Conflicts of Interest: Manageable…Unless They’re Not Conflicts of Interest

All nonprofits—whether foundation or charity—have conflicts of interest that come up during the normal course of doing business. And all nonprofits should be able to recognize and manage these conflicts of interest to avoid getting their organization into a terrible fix, or a damaged reputation, or a loss of funding. All boards are also responsible for identifying situations that might, to the unpracticed eye, look like manageable conflicts of interest, but are actually a slippery slope into illegal practices such as private benefit and private inurement.

No one wants to experience the sinking feeling of realizing they'd made a big mistake that they could have completely and easily avoided.

CONFLICTS OF INTEREST (MANAGEABLE)

Adopting and implementing a Conflicts of Interest Policy is the best strategy for managing those pesky conflicts preemptively, or at least as they arise, to protect your organization. Most conflicts of interest (CoI) policies are comprised of two distinct sections: first, the actual board-approved policy, and second, a document that board members, staff, and sometimes volunteers sign annually. My own preference is that the CoI policy also include an explanation of the different types of conflicts that might arise, in order to refresh the reader and help get everyone in the organization on the same page.

If you click over to my contact form or send me an email, I can send you my favorite sample CoI policies. There are many other excellent articles on CoI; these from the Nonprofit Risk Management Center, the National Council of Nonprofits, and Blue Avocado are among the best.

BEYOND CONFLICTS OF INTEREST (ILLEGAL)

At some point, the board might be faced with a decision that, at first glance, seems like a conflict of interest. For example, a board member might ask for or expect a special favor or special treatment from the organization. Or the Executive Director of an art gallery might want to start a new program selling art created by members to provide some income to both the nonprofit as well as the artist.

By being familiar with the proper management of conflicts of interest and, better yet, by being aware of other risky transactions, you can spot them before engaging in them. 

These practices include:
1. Private benefit,
2. Private inurement, and
3. Self-dealing (of concern to private foundations only).

The overview below is not all you need to know, but these quick descriptions can help you recognize them, which is the first step:

1. Private benefit. Private benefit is when when any individual, regardless of any relationship (or not) to the organization, gets some sort of benefit (could be financial, preferential treatment, etc.) from the organization that is not consistent with its tax-exempt charitable purpose. There is a concept of de minimis value that comes into play—if the private benefit is insubstantial and incidental, both qualitatively and quantitatively, it may be fine.

2. Private inurement. Private inurement is when an insider gets more benefit out of a transaction with the organization than he or she should. (Remember, transactions are not just financial ones.) Therefore, every transaction between the organization and an insider needs to be evaluated to ensure that no insider is receiving any excessive benefit.

Notice three key differences between private benefit and private inurement that come up in even these very basic descriptions:
• First, private benefit can involve anyone at all, while private inurement only applies to insiders;
• Second, if the amount of private benefit that occurs is determined to be insubstantial, it may be fine—but with private inurement, there is no de minimis leeway; and
• Third, private benefit looks at benefits that are inconsistent with charitable purpose, whereas private inurement is related to insiders getting more than they ought to out of the relationship with the organization.

3. Self-Dealing. Self-dealing applies only to private foundations and is a sweeping list of prohibited transactions between a private foundation and a disqualified person, with a number of exceptions to each type of prohibition. These rules are tricky at best—and it's no exaggeration to say that they are not rational. The intricacies are well beyond the scope of this blog post.  The best publication that I know of on self-dealing is this one, published by Exponent Philanthropy.

KNOWING WHICH IS WHICH

If the board of directors and any staff with decision-making authority are well-informed about conflicts of interest, private benefit, private inurement, and, when applicable, self-dealing, then they'll be able to catch risky transactions before they happen and be able to make an informed assessment about next steps.

These three practices all have serious penalties attached to them, in some cases including revocation of tax-exempt status; this is nothing to mess with. If you ever have any concern that your organization is at risk in any of these areas, do please call your attorney (I'm not one!). If you are a nonprofit or foundation and you don't have an attorney but think you may be at risk, you can give me a call and I can help you track down a good one.

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