Wealth Insights

5 questions nonprofit leaders should ask about fiduciary duty

Explore ways to help ensure effective governance.

Charitable institutions, from nonprofit organizations to private foundations, play an increasingly crucial role in addressing social issues, funding innovative programs, and supporting our communities. To ensure these organizations’ long-term sustainability, directors, board members and other nonprofit leaders must understand their fiduciary responsibilities.

Here we explore the components of a nonprofit leader’s fiduciary duty, how seeking professional advice plays a role in upholding these responsibilities, and how service providers can share accountability for fiduciary obligations. This is a general overview of the subject, and individuals should seek expert advice on particular issues as they arise.

1. What fiduciary duties does a nonprofit director or officer have?

   A fiduciary duty, in this case, is a legal responsibility to act in the best interests of your nonprofit. There are three core duties that make up this legal responsibility.

   1. Duty of care: Make informed decisions (exercising “diligence and prudence”) and stay updated on the organization’s activities and financial situation.
   2. Duty of loyalty: Avoid conflicts of interest and diligently act in the best interests of the organization.
   3. Duty of obedience: Follow the nonprofit’s bylaws and the laws and regulations that govern it.

2. When a nonprofit hires a specialized professional, how does that impact fiduciary duty?

   When specialized advice is needed, nonprofit boards are expected to seek the services of qualified professionals, such as lawyers, accountants, and investment advisors. Professional guidance is a valuable tool for boards to ensure they meet their fiduciary obligations.

   If specialized tasks, such as investment management, are delegated solely to board members, this can expose the organization and its leadership to serious fiduciary risks. That’s in part because it can be difficult to properly gauge a board member’s level of expertise, skills, and time constraints to understand the manner in which the specialized task would be carried out.

   Investment management, in particular, contains a number of complexities, such as making investment decisions, developing an investment policy statement, providing risk tolerance assessments, creating investment reports and analysis, and helping with cash flow planning.

   To properly cover their legal and fiduciary responsibilities, board members should adopt a policy outlining investment goals, delegate investment selection to an investment advisor with experience working with nonprofits, and regularly review that service provider’s performance and adherence to the policies in place.

   Legal experts often advise nonprofit directors to approach their roles with the utmost care, as if they were trustees — fiduciaries who manage assets in a trust for the benefit of beneficiaries. This rigorous “trustee standard” would require directors to act with the highest level of care and diligence.

   Are you looking to hire an investment consultant who can help bolster your organization’s financial management? Explore our Comprehensive Guide to Nonprofit RFPs.

3. What are the benefits of working with an investment advisor who operates in a fiduciary capacity?

   When your organization shares fiduciary accountability with this type of investment consultant, you gain layers of professional risk management along with specialized advice and guidance from a professional acting with prudence. These professional advisors are legally obligated to prioritize your organization’s best interests, meaning they are providing investment advice and strategies to benefit the organization and not for their own benefit.

   Benefits of working with a fiduciary:

   • Act in your organization’s best interest
   • Provide unbiased advice
   • Offer transparency around fees

   A qualified investment advisor operating in a fiduciary capacity will work with you to develop a codified framework for investment decision-making (an investment policy statement) and a regular review process as part of their service delivery. If they do not, they are likely not an appropriate choice for your organization.

   A clear investment policy statement guides decision making and mitigates risk. The board should set about creating one that considers the organization’s investment goals and tolerance for risk, with responsibilities around monitoring and rebalancing laid out.

   A regular review of an investment advisor’s work is critical to upholding fiduciary duty. An established cadence of performance monitoring by the board or its investment committee satisfies the prudent-investor requirement of ongoing supervision of service providers and in turn protects the organization and its leaders from liability.

   “Having outside counsel and insights that are being brought to bear to understand the intricacies of the organization and how to structure a portfolio that will appropriately deliver on the needs of the organization going forward is key,” Regions Chief Investment Officer Alan McKnight said. “The investment advisor is really set up to sit at the same side of the table as the nonprofit to understand the needs of the stakeholders, the goal of the organization, and then craft an investment portfolio that reflects that.”

   Working with an outsourced investment advisor who specializes in serving foundations, endowments, and other types of nonprofit entities may offer access to knowledge and guidance beyond the creation of an investment policy, spending policy, gift acceptance policy and constructing portfolios. Some advisors help steward an investment fund by providing best practices on administrative matters as well, having knowledge of highly efficient organizations with similar missions.

   Before selecting a prudent professional, it’s crucial to have documentation of the nonprofit’s due diligence process as well as the board’s approval of the selection, with all decisions recorded.

   “The Regions Philanthropic Solutions Group provides advice and guidance tailored to our nonprofit clients, including comprehensive portfolio construction and leading technology solutions. It is our duty at Regions to place our clients’ interests ahead of our own, manage assets for their benefit, and divulge potential conflicts of interest.” — Marcie Braswell, Regions Philanthropic Solutions Executive

4. What duties do nonprofit directors have when it comes to special purpose or restricted gifts?

   When a donor earmarks their donation for a specific purpose, directors have a legal duty to see that those funds are applied in the manner specified, with accompanying documentation. An investment advisor can recommend or implement a financial system feature that allows accounts to be divided into sub-accounts for donated assets.

   Consider a scenario involving a large donation to a college. The college has accepted a family’s substantial gift with a specialized purpose of creating endowed scholarships for engineering students. This would be a reason to keep these funds separated.

   Normally, this creates complexity and inefficiency. But with unitized sub-accounting, the college’s financial committee can accurately track the principal, income and gains, while leveraging the advantages of combining the assets together to manage in a single pool.

   Unitized sub-accounting in an investment program can benefit a variety of institutions, from religious organizations to community foundations. This method allows the nonprofit to have detailed accounting for restricted gifts while leveraging economies of scale for investment purposes.

5. If a director fails to fulfill their fiduciary duties, what happens?

   Directors who fail to fulfill their fiduciary duties may be held personally liable for resulting losses to the organization. For example, if a director’s reckless actions or self-dealing leads to financial harm to a nonprofit, they can be sued personally.

   On the bright side, directors usually have some protection from personal liability if they took reasonable care and acted in good faith. Your organization may provide Directors & Officers coverage or other protections in case of legal action. D&O insurance can potentially cover defense costs, settlements and other legal bills.

   To manage fiduciary risk, directors should conduct proper due diligence, avoid conflicts of interest, seek the advice of professionals for complex decisions, and maintain good governance through clear policies and procedures for financial management.

Strong governance builds trust

With a better understanding of their fiduciary duties, nonprofit leaders can fulfill them to ensure the long-term sustainability of their organizations. Implementing sound governance practices and hiring professionals for complex tasks, such as investment management, can help protect your nonprofit from potential risks while maximizing the impact of its mission.

Through a foundation of accountability and ethical, prudent decision-making, your charitable institution can build trust with donors, stakeholders and the community.

If you’d like additional guidance, reach out to us or explore our nonprofits, endowments, and foundations capabilities.

6 Questions on Fiduciary Best Practices

• Have all service providers been selected after a thorough due diligence process, and is performance evaluated annually?
• Are all directors and officers notified and trained in regard to their fiduciary responsibilities and potential liability?
• Have you adopted a written Investment Policy Statement that is reviewed at least annually?
• Do you conduct annual meetings with the Investment Committee and take detailed minutes of the items discussed and adopted?
• Are all required government reports filed in a timely manner? Check with your service provider for more details.
• Have you evaluated your Directors & Officers insurance to ensure that it provides the correct coverage?