregister if spends or will spend $2,000 or more in a calendar year forlobbying. $150 fee Must report:

i. Compensation, sales tax and reimbursement (>$10)ii. Expenditures for benefit of public official (>$10)iii. All other expenditures for lobbying or in furtherance of

lobbying (e.g. research, reports, polls, media, etc.)iv. Terms of any contract related to lobbying

d. “Communicator Lobbyists” must registeri. Lobbyist does not include a person who is not paid

specifically for lobbying and spends no more than 5 hours(subject to $2000/$50 rule)

ii. Does not include person who gives expert testimony tolegislative or administrative body

e. Generally safe to assume any advocacy work in CT will be deemedlobbying under CT law. Question then is simply whetherorganization must register


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j. Unrelated Business Income – Is organization engaged in activities that are notsubstantially related to its charitable mission? Do those activities result in netincome? Have UBIT returns been filed, and taxes – if any – paid?

i. Even tax-exempt organizations can be liable for tax on unrelated businessincome (UBIT)

ii. UBIT applies to income:a. from a trade or businessb. regularly carries on, andc. not substantially related to the organization’s exempt function (other

than the need for revenue)

iii. Analysis of these three factors is very detailed and fact-specific; IRS tendsto unbundle activities that organization might regard as integrated

iv. UBIT applies to gross income minus direct expenses allocable to theactivity; i.e., net amount

v. If organization has >$1,000 gross income from UBI, must file form 990-T.Note, the need to file does not necessarily mean there will be tax due; filingrequirement is based on gross income and the tax is based on net income.Organization must make 990-T available upon request (new req’t)

vi. Excluded from UBIT:a. Dividendsb. Interestc. Royaltiesd. Certain investment incomee. Certain rental income

vii. Policy reason for UBIT: to protect regular commercial enterprises fromunfair competition

viii. See IRS Publication 598* for more information

k. State Contractor Contribution Ban – Is organization a state contractor or doesit seek to hold a state contract? If so, has organization determined who is a“principal” under the rules, and is that person (or are those persons) aware of– and compliant with – the ban on certain campaign contributions?

i. Relatively new campaign finance reform laws ban contributions to certaincandidates for public office, from certain people (“principals” and others)associated with entities that hold state contracts or seek to hold statecontracts on certain contributions


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a. The particular candidates to which contributions are banned varydepending on whether the organization has a contract with the state’sexecutive or legislative branch

b. The definition of “principal” appears not to include Directors per se,but can be unclear in application

c. The rules are evolving; recommend review the FAQs and relatedinformation on the SEEC website*

ii. File SEEC Form SC3 upon applying for or in connection with any statecontract

iii. Applies to contracts valued at $50,000 or more for any single contract, or$100,000 or more for series of contracts in a fiscal year, for:

a. personal servicesb. materials, supplies or equipmentc. construction, alteration or repair of a public building or public workd. acquisition, sale, or lease of land or buildinge. licensing arrangement, orf. grant, loan, or loan guarantee

l. Employment Issues – Is organization complying with all state and federalemployment-related laws, rules, forms and filings? Have all withheld taxesbeen paid? Have jobs been evaluated for exempt vs. non-exempt status, andemployee vs. independent contractor? Are allegations of harassment ordiscrimination treated seriously? Is the organization keeping good records ofemployee evaluations – particularly when they are not good?

i. Even though this is not nonprofit-specific, it is worth mentioning becausevast majority of lawsuits are by aggrieved employees or former employees

ii. Must withhold necessary FICA, Social Security and unemployment taxesand file quarterly. Any problems with tax withholding are aggressivelypursued by IRS; no “sympathy” because organization is nonprofit; IRS mayhold directors and officers personally liable

iii. Pay particular attention to wage/hour laws; treble damages for violations

IV. Directors’ Liability and Protections

a. When Can Directors be Personally Liable?

i. Liability to the organization

a. C.G.S. §33-1105 – for unlawful distributionb. C.G.S §33-1106 – board members who vote/assent to loans made to

officers/directors that are not in the course of the nonprofit’s usual


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business, nor made primarily for a legitimate purpose of thenonprofit, are jointly/severally liable until repayment

c. Common law – Breach of statutory duties of care, loyalty andobedience

ii. Liability to Third Partiesa. liability only for reckless, willful, or wanton misconduct – C.G.S.

