Compensation of Nonprofit Board Members and Board Immunity
by Brooke R. Whitted and Shermin S. Ali-Andani
Non-Profit Officers and Directors:
What is the Legal Consequence When a Director is “Compensated”?
Some years ago, I was invited to join a well known child welfare organization as a board member. I learned that the organization included the CEO as a member of the board, and that there were other members of the board doing work on matters concerning the organization. This work was not pro bono. The directors were charging fees for their work.
I indicated that before I would join this non-profit board, the executive director would need to step down from board membership and the other compensated board members on the board would need to refer their work to others. Not surprisingly, this was not met with the highest degree of enthusiasm. I did not join that board of directors, but have since heard that the inquiry caused a lengthy discussion about the issue of compensated directors, and some significant changes in policy. My reasons for making that request follow.
What are the Risks of Having a Compensated Director On a Non-Profit Board?
There are some appellate level cases in this jurisdiction, but these merely list the requirements.[1] My concern in making my original inquiry some years ago was that I did not want to be the “test case”. The analysis is very simple. If officers and directors are directly compensated for their efforts on the board, they lose their statutorily granted immunity. In addition, I believe there is an argument that if even one member of a board is “compensated,” as in the situation where a salaried executive director is allowed to serve as a voting member of the board, then it is possible that the presence of one compensated member could defeat the immunity for that member and possibly for each and every remaining member of the board. My position in giving advice to non-profit clients has always been that no members of any non-profit board can be “compensated” in any way, other than for expenses.
I have often been asked whether the “compensation” can be for an unrelated activity while actual board activity is uncompensated. The cleanest and safest approach, in my opinion, is that no member of any non-profit board can be paid by the entity that it governs for any activity. I am aware that many non-profit boards include their executive directors as members of the governing board. However, in doing so, they take the risk of being the “test case”, for the presence of one “compensated” member of the board, defeating the immunity of the board as a whole. This is an especially important consideration with agencies that deal with high-risk populations, such as DCFS wards.
Recent Statutory Changes
In recent years, the Act has been amended to allow for some limited compensation. With respect to “compensated” boards, what follows is an outline of relevant Illinois statutes that are applicable to the compensation of non-profit corporation board members and the preservation of their civil immunity when compensated. The Not For Profit Corporation Act of 1986 (hereinafter referred to as the “Act”), 805 ILCS 105/101.01 et seq., defines “Board of Directors” as:
[T]he group of persons vested with the management of the affairs of the corporation irrespective of the name by which such group is designated. 805 ILCS 105/101.80(d).
Pursuant to Section 108.05(c) of the Act:
Unless otherwise provided in the articles of incorporation or bylaws, the board of directors, by the affirmative vote of a majority of the directors then in office, shall have authority to establish reasonable compensation of all directors for services to the corporation as directors, officers or otherwise, notwithstanding the provisions of Section 108.60 of this Act. 805 ILCS 105/108.05(c). (Emphasis added.)
Accordingly, it may be useful to take a look at the articles of incorporation and bylaws of the organization in question to determine if “compensation” is allowed in the first place, or to draft the articles of incorporation and bylaws based on the organization’s preference for or against compensated board members. When compensation of board members is made permissible under the articles of incorporation and bylaws, it is important to consider the amount of compensation as it relates to statutory civil immunity. Generally, directors of a non-profit corporation have limited liability.[2] However, where the director earns in excess of $25,000 per year from his or her duties as director, a cause of action may be brought against the director for damages.[3] Section 108.70(b) of the Act states:
(b) No director of a corporation organized under this Act or any predecessor Act for the purposes identified in items (14), (19), (21) and (22) of subsection (a) of Section 103.05 of this Act, and exempt or qualified for exemption from taxation pursuant to Section 501(c) of the Internal Revenue Code of 1986, as amended, shall be liable, and no cause of action may be brought for damages resulting from the exercise of judgment or discretion in connection with the duties or responsibilities of such director, unless: (1) such director earns in excess of $25,000 per year from his duties as director, other than reimbursement for actual expenses; or (2) the act or omission involved willful or wanton conduct. 805 ILCS 105/108.70(b) (Emphasis added.)
Section 108.70(b), as stated above, reflects Public Act 96-649 (“P.A. 96-649”), which went into effect January 1, 2010. Under P.A. 96-649, the Illinois legislature increased the amount of annual compensation a director may earn from $5,000 to $25,000. As such, a director may earn up to $25,000 before he/she may be held liable for damages resulting from a cause of action against the corporation.
