Donald J. Bourgeois BA (HONS.) LLB
Barrister and Solicitor
Board governance for charitable and not-for-profit organizations is in many ways similar to board governance in “for-profit” or business corporations. The tools of governance are common—such as risk assessments, strategic and business planning, budgeting, and financial statements. What is largely different is the purpose or rationale underlying the organization itself. The “why” the organization exists is something that is essential to understand and the “why” for charitable and not-for-profit organizations is different from the “why” for business corporations, whether those corporations are privately owned or publicly traded.1
“Good governance” is “good governance.” The boards of directors and senior management of charitable and not-for-profit organizations have no less obligation to ensure that the organization is governed in an appropriate manner and in compliance with the applicable law than do the boards of directors and senior management of business corporations. Indeed, arguably, given the “why” of charitable organizations in particular, that obligation is even greater in common law jurisdictions. Charitable organizations hold the assets “in trust” for their charitable purposes and it may be that this “trust” obligation extends to the directors. All directors have fiduciary obligations to the corporation, but this “trust” obligation extends the duty and accountability and the potential liability.
There are a variety of options for businesses to organize themselves and charitable and not-for-profit organizations also have several approaches. The initial legal approach may change or evolve as the organization itself changes. The following are the main legal approaches, although there will be variations from one jurisdiction to another:
Organizational governance starts with the board of directors of the corporation or its equivalent in other legal structures, such as trustees in a trust. The role, regardless of name of the positions, is an essential one of leading the organization. In the sector, some prefer the use of the term “stewardship” to that of “governance” as it may suggest a longer-term perspective and a higher purpose. Generally, “governance” may be seen as a combination of both the overall processes and the structures that are used in directing and managing the organization's operations and activities; “stewardship” is the responsibility of the board of directors of an organization and involves the active oversight by the board of the organization's governance.
The directors are any organization's primary asset. This statement may seem to be inconsistent with other pronouncements on what is most important. For example, it is common for private sector, public sector, and voluntary sector employers to state that their employees (or volunteers) are their greatest asset. Others argue that an organization's major asset is its reputation. All of these statements and others are likely accurate in general and for specific organizations.
Directors are, however, unique. An organization is a legal artifice. It exists in law and as a legal concept for practical purposes. An organization allows people to structure their internal relationships and external dealings with others in an efficient and effective manner. Nobody can touch, feel, see, or hear an organization; it has no physical reality. It becomes real through the actions of individuals. And directors are responsible for making sure that the organization relates to people in accordance with the law, that it acts in a fiscally prudent manner (which includes managing risks), and that it is effective in achieving its purposes. Importantly, its purpose is not to “make money” in the traditional sense of a business corporation; its purpose is to carry out activities that achieve the organization's objects. Those objects in turn are some level of betterment in society or provision of services to members.
The organization itself may exist as a separate legal entity. Corporations, for example, are established by law as “legal persons.” A large number of organizations, however, have no or little “legal personhood.” These organizations are unincorporated associations which are not legally “persons.” In some cases, the common law and statutory law do recognize a limited legal personhood to these unincorporated associations, for specific purposes. In other cases, the organizations may be “trusts,” in which the assets are held in trust by legal persons, such as individuals or corporations.
Regardless of the legal structure, it takes real people for an organization to act. The law—in the form of the courts, regulators, and governments—and the public look to directors and officers as the primary method by which organizations act and for accountability purposes. The law and the public have developed expectations that directors and officers will ensure that the organization achieves its objects (or works toward doing so), complies with the law that applies to the organization, and operates in a fiscally prudent and effective, efficient manner. They look to directors to put in place governance that is appropriate for that organization.
