Legal Issues for Nonprofits

April 2014D’Ann Johnson

Texas C-BAR

Purpose of Training

Discuss basic laws applicable to nonprofits and legal requirements related to board governance

Learn about legal pitfalls in fundraisingUnderstand how to recognize and address conflicts

of interestIdentify ways to promote financial transparencyUnderstand what documents fall into public

informationIdentify risks and best practices for asset protection.

Charities are Subject to Special Rules

• While all types of organizations must assess the risk of their operations, nonprofits are subject to many other restrictions.

• Remember OPM

Governance Issues

Board members are legally responsible for the management of the affairs of the organization.

Board Governance is Crucial

An active, attentive board may be the most important way to avoid major threats to an organization. Board members should have a wide range of skills and perform duties: In good faith; With ordinary care; and In the best interest of the nonprofit. Sec. 22.221

What Actions Constitute Ordinary Care?

- Attending meetings Devoting a reasonable amount of time to duties Reviewing and understanding materials Making informed decisions Asking questions Following the bylaws and other corporate policies Documenting corporate decisions Taking minutes

Ordinary Care, cont’d

Reviewing and approving annual financial statementAdopting a Code of Ethics and signing it annuallyAnnually reviewing executive directorOffering regular board trainingMonitoring corporate finances

Expenditures for charitable purposes Expenditures of restricted funds For long term viability

Personal Liability of Board Members

Loans to directors;Excess benefits/private inurement;Employment taxes;Distribution of assets if insolvent; andActions not taken in good faith, with ordinary care, or

in the best interests of the organization. 22.235

Election or Appointment of Officers

Elections of officers and directors may be held in the manner prescribed by certificate or bylaws.Sec. 22.206;22.232

If no provision on elections, officers and directors shall be elected or appointed annually by the board. Sec. 22.208;22.232

Terms of officers may not exceed three years. Sec. 22.232. No term limit for directors.

Nonprofits must have a President and a secretary, who cannot be the same person. Sec. 22.231-2.

Conducting a Board Meeting

Provide notice in accordance with bylaws.

Special meetings if permitted by bylaws.

Telephone meetings if permitted by bylaws and all can hear.

Other electronic meetings if all can communicate concurrently.

Taking Action Without a Meeting

Unanimous written consent which contains: Specific action taken; Date; and Signatures of

directors. Email consent should

qualify as a signature.

Legal Requirements

Federal Tax Filings

IRS Form 990 All tax exempt NPs must use expanded formUpdated form has 11 page core and 16 specific

schedulesFinancial activities, compensation, lobbying,

governance and management

990’s

Organizations with gross receipts from $25,000 to $50,000 are required to file Form 990-N (the e-postcard).

Organizations with over $50,000 but less than $200K gross receipts and assets less than $500,000 file 990 EZ.

Organizations with gross receipts over $200,000 or total assets over $500,000 will be required to file the Form 990.

 Filings due the 15th day of the 5th month after fiscal year end.

Extensions possible by filing Form 8868.

Penalties for Failure to File

Failure to file-$20 a day for small organizations, up to $10,000.

Responsible persons are subject to $10 a day penalty up to $5,000.

Failure to file for 3 years may result in loss of tax-exempt status.

Books and Records

Keep accurate and complete minutes of board and committee meetings having board authority.

Keep records at registered office or principal place of business.

Financial Records and Annual Report

An organization must maintain current and accurate financial records in accordance with GAAP.

The board must annually approve an annual financial report for the preceding year to conform with the American Institute of Certified Accountants. Sec. 22.352

T

Document Retention and Destruction

There is a difference between destroying documents and having enough space in your office. Purging regularly is part of a normal management process.

Adopt a schedule for retention based on your legal and operational needs.

There are criminal penalties if financial records are destroyed during an investigation.

Public Inspection

If over $10,000 in outside contributions, an organization must keep records, books, and annual reports of the financial activity at the registered or principal office for at least 3 years.

The public has a right to inspect these records during normal business hours. An organization may charge a reasonable copy fee.

Failure to do so is a Class B misdemeanor. Sec. 22.354

Other Penalties for Failure to Provide Access

A member or director may file suit to have access to the books and records of an organization.

A court may award attorney’s fees and any other relief to permit the inspection.

The Attorney General may inspect at any time to insure that an organization is operating in accordance with the law and governing documents of organization.

Failure to permit inspection by AG may result in termination, criminal charges, and a lien on all property of organization.

Golf Tournament

Coats for Kids wants to hold a golf tournament to raise money. They will sell tickets for a round of golf, want to sell snacks, beer, and logo caps. They want to provide childcare for parents.

Question

Does a nonprofit have to pay taxes on the entrance fee in a charity golf tournament?

Nonprofit Organizations may be exempt from PAYING sales and use taxes, but they ARE NOT exempt from COLLECTING sales tax on taxable items and services they sell

to raise funds.

