Responsibility and Liability of Nonprofit Board Members


This is a publication of the Virginia Society of CPAs.

Introduction | Top


Charitable organizations range from uncomplicated clubs or associations to those with a full national scope. The work of nonprofit organizations is socially beneficial and, as a result, social policy articulated by case law decisions and acts of legislatures have afforded certain protections for these organizations and their officers and directors. While service with these organizations can be rewarding, in today's litigious society it is always the more prudent course to have in mind the responsibilities owed by officers and directors to their organizations and exposure of them to litigation.

This guide will include brief discussions of the duties and liabilities of nonprofit officers and directors, as well as th choices of operating entities.

Duties Owed by Nonprofit Officers and Directors to Their Organizations | Top


Corporations, both for-profit and nonprofit, and unincorporated associations, are generally managed by their boards of directors. Although statutory and common-law immunities provide protection against liability for acts of board members in the conduct of business on behalf of the organization, courts generally have held that the following duties are owed organizations by board members:

Duty of loyalty. Directors of corporations owe a duty of loyalty prohibiting secret profits and requiring full disclosure of personal financial interests in transactions where the corporation is a party.

  • Corporate opportunity — A corporate opportunity is a present or prospective business opportunity belonging to the corporation.
  • Use of inside information — Confidential information cannot be used by a director for personal gain or to the detriment of the corporation or organization.
  • Conflicts of interest — Directors may not enter into contracts with the organization without full disclosure and approval.

Duty of obedience. Directors should not exceed their delegated authority or direct the organization beyond its purpose or mission as set forth by the articles, bylaws or constitution. Such actions violate the trust invested by those who hold memberships or support the organization and can imperil the organization's tax-exempt status.

Duty of care. Generally, the duty of care requires directors to exercise reasonable care in the exercise of their responsibilities. In Virginia, with respect to non-stock corporation directors, the Code adheres to the general rule that a director will not be found liable for his actions as a director as long as he follows what is called the "business judgment rule."

The effect of this rule is to afford directors complete protection from liability for taking actions they believe, in exercising their business judgment, are in the best interests of the corporation, so long as there is some rational basis for their decisions, no conflicting interest is involved, and a reasonably informed decision is made. As a practical matter, this provides a subjective test.

The Code also provides that the director can rely upon information, opinions, reports or statements, prepared by officers, employees, legal counsel and committees, provided that the director acts in good faith — that is, has no knowledge that his actions are inappropriate. In essence, this is a gross negligence standard.

In contrast, there is no equivalent Virginia statute specifying the standard of care owed by directors of unincorporated associations. General case law decisions are unclear whether the more lenient subjective good faith standard discussed above applies, or whether a more stringent standard of care is required.

Liabilities of Nonprofit Officers and Directors to Others | Top


Contract liability. In accordance with the law of agency, which governs corporations and unincorporated associations, officers and directors normally are deemed to be merely agents of the organization and therefore not liable on the contracts made by them on behalf of the organization. Instances, however, can arise where the officer intentionally has agreed to contract liability (guaranty co-signing, intentional co-signature), or unintentionally agreed because of inadequate disclosure that the officer or director is acting as an agent of the organization, such as a defective signing of a contract or debt instrument.

Tort liability. Officers and directors of corporations normally are not liable for conduct of the corporation that causes harm or injury. The rules vary with respect to unincorporated associations.

Of course, officers and directors can have personal liability for their own conduct or criminal acts, but this liability does not arise from the status of merely being an officer or director.

Because officers and directors frequently are named as additional defendants in litigation arising from an act of a nonprofit organization, the Virginia Code has specified many statutory immunities:

  • Limitations of liability. Officers and directors of non-stock, nonprofit corporations will have no liability for acts of the corporation if they are uncompensated. If they are compensated, liability is limited to one year's prior compensation.

Further, "directors, trustees and officers" of all organizations exempt from taxation under §501(c) or §528 (homeowners associations) of the Internal Revenue Code (IRC) are provided a charitable immunity. As is the case with directors of non-stock, nonprofit corporations, directors, trustees and officers of any such organization who act without compensation are immune from liability for any civil action for acts taken in their capacities for the organization. If compensation is received, any damages assessed in the action cannot exceed the last 12 months of compensation.

