Good Governance Practices for 501(c)(3) Organizations

Good Governance Practices for 501(c)(3) Organizations
March 27, 2014
Good Governance Practices
for 501(c)(3) Organizations
Prepared for Accounting and Financial
Women’s Alliance (AFWA)
March 27, 2014

March 27, 2014
Elizabeth Wright, CPA
PYA Manager
Elizabeth has specific knowledge in tax
accounting and reporting for exempt
organizations, including issues related to
private inurement, unrelated business tax,
and tax-exempt status. She also provides
research and planning for mergers and
acquisitions, reorganizations, affiliations,
and joint ventures. Elizabeth has
experience assisting tax-exempt hospitals
in fulfilling IRS requirements for community
health needs assessments and financial
assistance policies.

March 27, 2014
Agenda
Public trust is a charity’s greatest asset
Importance of having knowledgeable/
engaged governing boards
Effective self-policing policies
Avoiding conflicts of interest
Importance of implementing a code of
ethics policy
Financial statements and Form 990
reporting
What you need to know about Unrelated
Business Taxable Income (UBIT)
Useful resources for your organization

March 27, 2014
Public Trust
• The concept of “public trust” originated
around the same time as the beginning
of our democracy. It is the idea that the
public is the true power of any society
and that their trust must be respected
by public officials.
• “Trust” and “charitable giving” are
inseparable.
• The IRS is focused on exempt
organizations practicing good
governance.

March 27, 2014
What is Good Governance?
• Just as there is no single model for charity,
there is no single model for governance.
Instead, there are practices charities should
consider when looking for an effective
governance structure.
• It is the IRS’s view that “a well-governed
charity is more likely to obey the tax laws,
safeguard charitable assets, and serve
charitable interests than one with poor or lax
governance.”

March 27, 2014
Good Governance – Con’t
• The IRS “promotes” good governance practices to
the tax-exempt community.
• Superior board governance may have more to do
with the values, active engagement, and
accountability of those in charge than the adoption
of procedures and policies.

March 27, 2014
Sarbanes-Oxley Act
• Enacted in response to corporate accounting oversight
scandals.
• Introduced significant new governance standards,
requiring the boards of publicly traded companies to
oversee financial transactions and auditing procedures.
• Two provisions of the Sarbanes-Oxley Act apply to
nonprofit organizations:
 Whistle Blower Protection
 Document Destruction

March 27, 2014
State Nonprofit Procedures
• Many governments have passed or are considering
legislation that addresses nonprofits’ accounting and
auditing procedures.
• California enacted the California Nonprofit Integrity Act
of 2004. It applies to foreign (out-of-state) charitable
corporations that do business in California, or hold
property in California for charitable purposes.
– All CA nonprofits with annual revenues of at least $2
million must have an independent audit. The audit must
be available to the public and the CA attorney general.

March 27, 2014
Governance & Form 990
• Governance questions added to the 2008 Form 990.
• Information sought:
 Composition and independence of the governing body.
 Governance policies and procedures.
 How governance and financial information is made
available to the public.

March 27, 2014
Organizational Documents
A tax exempt organization must have
organizational documents that provide
the framework for its governance and
management.
State law often prescribes the type
and content of organizational
documents.
The IRS reviews these
documents in applications
for exemption.

March 27, 2014
Organizational Needs
Size Independence
Knowledge
Mission Statement

March 27, 2014
Internal Controls
Segregation of
Duties
Control
Execution of Transactions
Personnel
Assets
Recordkeeping

March 27, 2014
Recordkeeping
Good Records allow organizations to track expenses
• How much did each activity cost?
• How did you organization spend its money?
Tracking volunteers’ hours allow organizations to:
• Know who did what
• How long it took
• Which programs or activities were successful
• Formalize lessons learned
• Verify items on the IRS and state returns

March 27, 2014
Due Diligence
• Board members act as stewards and have certain
fiduciary responsibilities under Tennessee law.
• Acting consistently with a duty of care:
– Care that ordinary, prudent person in like
circumstances would exercise
– In good faith

March 27, 2014
Due Diligence – Con’t
• In an organization’s best interest:
 Review and approve strategic and operating plans.
 Evaluate senior leadership performance.
 Evaluate and approve senior leadership
compensation.
 Oversee the financial reporting and audit process.
 Oversee legal compliance.