The charitable and not-for-profit sector and its regulatory, operational, and governance contexts have been significant participants in the social, cultural, and economic life of communities for generations. They evolve as do other sectors in response to public expectations. Residents of municipalities, provinces or states, and nations want the sector to be strong and to provide valued and valuable services to the community—the big “but” is a continued reluctance to ensure that the sector and organizations within the sector have the resources necessary to meet the needs and expectations. Governments in turn have reflected this ambiguity. The sector has been largely seen as “volunteer” and not as a significant economic driver. “Charity” in particular has been viewed as “poverty” and “not-for-profit” as neighborhood associations which belie the reality overall. Charitable and not-for-profit organizations may have those characteristics, but they are also large and sophisticated entities that are essential to the economic, social, and cultural lives of residents and provide essential services.
This ambiguity may also be evolving. For example, the growth in interest in “social enterprise” and “social impact bonds” to provide new revenue sources for the sector may be illustrative of a recognition that public expectations and governmental expectations with respect to service levels and with governance cost money. Individuals with high net value have also, in their own way, recognized the need to provide adequate resources to the sector. Whether these resources are seen as “earned revenue,” “investments in social capital,” “unlocking of asset values” in charitable foundations, or other concepts, the need for money has gradually been recognized as a legitimate issue. What is still perhaps at an earlier stage is seeing “governance and accountability” as also expressly needing resources and not simply the dreaded “administrative and wasteful” use of funds.
The sector is in reality not a single one but is made up of two broad categories from a legal perspective—charitable organizations and not-for-profit organizations. Even this breakdown does not fully capture the differences in legal structures and purposes of the organizations. Whom the sector(s) serves and what services are offered varies tremendously—from member-based organizations that provide recreational facilities and activities to quasi-governmental entities that regulate and provide services that are often seen as governmental in nature; from organizations that provide local charitable activities to large institutions and international organizations.
The two subsectors—charitable and not-for-profit—have commonalities but are not the same. Each is “not-for-profit” in the sense that any surplus from annual operations or, generally, at the time of the winding up of the organization are not intended to be distributed to the members or those who govern the organization. But the historical development and legal context of charities is different from that of not-for-profit organizations. Charitable organizations developed out of trust law and its antecedent, the law of uses. The legal structure used is often, but not exclusively, a corporate one. The nineteenth century in England also placed a greater emphasis on taxation and ensuring that the charity was exempt from income taxation and other forms of taxation. The ability of charitable organizations or similar entities to provide receipts for donations that permit the donor to reduce income tax enhances the importance of the status as a charity. Different jurisdictions, of course, take different approaches to the extent of such benefits and to whom and how they apply.
Not-for-profit organizations are similar to charitable organizations but there are significant points of divergence. A key divergence is on the underlying purpose of the organization. Charitable organizations are intended to carry out public benefits and not private benefits; not-for-profit organizations may carry out public benefits but are not generally restricted in the provision of private benefit to members and others. It is important to note, however, that there are many not-for-profit organizations that “do good” in their community—ranging from neighborhood associations to service clubs and even professional and trade associations. Many communities would be materially different without the Rotary Club, Knights of Columbus, Kinsmen, Women's Institute, and the countless other membership-based organizations. The focus, though, is usually more on membership benefits (“private benefits”) than on the benefit to the public.
Directors of charitable organizations may have duties that are more aligned with those of “trustee” than those for business corporations or even noncharitable not-for-profit corporations. For example, trustees in general and trustees of charitable trusts have a higher threshold with respect to the duty of care and conflicts of interest. Trustees must be reasonable, prudent, and judicious in carrying out their responsibilities. Generally, unless the trust document permits otherwise, they must act gratuitously and some jurisdictions, such as Ontario, restrict trust documents from deviating from this duty. Trustees also have duties to account, to manage (and not to delegate) the charity's assets, and to carry out the charitable purposes. The extent to which trust duties will transcend to directors of corporations that are charitable will depend upon the law in that jurisdiction.
There is a spectrum along which most charitable and not-for-profit organizations will fall. At some point the legal analysis will determine that the organization is “charitable,” holding the assets for charitable purposes rather than for the not-for-profit purposes of the members. In order to avoid problems and to ensure compliance with applicable laws, it is best that the decision be a conscious and deliberate one and not one into which the organization falls by accident or inadvertence.
