Are Board Members Personally Liable for a Nonprofit's Debts?
Nervous prospective nonprofit board members often ask a question like this:
"Someone told me that the board of directors' personal assets would be the first to be seized should a nonprofit fail. Is that true?"
The answer, thankfully, is no.
A fully incorporated nonprofit enjoys the same limited liability that any corporation does.
Incorporation offers the protection of limited liability to corporate directors and officers.
This is important, especially if the organization takes in and expends significant sums of money, buys property, hires employees, or enters into leases and contracts.
What limited liability means is that the organization's directors and officers have limited personal liability for business debts. Creditors can only go after corporate assets and insurance to satisfy liabilities incurred by the corporation.
This principle applies, however, only when the board has fulfilled its basic duties, such as the duty of care. Board members are legally bound to "exercise reasonable care when he or she makes a decision for the organization.
Reasonable care is what an 'ordinarily prudent' person in a similar situation would do." In the business world some boards have been liable when they did not fulfill this requirement...just think Enron.
Other ways a nonprofit board member might be held liable include:
- When a board member directly injures someone on purpose
- When a board member guarantees a loan or other business debt for the nonprofit which then defaults on that loan or debt
- When a board fails to make sure that the organization deposits payroll and property taxes or files mandated tax returns.
- When a board member engages in fraudulent activities or does something illegal or just plain reckless that causes harm, or mixes up nonprofit and personal funds.
As long as the nonprofit is incorporated and board members do nothing “bad,” they should be fine
Beware, however, of serving on the board of an unincorporated nonprofit.
Board members, in that case, are not protected the way they are in an incorporated nonprofit. These types of nonprofits are more common than you might think, so check the organization’s incorporation papers before agreeing to serve on a board. If you are already involved in an unincorporated nonprofit, consider the pros and cons of incorporating. You and your fellow board members might sleep better if you took the steps to become incorporated.
Just to make sure that no legal actions slip through the cracks of incorporation law, most experts do recommend that nonprofits purchase Directors and Officer (D & O) liability insurance to protect against certain kinds of lawsuits and other types of litigation.
In fact, there are several types of specialized insurance that nonprofits should consider besides D&O. They include general liability, workers’ compensation or accident insurance, property, and auto insurance.