NOTE: This charitable immunity statute does not limit liability for (a) willful misconduct, (b) knowing violation of criminal law, (c) liability derived from operation of a motor vehicle, or (d) violation of a fiduciary duty (see Duties Owed by Nonprofit Officers and Directors to Their Organizations). Further information on the Virginia standards of conduct for directors can be found under the Code of Virginia statute 13.1-870. Additional information on the limitation of liability for officers and directors can be found under the Code of Virginia statute 13.1-870.1.

Federal and State Regulation Exposure| Top


Employment and discrimination litigation. Except for very small organizations, nonprofit organizations are also subject to federal and state discrimination law. Certain exemptions apply for small entities and religious organizations. Generally, directors have not been successfully named defendants in this litigation, although there are instances where liability has been imposed. Further, Virginia law governing wrongful discharge can apply.

Taxation. The IRC makes the "responsible person" liable for failure to withhold withholding taxes. Special provisions may apply to limit liability for outside directors. Virginia state sales tax requires an exemption certificate be obtained and maintained and not misused.

Other federal regulations. Directors and officers may be subject to potential individual liability under additional federal statutes that include:

  • Anti-trust laws (government laws to regulate or break up monopolies in order to promote free competition)
  • Bankruptcy
  • Environmental statutes (as set forth by the Comprehensive Environmental Response, Compensation and Liability Act (CERCLA) to control hazardous substances, pollutants or contaminants).

Choice of Operating Entities | Top

The organizational structure of a business may influence the level of responsibility and liability placed upon its directors and officers. Essentially. there are three organizational structures for tax-exempt organizations: non-stock corporation, unincorporated association and charitable trust.

  • Non-stock corporation — A creature of Virginia statute, the non-stock corporation requires many statutory formalities, including articles, bylaws, board of director resolutions, etc. Members are not liable for corporate liability; the powers and duties of officers and directors are spelled out by the Code; and there are limitations of liability and special indemnity provisions for officers and directors.
  • Unincorporated association — Their operation is governed by the articles of the association and/or its constitution and/or its bylaws and not specifically spelled out by statute. Therefore, case law decisions governing officer/director responsibility and liability must be relied upon often.
  • Charitable trust — Usually limited to family-trust situations for estate planning considerations, the issues of responsibility and liability of officers and directors are not at issue in charitable trusts.

Advantages and Disadvantages | Top


Non-stock corporations are the more prevalent form of organization for nonprofit entities and offer the advantages of greater certainty regarding their operation and the responsibilities and liabilities of their officers and directors. Compliance with more numerous and more complicated requirements may be a disadvantage.

  • Indemnity. Non-stock corporate directors have the benefit of a specific statute providing for mandatory and permissive indemnity (and provisions where it cannot be provided). No statute exists for unincorporated associations, but the association, by its articles, can provide for indemnity. Indemnification of a director generally will be limited to reasonable costs incurred in a legal proceeding.
  • Insurance. Non-stock corporations are permitted to provide insurance by statute. Unincorporated associations are as well, if provided for by their operational documents.

NOTE: The cost of defending any legal action may be significant. Insurance may be the only resource available to the organization to pay indemnified legal costs.


Conclusion — Avoiding Exposure | Top


Officers and directors of nonprofit organizations continue to be named as defendants in lawsuits for acts of their organizations. Although immunities have been provided by statute, officers and directors are encouraged to pay special attention to the authority granted them by the organization and not deviate from it without the permission required by the organization's operating documents.

Officers and directors, under general agency law, owe a duty of loyalty to the organization and must refrain from self-dealing, conflicts of interest and receipt of corporate opportunities without consent.

Directors are required to exercise good business judgment and always operate in good faith. Directors are encouraged to use best efforts to attend all meetings, familiarize themselves with the operating documents to determine the scope of their authority and make notation at meetings of any position with which they disagree.

At the same time, directors should avoid the pitfalls of exceeding organization authority, ignoring formalities and self-dealing by themselves or any others on the board.

With these general notions in mind, service as a board member or officer for a nonprofit charitable entity can be most rewarding, both for the board member and the community the organization serves.

For additional information, contact a local attorney or the American Bar Association.

This guide was last updated in September 2007. Permission to duplicate this guide may be obtained from the Virginia Society of CPAs, P.O. Box 4620, Glen Allen, VA 23058-4620, (804) 270-5344 or financialfitness@vscpa.com.