Specific Sales Tax Exemptions

Amusement Services/participatory sports

Publications by the NPAuctions, Rummage Sales, and Other

Fundraisers Two, one-day (24 consecutive hours),

events per calendar year College or University student organizations

can hold a one day, tax-free sale each month.

Is CFK required to collect sales taxes on cupcakes?

No. But, food IS TAXABLE if sold or packaged for IMMEDIATE CONSUMPTION “To Go” Heated Unheated if heating facilities are

provided Utensils included 2+ food ingredients mixed or

combined

What if CFK volunteers prepare Frito pies and nachos on site?

Since they are heated, sales tax collection is required.

Does CFK need a health permit?Permits may be needed for food sales, and local

authorities may conduct inspections if a temporary food establishment permit is required.

Are sales taxes required on sales of logo caps?

Yes, unless this is one of the tax-free day sales.NPs should not call sales donations to avoid paying

sales taxes.

Yes. Alcohol sales are subject to sales tax.Permits are required for alcohol sales. A

nonprofit may obtain up to 10 temporary permits in one calendar year at a cost of $30 each. www.tabc.state.tx.us.

Ten days after the event, file a report with TABC on the amount of beer sold.

What if you give the beer away? Since it is a ticketed event, CFK should obtain a

permit and have a licensed bartender.

Are sales taxes required on sale of beer?

What are CFK’s responsibilities for sales tax collection?

Obtain Sales and Use Tax PermitCollect the Correct Amount of Tax

Sales price of taxable item * Sales Tax Rate Sales tax rate = 6.25% + Supplemental tax

Keep Accurate RecordsFile ReturnsSubmit Collected Taxes

What are the penalties for noncompliance?

Selling without Permit Class C Misdemeanor; 3rd conviction: $4000 fine & 1 year

in jailKnowingly Altering /Failing to Keep Accurate

Records Third Degree Felony

Failure to File Returns or Submit Taxes Comptroller can estimate tax liability and/or suspend sales

and use tax permit Collection Actions, Penalties, Liens, Property Seizure, and

Criminal Charges

A nonprofit can provide short term child care without obtaining a permit if the care is not offered more than two days a week, is less than 24 hours a day, and is not part of an ongoing program that is required to be licensed.

CFK should screen any volunteers helping with children.

Can CFK provide childcare during the tournament?

Check general liability policy.Consider purchasing special event insurance.

What if a participant gets hit in the face by a stray golf ball?

The Food Bank wants to hold a raffle for a King Ranch pick up truck and allow people to buy tickets on line. FB also wants to hire students

to sell tickets in front of grocery stores on Saturday.

Can a truck be offered as a prize?

Yes, but value and whether vehicle is donated are issues.

Can offer any prize, except money.• If nonprofit purchases a prize, its cost cannot exceed:

$50,000 for personal property or $250,000 for a residential dwelling.

• No value limit on prizes donated to the organization.• Texas lottery tickets may be offered as prizes.• The organization must have each prize in its

possession or ownership or post a bond for the full value with the county clerk of the county where the raffle will be held.

Donor should provide an appraisal (form 8283)for the new vehicle. The deduction for a motor vehicle, boat or airplane donated to a

charity is usually limited to the gross proceeds from its sale if claimed value is greater than $500.

Exemptions: Significant use by nonprofit. Material improvement by nonprofit If sold below-market rate to provide access for transportation for a

low-income person. Form 1098-C or a similar statement must be provided to the donor

by the organization and attached to the donor’s tax return.

If vehicle is donated, what value can donor claim?

Can FB use generic numbered tickets for raffle tickets?

No. CREA has very specific requirements that the following be printed on the tickets: The name of the organization conducting the raffle. The address of the organization or of a named officer

of the organization. The ticket price. A general description of each prize with a value greater

than $10. The date on which the raffle prize(s) will be awarded.

Can FB hire students to sell tickets?

Only members of the organization or persons authorized by the organization may sell tickets.

No one may be compensated directly or indirectly for organizing or conducting a raffle or for selling raffle tickets.

Can FB hold another raffle this year for a boat?

Yes. A qualified organization may hold two raffles per year and but only one raffle at a time.

FB can raffle a truck for $50k and a boat for $35K in one raffle. The limit on value is for individual items, not aggregate value of all items.

What is the penalty for violating CREA?

Unauthorized Raffles are considered gambling under the Texas Penal Code Conducting an unauthorized raffle is Class A

Misdemeanor (1) a fine not to exceed $4,000; (2) confinement in jail for a term not to exceed one

year; or (3) both such fine and confinement.

Participating in an unauthorized raffle is a Class C Misdemeanor a fine not to exceed $500.

Can volunteers make phone calls to sell tickets?

