KEVIN B. SCOTT
A Cautionary Tale for Nonprofit Boards
LAST YEAR, the attorney general of New Jersey sued the Stevens Institute of Technology, in New Jersey, accusing it of financial mismanagement, excessive spending on the personal needs of
executives, misuse of charitable
funds, and breach of fiduciary duty. The action followed a
three-year investigation by the
attorney general’s office into the
university’s financial practices.
The kind of trouble the institution got into could face any non-profit organization unless its
board and top leaders are acting effectively, and the lessons
of this case should remind all
nonprofits to tighten their governance operations.
At Stevens, the attorney general alleged that the salary and
benefits paid to the university’s
president were excessive and
that he received low-interest
loans as well as other benefits
that were overly generous for a
nonprofit institution.
According to the state offi-
cials, the university’s president,
along with a board member, ef-
fectively kept the full board in
the dark about their “spending
and borrowing practices and fi-
nancial mismanagement.”
One committee of the board
allegedly “buried” an indepen-
dent consultant’s analysis con-
cluding that the president’s com-
pensation was excessive, and
another board committee failed
to adequately disclose warning
letters from the institution’s
original independent auditors.
According to the attorney gener-
al, the original auditors “fired”
the institute as a client due to
the high risk the school posed
to the accounting company. The
college’s new accountants also
repeatedly warned about weak
internal controls.
A few months after the law-
suit was filed, Stevens agreed
to make sweeping changes to its
governance approach as part of
a deal to end the dispute. It also
announced that its president
was stepping down. Stevens did
not admit to any liability or un-
lawful conduct as part of the
agreement, but it did agree to
extensive changes in its gover-
nance arrangements.
The governing
structure of large
nonprofits makes
them susceptible
to abuse and neglect.
provide an efficient way for all
of the board members to participate in some aspect of the operations, it is subject to abuse,
especially when one committee
dominates or when the committee chairs are part of an insular
group. An executive committee
is especially susceptible to this
type of arrangement and in
some cases acts as a mini-board
with little or no accountability
to the full board.
This may have been at issue
in the Stevens case because
one of the requirements of the
agreement with the attorney
general was that the executive
committee serve only as an advisory group with no power or
authority to act or approve on
behalf of the full board.
As a general matter, the executive committee should only act
in between board meetings or
for other matters of emergency.
The committee should not act as
a substitute for the full board.
As to the other committees, it is
important to have a diversity of
members in the leadership positions of those committees so
that all of the power is not concentrated in a few individuals.
Most board members are used
to having leadership positions,
and they are good at it—it is an
ideal way to get valuable board
members involved in a meaningful way with the institution.
Scrutiny of nonprofits by the
IRS, attorneys general, donors,
and other constituents is likely
to continue. Putting thoughtful procedures and policies in
place, and applying them in a
common-sense manner, can go
a long way to attracting talented board members and protecting the legacy of a nonprofit institution.
Kevin B. Scott is a partner
in the Philadelphia office of the
Fox Rothschild law firm, where
many of his clients are nonprofits.
THE CHRONICLE OF
PHILANTHROP Y
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lenge, from a nonprofit leader’s
perspective, is to present the
important issues when so much
information must be conveyed
in such a short time.
It helps to take a step back
and look at the big picture.
While much of what goes on in
board meetings is important in
terms of the direction of the institution, certain issues deserve
particular attention due to their
sensitive nature. To see what
the Internal Revenue Service
thinks is important, one need
look no further than the newly
designed informational tax return nonprofits must file with
the IRS. The document, known
as the Form 990, includes questions on governance, conflicts
of interest, and whistle-blower
policies. Following are a few key
issues:
Compensation. Since 2000
the IRS has had the ability to
impose excise taxes on institutions and trustees involved in
receiving or approving any deal
in which a top official—such as
a president, board member, or
relative of a key nonprofit executive—reaps an excessive financial gain through his or her ties
to a nonprofit institution.
The IRS says institutions can
prove compensation was rea-
sonable by demonstrating that
a pay package was:
Compensation surveys, bro-
ken down by size, enrollment,
and other factors, are becoming
increasingly available.
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