WHAT ARE MEMBERS OF THE NONPROFIT PUBLIC BENEFIT CORPORATION?
Membership for a Nonprofit Public Benefit Corporation is optional. The reasons for providing membership in a nonprofit include: (1) Attract funds through membership, or (2) Establish support in the community. However, many administrative burdens are associated with forming a membership organization and it is more common for a nonprofit to not have members.
If the nonprofit includes membership, the Bylaws must address the controlling provisions for membership such as qualifications, method of selection, expulsion, dues and fees, notice and frequency of meetings, the number required for a quorum to make decisions, and the number of votes required to order action on a matter. The Public Benefit Corporation may also create different classes of membership, which may be offered to individuals or corporate entities. Based on the provisions in the Bylaws, the members may have voting and statutory rights or they may simply be donors who have only honorary membership without any voting and statutory rights. In California, members have statutory legal rights when they possess voting power on electing directors or on how the charity’s assets will be disposed upon dissolution, merger, or conversion. Pursuant to California law, voting members have the right to inspect corporate records, elect and remove directors, receive notice of meetings, and they may sue the directors in a derivative action or third-parties on behalf of the nonprofit corporation. These statutory rights can be enforced in civil court actions. In addition, classes of voting members cannot be abolished without their consent, and also their voting rights cannot be changed without notice, due process, and consent.
As a practicality, the nonprofit corporation should maintain an alphabetized list of its members, including their name, address, class of membership, and applicable membership dues.
WHAT ARE DIRECTORS AND OFFICERS OF THE NONPROFIT PUBLIC BENEFIT CORPORATION?
Every corporation must have directors and officers, who owe fiduciary duties to the corporation. The Bylaws address the method for selecting the board of directors and officers. The Public Benefit Corporation may have only one director, but it is more common for a board of directors to consist of three or more persons. To note, the IRS is unlikely to grant 501(c)(3) status to a nonprofit corporation that only has one director.
The board of directors can be selected by voting members, act as a self-perpetuating body, be appointed by an outside organization or persons, or any combination of these procedures. The Bylaws must address the number of directors, qualifications, term of office, removal, filling vacancies, notice and frequency of meetings, number required for a quorum, number of votes required, and method for appointing officers and committees.
The Public Benefit Corporation must also have certain officers named, including the President, Chief Financial Officer, and Secretary. The responsibilities of the officers are addressed in the Bylaws, which often include maintaining the accounts, deposits, disbursements, meeting minutes, and notices. A director can also serve as an officer. However, pursuant to California Corporations Code sections 5213 and 9213, neither the Secretary nor the Chief Financial Officer or the Treasurer may serve concurrently as the President or Chair of the Board.
COMPENSATION AND SELF-DEALING
Charitable organizations must not pay its officers or employees unreasonable excessive compensation. The amount of compensation must be authorized by the board of directors or an authorized committee appointed by the board. The nonprofit corporation must conduct appropriate investigation to determine if loans, leases, and other transactions are made at fair market value to the nonprofit or are favorable to the nonprofit.
If any of the directors are to be compensated as an officer or employee of the Public Benefit Corporation, the amount of compensation must be approved by an independent board and the interested director must be excluded from the vote. An independent board requires that less than 49% of the participating directors are paid or relatives of others paid as employees or officers of the Public Benefit Corporation. That is, more than half of the board must not be receiving compensation or be a relative of someone receiving compensation from the Public Benefit Corporation. For example, if there are five (5) directors on the board, only two (2) can receive compensation as an officer or employee.
Reasonable compensation paid to a director or officer is not considered self-dealing so long as it does not impair their ability to serve and be disinterested in making decisions concerning the corporation. This determination is made on a case-by-case basis according to the facts and circumstances.
Self-dealing is prohibited and involves a contract, agreement, or transaction in which both the organization and a director are parties. Both the organization and the director have a material financial interest and the organization’s assets or income are affected. This creates a conflict of interest and such deals are inherently suspect. However, a self-dealing transaction will be valid if the terms of the deal are considered fair and reasonable to the organization. For example, the self-dealing transaction is fair when: the contract is for the corporation’s benefit solely, the corporation could not obtain a better deal, and the deal was approved in advance by a disinterested majority vote of the board of directors. The disinterested board must conduct a good faith review of the deal rather than a sham, which would be considered fraud and collusion by all the directors thereby incurring liability for the damage to the corporation.
Generally, directors and officers of a Public Benefit Corporation are not personally liable for the debts, liabilities, or obligations of the corporation so long as the director or officer acted in good faith, in the best interest of the corporation, and with reasonable care. However, a director or officer may be held personally liable when they have breached their duty of care and loyalty to the corporation. Limited liability does not apply when the director engages in self-dealing or makes and receives a prohibited loan or distribution. The Attorney General or other disinterested persons may sue the directors in a derivative action to recover actual damage suffered by the corporation, with interest, and even punitive damages.
The Nonprofit Public Benefit Corporation must not make loans to its officers or directors without the approval of the Attorney General. There is a limited exception concerning a loan for the officer’s primary residence. The Attorney General will apply a strict scrutiny standard of review when requested to review proposed loans from a Public Benefit Corporation to a director or officer. The Attorney General will ask: Is the loan strictly necessary to carry out the charitable purpose and protect the charitable assets? Are better alternatives available? Are the terms and interest rate fair to the organization? Is the loan secured?
Moreover, a director will be personally liable for making or receiving prohibited distributions of assets belonging to the Public Benefit Corporation. Prohibited transactions involving directors and officers include: transfer of corporate funds or assets without fair consideration, payment of excessive or unauthorized salaries, receiving non-contractual benefits or bonuses, improper gifts involving corporate assets, use of corporate assets unrelated to the organization’s charitable purpose.
In fact, California law requires that the Attorney General consents to certain transactions or at least receive notice, including those for dissolution, merger, sale of substantially all the corporation’s assets, and an amendment to the Articles of Incorporation to change the form of the organization from Public Benefit to for-profit. In the case of a conversion in the form of the organization, all the charitable assets of the Public Benefit Corporation must be distributed to another charity with similar charitable purposes.
As a practicality, the nonprofit corporation should obtain commercial general liability insurance, errors and omissions or other professional liability insurance, directors and officers liability insurance, and bonding for the individuals responsible for handling the funds of the nonprofit.