March 27, 2014
Due Diligence – Con’t
Board member best practices:
• Attend board meetings and committee meetings.
• Carefully read all the material received, ask questions and be an
active participant in board discussions.
• A board member should be informed about every major action the
nonprofit takes, and be proactive about reviewing materials in a
timely manner.
• Use personal judgment in voting.
• A responsible board member will ask about the reasons for
recommending a particular action and the consequences--good and
bad--such action will bring.

March 27, 2014
Duty of Loyalty
A board member must act with undivided loyalty in the best
interests of the nonprofit organization and not seek to benefit
personally from the business activities of the nonprofit
organization served.
Actions that benefit a board member at the expense of a
nonprofit organization are a breach of the board member’s
fiduciary duty.
Prior to joining a board or being employed as an officer by a
nonprofit, an individual must disclose any personal or business
relationship that is in conflict with the duty of undivided loyalty,
whether direct or indirect, actual or potential.

March 27, 2014
Conflict of Interest
Require officers/directors/employees to act for the
benefit of the charity without regard for personal interest.
Include written procedures for determining whether a
relationship, financial interest or business affiliation is, or
could be a conflict of interest.
Prescribe a course of action in the event a conflict is
identified.
Require annual disclosure of any known interest in an
entity that transacts business with charity.
Conflict of Interest policy should:

March 27, 2014
Private Inurement
• Applied to insiders of the organization: officers,
board members, key employees.
• Examples: payment of unreasonable compensation
to insiders, the transfer of property to insiders for
less than fair market value, or business transactions
that provide greater benefit to insiders than to the
charity.

March 27, 2014
Private Inurement – Con’t
• Prohibition against inurement to insiders is
absolute.
• Any amount of inurement is grounds for loss of tax-
exempt status.
• An insider involved in inurement—and any
managers that approved the transaction—may be
subject to an excise tax.

March 27, 2014
Inurement/Private Benefit
• A “private benefit” to someone who is not an insider
must be substantial in order for the organization’s
exempt status to be in jeopardy. The next two
slides contrast two situations when private benefit to
non-insiders is insubstantial versus substantial.

March 27, 2014
Inurement/Private Benefit – Con’t
• A nonprofit develops a community center in a
residential neighborhood. Although some homes will
be very close in proximity, the community center is
open to the public and therefore provides
insubstantial, incidental private benefit to the
surrounding homes.

March 27, 2014
Inurement/Private Benefit – Con’t
• Facts similar to the previous example, except the
residential neighborhood is exclusive and private;
only residents of the neighborhood will have access
to the community center. This is an example of a
substantial private benefit that is prohibited.

March 27, 2014
Code of Ethics/Whistleblower Policy
• The board should adopt and regularly
evaluate code of ethics reflecting
behavior it wants to encourage and
discourage.
• A code of ethics can be used to
communicate to all personnel a
strong culture of legal compliance
and ethical integrity.
• Whistleblower policy: procedures for
employees to report in confidence
suspected improprieties.

March 27, 2014
Compensation Practices
• The public, which supports the nonprofit and uses its
services, is interested in knowing how its charitable
donations are being used and what compensation levels are
being paid.
• This information is publicly available through the Form 990.
• A major responsibility of the board of directors is the
selection of a qualified chief executive officer; the
establishment of that person’s compensation; and a review
of that person’s performance on an annual basis, offering
criticism, where appropriate.

March 27, 2014
Compensation Practices – Con’t
• Establish reasonable compensation.
• Only independent board members should make
decisions involving compensation.
– Understand steps to establish a presumption that
compensation is reasonable (IRC Section 4958)
• Keep records of how compensation was determined.
• Establish procedures to properly classify and
distinguish between employees and independent
contractors.