Immunity
Accordingly, the following provisions likely grant civil immunity to a director of a non-profit corporation who is “uncompensated” (receives less than $25,000 per year):
(a) No director or officer serving without compensation, other than reimbursement for actual expenses, of a corporation organized under this Act or any predecessor Act and exempt, or qualified for exemption, from taxation pursuant to Section 501(c) of the Internal Revenue Code of 1986, as amended, shall be liable, and no cause of action may be brought, for damages resulting from the exercise of judgment or discretion in connection with the duties or responsibilities of such director or officer unless the act or omission involved willful or wanton conduct. 805 ILCS 105/108.70(a). (Emphasis added.)
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(bâ5) Except for willful and wanton conduct, no volunteer board member serving without compensation, other than reimbursement for actual expenses, of a corporation organized under this Act or any predecessor Act and exempt, or qualified for exemption, from taxation pursuant to Section 501(c)(3) of the Internal Revenue Code of 1986, as amended, shall be liable, and no action may be brought, for damages resulting from any action of the executive director concerning the false reporting of or intentional tampering with financial records of the organization, where the actions of the executive director result in legal action. 805 ILCS 105/108.70(b-5). (Emphasis added)
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(c) No person who, without compensation other than reimbursement for actual expenses, renders service to or for a corporation organized under this Act or any predecessor Act and exempt or qualified for exemption from taxation pursuant to Section 501(c)(3) of the Internal Revenue Code of 1986, as amended, shall be liable, and no cause of action may be brought, for damages resulting from an act or omission in rendering such services, unless the act or omission involved willful or wanton conduct. 805 ILCS 105/108.70(c). (Emphasis added.)
To exempt a board of directors (not to mention those voluntarily contributing services) from liability under the Not For Profit Corporation Act, the following must be true:
1. The directors must serve without compensation;
2. The corporation must be organized under the Not For Profit Corporation Act;
3. The corporation must be exempt or qualify for exemption from taxation under Federal law; and
4. The conduct of the directors must not have been willful or wanton.[4]
While 108.70(a), (b), and (c) appear to refer to “uncompensated” directors or volunteers fairly unequivocally, the provision at 108.05(c), allowing up to $25,000 in annual compensation opens the door to an arrangement that as long as the annual compensation remains under $25,000, exclusive of expense reimbursement, the Illinois legislature intends for nonprofit board members to retain their qualified immunity. However, we still do not recommend that any board members of Illinois nonprofits be “compensated” in any way.
This conservative approach maximizes the immunity granted by statute, and fully immunizes board members from the possibility of having to defend against creative legal arguments that seek to circumvent the restriction, for example, by arguing that the “without compensation” language as above-outlined is not qualified. If a director/CEO’s salary exceeds the limit, he or she will not enjoy the strong immunity granted to “uncompensated” directors. The other compensated trustees, to the extent their compensation remains below the limit, still enjoy statutory immunity. However, if anyone is “compensated” there is always the possibility of an argument that this defeats the statutory immunity for the entire board. There is no case law on this, but we maintain that it is a good argument and the reason why, to keep my client boards absolutely safe, I recommend that there be no compensation of any kind for any nonprofit board member.
[1]EXEMPTION REQUIREMENTS: To exempt a board from liability under this section, several prerequisites must be met: first, the directors must serve without compensation; second, the corporation must be organized under this Act; third, the corporation must be exempt from or qualify for exemption from taxation under federal law. Robinson ex rel. Estate of Robinson v. LaCasa Grande Condominium Ass’n, 204 Ill. App. 3d 853, 150 Ill. Dec. 148, 562 N.E.2d 678 (4 Dist. 1990). In order for a director to be immune from liability under the statute, he must be unpaid, the corporation must be organized under the Not for Profit Corporation Act, the corporation must be tax exempt under federal law, and the director’s conduct must not be willful or wanton. Schmitt v. Schmitt, 165 F. Supp. 2d 789, 2001 U.S. Dist. LEXIS 15373 (N.D. Ill. 2001), aff’d, 324 F.3d 484 (7th Cir. 2003).
[2] See 805 ILCS 105/108.70.
[3] 805 ILCS 104/108.70(b)(1).
[4] Robinson on Behalf of Estate of Robinson v. LaCasa Grande Condominium Ass’n, 562 N.E.2d 678, 682 (4th Dist. 1990) (Note: This case was decided prior to P.A. 96-649 and, accordingly, does not reflect that a board member may be uncompensated or earn up to $25,000 and still be exempt from liability).