§52-557mb. Personally participating in an activity causing harm to a third party

(e.g., tort claims)c. Common law – Breach of statutory duties of care, loyalty and

obedience

iii. Liability to Governmental Authorities

a. I.R.C. § 6672 withholding taxes - failure of organization to paywithholding taxes; presumptive liability unless not a “responsibleparty” – potential liability is 100% of the amount that should havebeen withheld – IRS views this as a “trust” rather than tax issue andimposes late filing and late payment penalties as well as taxes andinterest.

b. I.R.C. § 4958 - intermediate sanctions (excise taxes) imposed on“disqualified persons” and “organization managers” (e.g., directors)for “excess benefit transactions”- Disqualified persons – penalty of 25%/200%- Organization managers – 10% of the excess benefit up to $20,000

c. I.R.C. § 6104 (d) disclosure rules – failure to follow new rules oninspection and copying of tax documents – possible penalty of$20/day, maximum of $10,000 for failure to provide a Form 990

b. Available Protection Against Liability

i. Generally:a. corporate law protects individual directors from liability for the acts

of the corporationb. Always some exceptionsc. Nonprofits enjoy some additional protections

ii. Statutory Protectionsa. Federal: Volunteer Protection Act

i. Applies only to 501(c)(3) organizationsii. “Volunteers” include unpaid officers and directors


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iii. Protects individual volunteers, not the organizationiv. Provides immunity for volunteers for harm caused by their

acts or omissions if:a. volunteer was acting within the scope of his/her

responsibilitiesb. if appropriate/required, volunteer was properly

licensed, certified or authorized to actc. the harm was not caused by willful, criminal or

reckless misconduct, gross negligence, or actscommitted under influence of drugs/alcohol

d. the harm was not caused by the volunteer operating amotor vehicle, vessel or aircraft or any other vehiclerequiring insurance coverage or a license to operate

v. does not protect volunteer from lawsuits from/by theorganization itself (e.g. – from members)

b. State Protectionsi. Good Samaritan Rule: C.G.S. §52-557m - uncompensated

officers/directors of a 501(c) organization are immune fromcivil liability for damages/injury resulting from any act, erroror omission made in the exercise of his/her policy ordecision-making responsibilities, if acting in good faith andwithin the scope of official functions/duties, unless caused byreckless, willful or wanton misconduct

a. Organization does not have to be a 501(c)(3) publiccharity

b. no immunity for violations of federal statutes such asADA, civil rights laws or excess benefit transactionrules

ii. Business Judgment Rule: C.G.S. §33-1104(d) - no liabilityfor a director/officer for any action, or failure to take action,if he/she performs his/her duties according to the statutoryrequirements - in good faith; with the care of an ordinarilyprudent person in a like position; in the best interests of theorganization

iii. Indemnification: C.G.S. §33-1116 et seq - the organizationmust pay back officers and directors for damages or expensesrelating to claims arising from conduct in the course ofofficial duties

a. mandatory indemnification (if successful indefending a criminal/civil proceeding)

b. prohibited indemnification (if statutory duties havebeen violated)


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c. permissive indemnification (more expansive thanmandatory; director acted in good faith,reasonableness, best interests of the nonprofit; cancover defense costs, include employees and otheragents) Provision must be in the Certificate ofIncorporation to be effective

iv. Limited Financial Liability: C.G.S. §33-1026(b)(4) -limiting personal liability of Board members to thecorporation or its members to compensation received.Provision must be in the Certificate of Incorporation to beeffective

iii. Insurancea. General liability insurance – covers claims of bodily injury and

property damage

b. Other types of insurancei. Professional Liability insuranceii. Automobile insuranceiii. Umbrella coverage

c. Directors and Officers (D&O) Insurance – covers non-bodily injuryclaims

i. generally covers the “wrongful acts or omissions” of theorganization, its directors, officers, employees and volunteers

ii. generally “claims made” policies – coverage at the time aclaim is made, not when the act occurred

iii. D&O Coverage usually includes:a. Coverage for claims alleging breaches of directors’

duties (care, loyalty, obedience)b. Employment practices liability (important!) -

coverage for defense and indemnity for civil rightsviolations, wrongful termination, discrimination,breach of contract, retaliation

c. Typical exclusions may include:i. bodily injury/property damageii. personal profitiii. non-monetary reliefiv. breach of commercial contractsv. libel and slander

iv. D & O policies vary greatly – read yours!


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a. How is “wrongful act or omission” defined?b. What acts are excluded?c. Who is included under the definition of “insured?”d. Are indemnification costs covered?e. try to obtain necessary policy riders

d. Find good broker, preferably experienced with nonprofitse. Individual Board members should not rely on their own umbrella

policies; they might cover property damage and personal injury, buttypically will not cover other kinds of lawsuits (e.g., wrongfultermination)

iv. Managing Risk through Governance and Operations


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Documents

nonprofit law outline - Hartford Foundation for Public Givingnsp.hfpg.org/nsp/documents/NSP Handout 2008 Legal Issues2.pdf · O:\NSP\Workshops -- Regular\2008\1015 Legal Issues\Handouts\nonprofit