March 27, 2014
Transparency
• Consider making
information about an
organization’s mission,
activities, and finances
publicly available.
• Ensure charity’s annual
reports, Form 990s,
financial statements, and
board meeting minutes
are complete and
accurate.
 Forms 990 are public
documents.

March 27, 2014
Disclosure Statement
• A charitable organization must
provide a written disclosure
statement to donors of a quid pro
quo contribution in excess of $75.
• A quid pro quo contribution is a
payment made to a charity by a
donor partly as a contribution and
partly for goods or services
provided to the donor by the
charity.
Disclosure
Statement

March 27, 2014
Financial Statements & Form 990
Organizations that file Form 990 will find that
Part XII, Line 2, asks whether the organization’s
financial statements were compiled or reviewed
by an independent accountant.
Charities should use professionals to prepare
financial statements.
The board may establish an independent audit
committee to select a certified public accountant
to conduct an audit.
1
2
3

March 27, 2014
Form 990-Series Filing
Requirements
• Who is required to file?
– Most 501(c) organizations are
required to file a Form 990-series
return annually.
– Failure to file a required Form 990,
Form 990-EZ, or Form 990-N for
three consecutive years will result
in automatic revocation of the
organization’s federal tax-
exemption.

March 27, 2014
Exceptions to Rule
• Churches, association of churches, and
integrated auxiliaries of churches do not
have to file the Forms 990, 990-EZ or
990-N.
• They must file Form 990-T to report
unrelated business income (“UBI”) if
they have over $1K of gross UBI in a
given tax year.
• Form 990 and 990-EZ instructions list
all the exceptions to Form 990-series
filing requirements.

March 27, 2014
990-N (e-Postcard)
• Filing is easy
 Obtain a password on IRS.gov
• Provide basic information
 Legal name
 Address
 Employer Identification Number
 Website address (if any)
 Principal officer’s name and address
 Confirmation that the organizations’ annual gross receipts
are normally $50,000 or less

March 27, 2014
Form 990 (Part VI)
Section A asks
questions about the
governing body
composition, director,
independence, and
insider transactions
with one another and
the organization.
Section B asks
questions about
written policies and
procedures regarding
conflict of interest,
record retention,
whistleblower,
compensation, and
joint ventures.
Section C asks
questions about
disclosure of the
organization’s Form
1023/1024, Forms 990
or 990-EZ, and other
financial and
governance
information.

March 27, 2014
Unrelated Business Taxable Income
• If an exempt organization regularly carries on a
trade or business not substantially related to its
exempt purpose, it may be subject to tax on its
income from that unrelated trade or business.
• All tax-exempt organizations with over $1,000 of
gross UBI in a tax year must file Form 990-T, in
addition to their Form 990 or Form 990-EZ, and
may be liable for UBI tax.
• UBI, if substantial, will jeopardize exempt status.

March 27, 2014
Resources
Publication 526, Charitable Contributions,
(www.irs.gov/pub/irs-pdf/p526.pdf)
Publication 1771, Charitable Organizations:
Substantiation and Disclosure Requirements,
(www.irs.gov/pub/irs-pdf/91771.pdf)
Publication 598, Tax on Unrelated Business Income of
Exempt Organization (www.irs.gov/pub/irs-pdf/p598.pdf)

March 27, 2014
IRS Website

March 27, 2014
Tennessee Resources
• The Tennessee Attorney General has a
guidebook for Tennessee nonprofits entitled,
“What Every Board Member and Officer
Should Know.”
• Tennessee Secretary of State Division of
Solicitations and Gaming,
https://www.tn.gov/sos/charity/index.htm.

March 27, 2014
Summary
There is no “one size fits all” approach to nonprofit
governance. Superior board governance may have more
to do with the values, active engagement, and
accountability of those in charge than the adoption of
procedures and policies.

March 27, 2014
Questions?

March 27, 2014
Contact Information
Elizabeth Wright, CPA
Manager, Pershing Yoakley & Associates, P.C.
(865) 673-0844
ewright@pyapc.com

Good Governance Practices for 501(c)(3) Organizations

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