The issue of what is charitable is a complex one. It is useful, for introductory purposes, to highlight what the law considers to be “charitable.” The law in common law jurisdictions grew out of the English common and equitable law with some statutory developments. Underlying the English common law, though, is an Elizabethan-era statutethe Statute of Uses, 1601.2 This statute was intended to address abuses in the law of uses (an older form of trust) and attempted to legislate activities and to ensure that funds were not misapplied. The preamble listed a number of objects which were, for the time, charitable in nature. The list was used by the court in Morice v. Bishop of Durham3 and the items became the generally accepted categories of charitable activities or objects. A series of cases, including the infamous Pemsel4 case, entrenched the following four categories of charitable purposes:
While this fourth category or heading of charity would appear to be very broad, the common law has restricted its development to activities or purposes that are comparable to what the courts have already identified and accepted as being charitable. This common law approach has been adopted in Commonwealth jurisdictions and the United States, and results in a very slow, case-by-case, adaption to more modern needs. A key qualifier is that charity must provide a demonstrable and practical “public benefit” to the community as a whole or to a sizeable and material proportion of the community.
The role of charitable and not-for-profit organizations—the “why” they exist—necessarily affects the role of directors. The size and scope of the organization and the context in which it is operating will also have material effects.
There are two conceptual approaches to “governance” and “stewardship.” The more traditional approach is that the directors manage the affairs of the organization. The board would make most substantive decisions based on materials provided for board meetings and the discussion or debate at the meeting. The second approach is based on an oversight role for the directors to ensure that the organization is effective and is accountable. The oversight role relies more on the development of operational and other “policies” by the board of directors, which then looks to the officers and staff to implement. The two approaches are sometimes labeled the “administrative governance board” model and the “policy governance board” model.
In reality, most organizations have operated and will continue to operate using a mixture of these two approaches. If the organization has staff, by-laws would, for example, often permit the executive director to manage staff in accordance with board-established human resource policies. Often, the by-laws or board resolutions determine the authority of the executive director to spend money within a budget set by the board. For larger organizations, these policies have typically included human resources, financial operations, advocacy, programming, and so forth. Staff would be required to report to the board or a committee of the board on compliance with and deviation from the policies and on issues that arise for which greater direction is required.
There are both practical and legal limits to the extent to which boards may delegate their responsibilities through the issuance of policies. Boards will always have an oversight role in any organization, but boards of corporations must be able to demonstrate that they “manage the affairs” or “oversee the management of the affairs” of the corporation. The statutory provisions have been updated in several provinces, sometimes distinguishing between “managing the affairs” and “overseeing the activities of the affairs” of the corporation.
The proper mixture of “management” and “oversight” through policies is organization and time specific. There are practical limits to the abilities of directors to manage the affairs of large organizations with many employees. It is physically impossible for these directors to make all of the decisions that are required to be made on a day-to-day basis. Arguably, these directors could be negligent if they attempted to do so because decisions would not be made by the person most competent to do so, the decisions would not be made in a timely manner, and the directors would be wasting the skills and talents of the employees. The same argument, however, could not be made for a small organization that has no employees and has no significant day-to-day activities. Although that organization may want policies in place to guide the board's decision-making—and to avoid repeated debates on the same issues—the board would continue to make most if not all decisions.
There is a spectrum between the two models of administrative governance and policy governance. Where on that spectrum an organization lays will depend upon a number of factors:
There is no comprehensive or single, clear legal articulation of what is meant by “manage the affairs” or supervising the management of the affairs and activities of an organization. It will differ depending upon the issue, the circumstances, and the organization. There are also certain decisions that are so fundamental to the affairs of any organization, that only the board should be making those decisions. For example, the budget of any organization ought to be, at the very least, approved by the directors and the board or a committee of the board ought to be involved in the preparation of the budget for larger organizations. In other situations, the law may require that the board be involved other than through policy statementseither directly or indirectly where the ramifications are such that no prudent director would consent not to be involved.
