Understanding When Conflict Of Interest Policies Come Into Play For Nonprofit Boards

Conflict of Interest Policy for Nonprofit Boards

Nonprofit boards don’t often talk much about their conflict of interest policies, but perhaps they should. Most board directors are busy people who have many personal interests and are involved in many other personal and business activities. The business of work and life sometimes makes it easy for someone to unconsciously overlook a potential conflict of interest with the nonprofit organization where they serve as board director. Making conflicts of interest an open and regular board conversation can help the whole board identify and address any potential conflicts.

Nonprofit boards need to write and approve a conflict of interest policy because it helps to fulfill their fiduciary duties. Board directors must fulfill their duty of loyalty by avoiding conflicts of interest and putting the interests of the nonprofit above their own.  Having a conflict of interest policy is also a legal requirement under federal law and some state laws.

A conflict of interest policy should contain certain elements. Nonprofits that allow conflicts of interests to continue may be subject to penalties toward the affected board director, the organization or both. Board directors who fail to comply with the nonprofit’s conflict of interest policy should be asked to resign.

Why Does a Nonprofit Board Need a Conflict of Interest Policy?

Nonprofit boards need a conflict of interest policy because it prevents board directors from benefitting in any way from board service. A conflict of interest policy fulfills legal requirements and prevents unexpected penalties.

Board directors should not benefit financially, personally or otherwise from board events or activities. A conflict of interest policy prevents directors with conflicts from participating in discussion, reporting or voting on any issue where there is a real or perceived conflict.

The IRS requires nonprofit entities to have a written conflict of interest policy. Nonprofit boards must fill out the IRS Form 990 annually, acknowledging that they have a written conflict of interest policy. They must also explain how boards manage conflicts, as well as how they determine whether a board director has a conflict.

Nonprofit organizations that fail to properly manage conflicts of interests may be subject to significant penalties against the board director, the organization or both. Penalties for board directors are called intermediate sanctions or excess benefit transactions.

Creating a Culture of Candor Over Conflict of Interest

It’s not overly difficult for nonprofit boards to address conflicts of interest, but it does take some effort on the board’s part. Compliant boards work toward raising awareness about potential conflicts so that all directors will recognize them when they see them. The general idea is to create a culture of candor, where board directors can express conflicts of interest candidly and confidently, without fear of judgment.

Many nonprofit boards take the first step toward opening up discussions about conflicts of interest by putting it on their board meeting agendas. Discussing conflicts of interest could fall under board development. Discussions around conflicts of interest may include what does and does not constitute a conflict of interest. Some nonprofit boards find it helpful to discuss hypothetical situations that could result in a conflict of interest and role-play how they’d handle it if it occurred. These discussions set the stage to build the board’s confidence in handling any conflicts of interest if they occur.

Another approach is to require board directors to fill out an annual questionnaire that makes clear whether board directors have any current conflicts of interest and reminds them that they need to disclose any known or perceived conflicts of interest that arise at any time during their terms of board service.

The board president or secretary should request that each director sign the conflict of interest policy when they take office and keep a copy in their file.

How Does a Board Define a Conflict of Interest?

A conflict of interest is also sometimes called a duality of interest. A conflict, or duality, of interest concerns a board director who has a barrier that prevents them from being impartial and loyal to the nonprofit organization. Conflicts can arise from personal, professional or volunteer positions or relationships.

An apparent conflict of interest is a situation that causes an observer or third party to question whether a board director can be objective or impartial because of a competing interest where they may have dual allegiance.

What Should a Conflict of Interest Policy Contain?

A conflict of interest policy is a written document that typically has distinct sections for explanations. The essence of a conflict of interest policy requires anyone who has – or thinks they have – a conflict of interest to disclose the conflict. Directors with conflicts of interest must also abstain from discussing or voting on the matter.

Federal laws require nonprofit organizations to have a conflict of interest policy. Some states also have laws that govern nonprofit organizations that include requirements for conflict of interest policies.

New York provides a good example of a state that not only requires nonprofit organizations to have a conflict of interest policy but also provides them with guidance for drafting the policy. New York’s law requires nonprofit entities to state that directors, officers and key employees must act in the best interests of the organization. In addition, New York law also requires boards to approve a process for board directors to disclose potential conflicts of interest annually.

A conflict of interest policy should include the following sections:

  • Purpose
  • Definitions
  • Procedures
  • Violations

The policy should allow space for board directors to sign and date the policy. A quick internet search will yield samples of conflict of interest policies that other organizations have used successfully.

Documenting Conflicts of Interest in Meeting Minutes

Documenting disclosure of a conflict of interest in the meeting minutes serves multiple purposes. Primarily, documenting conflicts and potential conflicts will help nonprofit organizations avoid undue penalties or other sanctions. Recording conflicts also serves to clarify that the board takes conflicts of interest seriously to any member, third parties, observers or regulators, which is also a reflection of the organization’s reputation for having strong ethics.

The minutes should name the board director with the conflict, disclose the type of conflict and state how the board managed it. The minutes should clarify whether board discussions about the matter took place with the affected board director inside or outside of the room. Most importantly, the minutes should state whether the board took a vote on the matter and whether the director with the conflict voted or abstained.

Concluding Comments on Conflicts of Interest

Complying with conflict of interest policies isn’t an option; it’s a requirement. For most nonprofit organizations, it’s not something that comes up often. It’s only when conflicts of interest surface that they become critically important. As with most everything else a nonprofit board does, it’s best to make the effort to be in continual compliance with legal obligations and be prepared for any appearance of impropriety that may affect the organization’s financial standing or reputation.