There have been some recent high profile stories in the news of nonprofits that have found tragic results due to organizational structures where the power of the organization is held by one or two individuals—often a founder and his/her family member.
In our work with nonprofit organizations over the years, we occasionally encounter situations where a visionary leader is interested in founding a nonprofit organization, serving as the organization’s first paid executive director, and then retaining control over that organization and all of its actions into the future. The founder is often interested in constructing safeguards that allow him or her to control the organization, as Buzz Lightyear (from my son’s favorite movie, Toy Story) would say “to Infinity and beyond!”
There is a common misunderstanding of the label “nonprofit” that is applied to tax exempt charitable or educational organizations; and this goes to the heart of what a nonprofit organization is supposed to be. Under federal tax law the key characteristic of and most important rule governing these organizations is that their resources and assets are dedicated solely to achieving the legally recognized public benefit or purpose for which they were granted this tax status.
This is often expressed, in the negative, with the doctrine that prohibits “private inurement”, or private benefit. A nonprofit organization is allowed to make a profit, but not to distribute its earnings or profits (or its assets on dissolution) for the private benefit of any individual or non-charitable organization. This is why nonprofits generally have members in place of shareholders – no one has an owner’s right to the proceeds of the organization’s work; and It’s the reverse of a ‘for profit’ business, whose purposes is to generate income for its owners or shareholders.
Nonprofit directors or trustees, free of financial or other conflicts of interest, are expected to provide assurance that their nonprofit organizations are in compliance with these and other principles of accountability and integrity. Examples of practices that must be avoided are paying excessive compensation to staff or contractors, or business dealings or relationships that enrich individuals or other entities at the expense of the nonprofit. It’s difficult to imagine how a board of directors or trustees can properly meet this duty if they in turn are accountable to one or a few individual “members” who also have financial interests in the organization or its activities.
So no matter what a state incorporation law might appear to allow, founders of charitable organizations should not try to set up a nonprofit organization that is “theirs and theirs alone.” Actually, there are many reasons why it is NOT wise for nonprofit organizations to be set up like monarchies or independent fiefdoms. Not the least of these is the fact that the IRS is really clamping down on organizations that are actually closely held corporations or sole proprietorships masquerading as nonprofits. In fact, an article on governance and related topics on the IRS website states that:Irrespective of size, a governing board should include independent members and should not be dominated by employees or others who are not, by their very nature, independent individuals because of family or business relationships. The Internal Revenue Service reviews the board composition of charities to determine whether the board represents a broad public interest, and to identify the potential for insider transactions that could result in misuse of charitable assets. The Internal Revenue Service also reviews whether an organization has independent members, stockholders, or other persons with the authority to elect members of the board or approve or reject board decisions, and whether the organization has delegated control or key management authority to a management company or other persons. (Governance and Related Topics, IRS website, Life Cycle of a Public Charity)
Nonprofits should ensure that one person does not retain ultimate control over an organization. The Standards for Excellence: An Ethics and Accountability Code for the Nonprofit Sector states, “…where an employee of the organization is a voting member of the board, the circumstances must insure that the employee will not be in a position to exercise undue influence.” The Standards for Excellence code encourages nonprofits to institute conflicts of interest policies that cover board members, staff members and key volunteers. The code also requires nonprofits to have comprehensive board-approved personnel policies and volunteer policies in place that help organizations ensure fair and equitable treatment of staff. Term limits help to ensure adequate rotation of board members and an organization’s volunteer leadership. The nonprofit exists to achieve its mission of service to the community. The board of directors has an important fiduciary role to hold the organization “in trust” for the community.
Remember, the person who starts the nonprofit organization will ALWAYS be the founder – no one can ever take that legacy away. Most founders do lead their organizations successfully for years and even decades. However, do be aware that there is a phenomenon called “founder’s syndrome” that applies when an organization’s needs have outgrown the skills of the founder. Sometimes, the founder must step aside in order for the true lasting legacy to be realized. Founders who fail to realize this or insist on bylaws that leave them in control can doom their organization to failure once they retire. Additionally, everyone leaves an organization eventually. If control has been tightly held for years, the leadership void created can also lead to organizational failure. That is not likely the legacy most founders want to leave behind.
We often say that “you can’t own the nonprofit” and “once you set up the charitable nonprofit organization, you can no longer have complete control over the organization and its work.” So, if your interest is in controlling the organization and the terms of your own employment, “To Infinity and Beyond,” it might make more sense to consider starting another type of organization altogether.
Did you know? The Standards for Excellence® Educational Resource Packet, “Board Composition,” includes a discussion of handling situations where employees are on the board and ensuring that one person is not in a position to exercise undue influence. The packet is free and available to Standards for Excellence Institute® members. It is available through the members only section of our website. Hard copies are also available upon request. Not a member? Join now!