Texas Law Enforcement Telephone Solicitation Act Certain law enforcement organizations that raise funds

through telephone solicitation Registration fee with AG and $50 fee Commercial telephone solicitor must post $50,000 surety bond

with SOS.Public Safety Solicitation Act

Certain public safety organizations. Public safety publications and their solicitors, and Promoters must

register, pay fee, and post a bond.Veteran’s Solicitation Act

Certain organizations must register and pay fee Professional solicitors must post a surety bond.

What is solicitation?

Definitions vary by city and state. Most cities and states regulate fundraising

through solicitation laws. Organized around comprehensive reporting by

nonprofits and professionals fundraisers they engage to solicit funds.

Usually broadly defined.Examples:

Letters Phone calls Newspaper ads requesting financial assistance Email messages requesting contributions

Can volunteers sell tickets at grocery stores?

Work sites-special rules related to public employees. Charity must not have made an election under 510 (h) - Sec. 572.060 Government Code

Solicitation by pedestrian-local authority may regulate and require a written application, charge a fee, and require insurance. Ch. 552 Transportation Code.

Does the winner have to pay income taxes on the truck?

Yes. FB must withhold the taxes (28%) if the value of the prize exceeds $5,000.

Officers and employees maybe personally liable if no withholding.

File IRS Form 945.Backup withholding (31%)is required if a prize is

worth over $600. Winner may file a W-9.

Gala Event

Pilot International wants to hold a gala event and dinner at a downtown hotel with a Willie Nelson performance, a live and silent auction, and gift bags. Individual tickets will be $125. They also want to have corporate sponsorships, sell chances for a cash prize, and have an independent contractor make calls to sell tables.

Can LC download a photo for the invitation?

Copyright protection attaches when the work is created.

Protection also applies to derivative works.There is no need for creator to register.Works are protected for life of author plus 70 years.

What if the photo was taken by former employee?

Question whether work for hire.Job description for creative positions should indicate

that brochures, photos, or other creative works are property of organization.

Use of copyrighted materials is not excused because organization is a nonprofit.

Are there other considerations when drafting the invitation?

Yes. Federal tax law has requirements for quid pro quo donations.

The invitation should clearly state the amount of ticket price that qualifies as a charitable deduction. ($75)

Provide the donor with a good faith estimate of the goods or services. Cost of dinner ($25) Good faith estimate of concert ($25) Cost of gift bag items ($0)

The goods or services given to a donor have insubstantial value - See Revenue Procedures 90-12 and 92-49 Token items less than 2% of donation; Logo items of $8.30 or less than 25% of donation of at

least $41.50; Unsolicited merchandise (e.g. address labels).

There is no donative element involved Visitor’s purchase from museum gift shop

Exceptions for quid pro quo disclosures

A penalty is imposed on a charity that does not make the required disclosure of a quid pro quo contribution or more than $75.

The penalty is $10 per contribution, not to exceed $5,000 per fundraising event or mailing.

The charity can avoid the penalty if it can show that the failure was due to reasonable cause.

What is the penalty if LC doesn’t disclose?

Can AM sell chances for a cash prize?

No. Selling chances is a raffle.CREA allows any raffle prize except money.

What is money?Money means “coins, paper currency or a

negotiable instrument that represents or is easily convertible to coins or paper currency”.

Money includes: a certificate of deposit, money orders, travelers’ checks, and cashier’s checks.

Money does not include: a prepaid credit card or a savings bond.

Can a professional fundraiser make calls to sell tables?

Yes. There are no special registration requirements for professional fundraisers in Texas unless they are making calls on behalf of veterans, law enforcement and public safety organizations.

What if a person promises to pay for a table but does not?

Charitable pledges may be enforceable under state contract law if the elements of offer, acceptance, and consideration are met.

Directors may owe a fiduciary duty to pursue collection of legally enforceable pledges.

What if a company simply donates $10,000?

Donors are required to obtain a written acknowledgement of contributions over $250 for federal income tax purposes.

The acknowledgment should contain: Name of nonprofit; Amount of contribution or description; and Whether any goods or services were provided in return

for the donation.

Can LC hire an auctioneer for the live auction?

Yes.An organization may pay a

licensed auctioneer a reasonable fee for conducting the auction.

However, the fee may not exceed 20 % of gross receipts.

Should a NP give receipts for donations of items for the silent auction?

Yes. But you may simply describe the donation and the amount it garnered at the auction.

If donor submits Form 8283, file 8282 upon sale.Donors need contemporaneous written

acknowledgement.

Special rules for donations of art

Since 1969, artists may deduct only costs-not FMV.Art collectors/estate may deduct FMV.

Donations of clothing and household items

Donors may only claim deductions for items in “good used condition”.

Donors must obtain a qualified appraisal for any single item over $500.

