How Would You React?

May 1, 2012

Authored by: Keith Kehrer

How would your board of directors react if it discovered potential wrong doing?  The answer to this question is critical.  Recently, Robert Carlson, the Missouri Assistant Attorney General who oversees charity enforcement in Missouri, indicated that a board’s quick action to address an issue, such as a potential breach of fiduciary duty or misuse of charity assets, may keep the board of directors and/or charity from being sued by the Attorney General’s office.  Such a reaction includes a proper investigation of warning signs.  The IRS has similarly provided that a board’s reaction will be a key factor in determining whether the IRS will seek revocation of exempt status in instances involving private inurement, including whether the board has corrected the current situation (which may include firing and suing the offending party) and put safeguards in place to prevent future problems before the IRS gets involved.   See Treas. Reg. 1.501(c)(3)-1(f).  While it is not possible to prevent all acts of wrongdoing, the manner in which a board reacts when potential wrong-doing is discovered is critical to (i)demonstrate that the board has satisfied its fiduciary duties, (ii) protect the charity and board from potential lawsuit, and (iii) maintain tax-exempt status.