High-profile Case Shines a Spotlight on Obligation of Nonprofit Directors

By Richard L. Weber, Esq.

‘Nonprofit boards should consider obtaining ‘directors and officers’ insurance coverage (aka “D&O” coverage) and employee “fidelity insurance” in order to protect board members that diligently perform their duties.’

Nonprofit organizations are an essential fixture in our communities. Often, the engine that drives a nonprofit is its board of directors.

Service on a nonprofit board is to be commended. However, a recent court case underscores how important it is that individual directors understand the fiduciary obligations that come with nonprofit board service.

In September 2019, The College of New Rochelle filed for bankruptcy after 115 years of operation. This particular bankruptcy was commenced in The United States Bankruptcy Court for the Southern District of New York as a “Chapter 11” filing — a variation of bankruptcy that seeks “reorganization” of the insolvent organization to satisfy debts and (if possible) move forward with continued operation in some form in the future.

Over the following months, a number of creditors filed claims in the bankruptcy, seeking to recover payment on debts owed by the college, and the campus itself was put up for auction.

On Jan. 14, 2021 the committee established to protect the interests of unsecured creditors commenced a lawsuit directly against former members of the college’s board of trustees. The complaint in the lawsuit asserts (among other things) that the former trustees improperly “delegated near complete control” over financial decisions to certain college administrators, failed to install proper corporate governance systems and safeguards, enabled misuse and depletion of college endowment funds, and failed to ensure proper payment of payroll taxes and other liabilities.

In particular, the complaint alleges that the trustees failed to adequately supervise the college’s former treasurer – vice president of finance, which enabled that individual to engage in unlawful misconduct and mismanagement of assets (actions for which he was ultimately prosecuted by the Department of Justice and sentenced to a three-year prison term).

The complaint seeks significant financial recovery directly from each individual trustee, and asserts that each trustee bears responsibility for the tens of millions of dollars of liabilities incurred by the college prior to the bankruptcy.

The College of New Rochelle case is strong reminder that individuals serving on nonprofit boards cannot merely “show up” at monthly meetings and “rubber stamp” the actions of the organization’s executives and staff; individual directors who abdicate their duties could incur significant individual liability. Each and every director must be mindful of the fiduciary duties and obligations that come with board service, including:

• the duty of care, which demands acting in good faith with the appropriate degree of diligence, care and skill required for the position, and includes (among other things) attending and actively participating at board meetings, reviewing reports and minutes of the board and the organization, and engaging in periodic review or audit of the organization’s employees and operational practices;

• the duty of obedience, which requires compliance with applicable law and regulations and the organization’s internal governing documents and mission statement; this duty includes monitoring the operations of the organization to make sure it remains properly focused on its core mission; and

• the duty of loyalty to the organization, which demands that a board member put the best interests of the organization above his or her individual interests.

Fortunately, the majority of nonproft organizations have diligent and engaged board members, and good internal governance practices. Yet it is essential that an individual serving on a nonprofit board of directors take the time to personally review the organization’s formation and governance documents (including its mission statement and bylaws), and become familiar with the organization’s assets (including real property and accounts), finances (including tax filings and audited financial statements) and operations.

Nonprofit boards should consider obtaining “directors and officers” insurance coverage (aka “D&O” coverage) and employee “fidelity insurance” in order to protect board members that diligently perform their duties.

Finally, organizations should consider retaining outside accountants and attorneys to review operations on a periodic basis with an eye toward ensuring compliance with all applicable laws and obligations.

Richard Weber

Richard L. Weber is an attorney with Bond, Schoeneck & King, PLLC in Syracuse. He specializes in business litigation, trust and estate litigation, and property disputes. To contact him, send an email to rweber@bsk.com.