The increased skills of professional staff may lead to changes in how the board and senior staff interact. Staff will often be driven by the strategic planning processnot to exclude directors but because the staff should have the information to assist the board in making good decisions. The board members, if properly recruited, will bring knowledge within their expertise, which includes information about the community being served. The relationship between staff and board ought to be one of collaboration and mutual respect rather than an adversarial one. Just as staff should be recruited based on the needs of the organization and the skills the individual brings to the position, so should the board members. It should be clear what each board member's skills are, what his or her areas of knowledge and expertise are, and what he or she ought to contribute to the organization. Staff need to understand that while they may have more knowledge and specific expertise in certain areas, especially where there is complexity in the context in which the organization operates or when change is rapid, the role of the board is critical to the long-term success of the organization and its credibility to others.
A major role of the board is to ensure that the organization is effective in achieving its objectives in an efficient manner that is compliant with legal and regulatory requirements. A board, in moving toward this goal, needs to be concerned about the organization's capacity to do socapacity including financial resources, human resources, program development, planning, and so forth. While it is often argued that boards should just get out of the way and let “the real work get done,” that approach overlooks the infrastructure that is necessary to ensure that the work can get done in the longer term, and at times even in the short term. The board is there to ensure that the organization remains relevant to its community and responsive to its community's needs, is effective in doing so, and is resilient.
There are a number of basic conceptual tools for boards to be effective. These tools are comparable to those for business corporations but are also reflective of the “why” of charitable and not-for-profit organizations.
There are several components to the mission and strategic planning. The directors need to establish the mission, communicate it with the organization's members and stakeholders, and review it periodically to ensure that it is appropriate. A mission, if it is to be used to guide the organization's subsequent decision-making, will be an important statement and the board should consider the level and type of consultation it will undertake with the members, its employees, clientele, funders, and the public. There ought to be a significant degree of up-front buy-in or comfort if the mission statement is to be accepted and become effective. The board also needs to develop strategic plans to implement the key elements of the mission statement; mission statements, like organizations themselves, can only become a reality to people being served through actions.
The board also needs to consider what the risks are and how to manage those risks. Any action involves risk and the board has a duty to anticipate risks, to understand those risks, to address them through mitigation measures (such as prevention and transference), and to manage them. The board does not have a duty to avoid all risks; the only way to do so would be to do nothing in life, which defeats the very purpose for the organization to exist and creates its own risk to the organization's relevance. Increasingly, the expectation is that the board will do so in context of an enterprise risk management process. An ERM approach to risk management is a more comprehensive one which also identifies the board's level of tolerance for different types of risks (which may vary from risk to risk) and how the organization is to mitigate risks (which may also vary from risk to risk).
The board needs to oversee and monitor the mission on a regular basis. It can do so by establishing measurable goals. “Desired outcomes” or “impacts” are preferred over “inputs or activities,” but it is not always clear how this could be accomplished.
Transparency and communication include a number of elements. The board should establish policies for communication and feedback with stakeholders, a code of ethical conduct, and a complaints and grievance procedure that is effective. The board must meet regularly for discussion of matters and the making of decisions. Proper minutes and other documents must be kept to maintain the collective memory. The organization should also respond appropriately to requests for information, recognizing that different requesters will have a different level of access to such information and differing needs.
However, not all requests are reasonable or bona fide. Furthermore, information may be proprietary or confidential and organizations need to protect those types of information. The level of the information that is provided to those requesting ought to be appropriate and consider any restrictions, legal or practical, that may exist on the information and the context in which the person is making the request. Privacy attaches very strongly to human resources information, and the public's expectation—and that of employees and volunteers—is that the organization will maintain confidential such information absent a legal obligation to disclose.