Taxpayers who claim deductions for non cash contributions over $500 must file Form 8283.

IRS Publication 526 – Charitable Contributions http://www.irs.gov/pub/irs-pdf/p526.pdf

IRS Publication 561 – Determining the Value of Donated Property http://www.irs.gov/pub/irs-pdf/p561.pdf

Additional Information

Are there special rules about corporate sponsorships?

There is no bright line between corporate sponsorship donations and advertising, but the difference is important.

Corporate sponsorships are tax deductible to donor and NP is not taxed on funds.

Advertising is unrelated business income to NP and not tax deductible to company.

Lobbying and Political Campaigns

There is an absolute prohibition against endorsement or participation in any political campaign on behalf of a candidate.

Other Campaign Activity Don’ts

The prohibition against electioneering is absolute. There is no de minimus violation.

Don’t wear a button for a candidate at a fundraiser or event sponsored by the nonprofit or when attending an event on behalf of the nonprofit.

Don’t give the organization’s mailing list to a candidate.You can give her an award for sponsoring legislation if it is

not during an election campaign.

Question?

The county commissioners are going to vote on whether to fund local literacy programs in the libraries. Can you, as a board member of a literacy organization, speak during the public comment period in favor of the increased funding?

Lobbying

Definition of Lobbying: Any intent to influence specific legislation in any legislative

body City council; State legislature; Congress; Administrative agency.

How Can a Nonprofit Lobby Legally?

The IRS has two tests to measure whether a nonprofit’s amount of lobbying is at a permissible level:

Substantial Part Test

501(h) Expenditure Test

501(h) Election

A nonprofit can spend resources to influence legislation without jeopardizing tax-exempt status if: It makes a 501(h) election, and Expenditure test not exceeded.

Exclusions from Influencing Legislation under 501(h)

Technical advice to a governmental body in response to a written communication;

Nonpartisan analysis that presents all sides of an issue;Support or opposition to proposals that would change the

organization’s rights or impact its right to exist;Discussions about broad social or economic problems; andInforming your members of issues without a call to action.

IRS Filing Requirements

Annual Form 990 (Organizational changes)

Income tax-Form 941 W-2s,W-3s, & 1099 Misc Tax for unrelated business

income-Form 990-T Lobbying expenditures-Form

5768 Donee information return-

Form 8282 Cash donations over

$10,000-Form 8300

State Filing Requirements

SOS: Form 802 every 4 years(22.357).Failure to file this report can result in forfeiture.

SOS: Changes to the name, address, registered agent, and articles of incorporation.

SOS: Articles of Dissolution.Comptroller: Changes to the address and that

affect tax exempt status.Comptroller: Sales tax permits.

Financial Practices

Question?

The Executive Director of your organization resigns and the board discovers a shortage in the nonprofit’s funds. Financial reports were presented at the monthly board meetings, but there was not an annual outside audit as required by the organization’s bylaws. As a director, are you personally liable for the shortage? Will insurance cover the loss?

Financial Assessment

The organization :has internal controls on cash, deposits, spending,

disbursements;has authorized check signers and signatories for

checks over a certain dollar amount;has annual, independent, thorough audit;requires a bond for senior financial staff;reconciles bank and cash accounts monthly;

Financial Assessment

follows GAAP;prepares timely, accurate, and clear financial

statements, including budget v actual and three year trends;

develops a detailed operating budget;takes periodic inventories; complies with laws on payroll and benefits

preparation; and conducts board training to understand financial

policies.

Question?

ABC Nonprofit wants to rent space for its office, shelter, and counseling services. A director has an empty office space close to the bus stop and food pantry that she is willing to rent to the nonprofit. Can the nonprofit enter into a contract with a director?

Contracts Involving Interested Directors

A contract is valid if: The material facts are disclosed; And a majority of disinterested directors approved in good faith

and with ordinary care; or The contract is fair when it is approved. Sec. 22.230

Best Practices for Conflicts of Interest

Have a conflicts of interest policy;Disclose material facts;Compare prices;Interested director should abstain; andMajority of disinterested directors should approve

in good faith and with ordinary care.The policy should be reviewed by each board and

staff member annually.

What Does the Sarbanes-Oxley Law have to do with Nonprofit Employees?

Sarbanes-Oxley provides protections for whistle-blowers and criminal penalties for actions taken in retaliation against whistle-blowers.

What is a Whistle-Blower?

Any employee who, in good faith, reports a practice that is a violation of law.

SOX addresses financial and auditing irregularities, but other laws address a variety of other violations of law.

The report can be internal to supervisors or external to law enforcement or the media.

What Should an Organization Do?

An organization must adopt and disclose a formal process to address employee complaints and to prevent retaliation against the complaining employee.

The policy should ensure that no punishment such as firing, demotion, or harassment is allowed.

www.texascbar.orgdjohnson@trla.org