There are at least three elements that should be included in some manner: (i) that the board be capable of objective oversight; (ii) that there be a process for ensuring appropriate succession of the board; and (iii) that an audit capacity be established, such as an audit committee. The purpose of an audit committee, for example, would be to report on whether the organization is complying with the laws, rules, regulations and contracts that govern it and to review whether the management, information, and control systems are organized and implemented to carry out these rules and regulations. The audit committee is also responsible for supervising external financial reporting. Whether there is one committee or more will be dependent on each organization.
The size of the organization and the scope of its operations may suggest a less sophisticated approach to organizational structure. Each organization needs to develop its own approach, and the more sophisticated approach may be more in keeping with a policy governance board model than one in which the board makes most of the decisions.
While any human activity (not-for-profit or for-profit) is not without risk, the board should not put the assets of the organization at unnecessary or unknown risk. Risk is a part of life, but the board needs to know and understand the likely risks and put in place the tools to minimize and manage those risks. The directors have duties toward the organization and often to third parties to ensure that the organization is operated in a financially prudent manner. These duties are sometimes referred to as some of the “fiduciary duties” of directors.
The board, in fulfilling its duties, ought to put in place:
Boards too often fail to devote the resources that are necessary to ensure that prudent financial practices occur. However, without the resources being available and properly managed, the organization cannot fulfill its objectives and the underlying purpose of the organization is not possible. Human nature being what it is, others look to financial prudence in making their decisions about an organization. Organizations that become insolvent or that have substantial losses due to defalcation or misuse of funds that could have been avoided are not trusted. The voluntary sector operates on the basis of “trust”—trust in both its legal sense and its human sense.
The board must also ensure that the organization complies with the various statutory schemes that are in place, including employment legislation, workplace safety, labor legislation, collective agreements, and human rights codes. There should be codes of conduct, including conflicts of interest, in place to guide behavioral conduct. Appropriate screening processes should be in place for both staff and volunteers, especially where they deal with children, the elderly, or vulnerable in the community.
Some organizations are using board nominee processes to identify potential new board members. This process includes establishing the skills, training, and experience requirements of directors on a regular basis and recruiting individuals who fit the profile(s). What the profile or profiles are for an organization will vary, including based on the stage of development of the organization. The profiles may also vary among the directors to ensure a mix of various skills, such as financial, business planning, legal, accounting, technical, fundraising, and so forth.
There will be a negative side to this approach. For membership-based organizations in particular, individuals who participate on the board may no longer be eligible to do so using this approach. Individuals are often driven to participate by a passionnot because they have financial literacy or similar skills. The absence of passion is sometimes a longer-term problem for organizations, as is the loss of the opportunities for members to guide the future of the organization at the board level.
The general principles of good governance for charitable and not-for-profit organizations are similar to those for business corporations. And these principles are generally applicable from one jurisdiction to another. There will be, of course, differences in legal obligations and how the principles are implemented based on the laws of each jurisdiction. Furthermore, although these principles may be rearticulated periodically to address changes in law, experiences, or public expectations, the principles have longevity.
The Charity Commission for England and Wales, working with umbrella organizations in Britain, identified six principles for an effective board.5 These six principles are as relevant to not-for-profit organizations as they are to charities and as they are to most human organizations. Directors are to be guided by:
These principles are aligned with the Charity Commission identification of hallmarks of effectiveness: (1) being clear about purposes and direction; (2) having a strong board; (3) being fit for the purpose; (4) learning and improving; (5) being financially sound and prudent; and (6) being accountable and transparent. Ultimately, that is good governance.
Don Bourgeois has a private practice of law, and is counsel to Fogler, Rubinoff LLP. Don has over 25 years of experience in government, primarily in senior and executive positions. He was previously general counsel for the Alcohol and Gaming Commission of Ontario, where he was also deputy registrar. He has practiced in the charitable and not-for-profit sector and is one of Canada's experts in charitable and not-for-profit law, having written legal texts and administrative handbooks, including The Law of Charitable and Not-for-Profit Organizations. Don also has practical experience as a director and board chair of numerous organizations.
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