CRONIN’S CORNER – Fiduciary Duties of Not for Profit Corporation Directors

Nicholas J. Grimaudo, a recent addition to our tax and corporate department, and I recently handled a large

transaction involving the sale of assets of a Florida elderly care facility, which was owned by a non-profit corporation (“charity”) to a for-profit corporation in which there were affiliations between the non-profit directors and the for-profit purchaser.  The transaction required us to review and consider the fiduciary duty standards of directors of non-profit corporations under Florida law.

It is not uncommon for our clients to form a charity or participate in the operation of a charity by acting as a director.  In doing so, a director may enter into transactions that involves both the charity and a related business.  Thus, we would like to explain the duties imposed on the director of a charity under Florida law and explain how a director can protect himself or herself from liability for related party transactions and mitigation of conflicts of interest.

Standards for the discharge of a director’s duties under Section 617.0830, Florida Statutes.

Section 617.0830(1), Florida Statutes, provides that a director shall discharge his or her duties as a director: (a) in good faith; (b) with the care an ordinarily prudent person in a like position would exercise under similar circumstances; and (c) in a manner he or she reasonably believes to be in the best interests of the corporation. Section 617.0830(4), Florida Statutes, states that a director is not liable for any action taken as a director, or any failure to take any action, if he or she performed the duties of his or her office in compliance with Section 617.0830, Florida Statutes.

Florida courts have applied the “business judgment rule” similar to that of for profit corporations under Chapter 607, Florida Statutes, to charities under Chapter 617, Florida Statutes, when evaluating if a charity director has complied with his or her fiduciary duties and standard of care.  Under the business judgment rule, the directors of a corporation are not held personally liable to the corporation for losses incurred in corporate transactions within their authority, so long as the transactions are made in good faith and with reasonable skill and prudence. The courts limit their review to two issues: (1) whether the board has the authority to perform the relevant act and (2) whether the board’s actions are reasonable under the circumstances. Charles Ketchey, Jr. and Bridget E. Remington, Today’s Disputes and Duties in Closed Corporations, The Fla. Bar. J. (Feb. 2008) p. 44.

Florida courts allow directors wide discretion in performing their duties and will not question the exercise of the directors’ business judgment, unless the directors permit the funds of the corporation to be lost or wasted by their gross or culpable negligence. The business judgment rule will protect a charity board of directors from personal liability when making business decisions in good faith, as long as the directors act in a reasonable manner. In order for the board’s decision to be reasonable-that is not arbitrary, capricious, or in bad faith, the directors must make reasonable investigation of all of the facts and act in the best interests of the charity and its members when exercising its authority. If the directors conduct reasonable due diligence and act in the best interest of the charity, the court must give deference to the directors and their presumed expertise. See Garcia v. Crescent Plaza Condominium Association, Inc., 813 So.2d 975 (2nd DCA 2002) and Hollywood Towers Condominium Association, Inc. v. Hampton, 40 So.3d 784 (4th DCA 2010).

Although Section 617.0830, Florida Statutes, does not explicitly allow a director of a charity to consider the interests of third party constituents and a broad range of social and economic factors, Section 607.0830, Florida Statutes, does allow a for profit corporation director to do so.  Commentators believe that it is even more appropriate for directors of a charity to consider the interests of third party constituents and social and economic factors in making a decision because the interests of their shareholders are less important than a for profit corporation. Stuart R. Cohn and Stuart D. Ames, Florida Business Law Annotated 523 (2012-2013). Further, commentators believe that directors of a charity should take into account the impact a corporate action has on the charity’s employees because such employees are just as important as any shareholders or members of the corporation. Lisa A. Runquist, A Job Description for Directors, Bus. Law Today (ABA)(Nov./Dec. 1994).

Director conflicts of interest under Section 617.0832, Florida Statutes.

Section 617.0832(1), Florida Statutes, provides three different methods by which directors may approve a conflict of interest transaction.  No transaction between a charity and one or more of its directors or any other corporation or entity in which one or more of the charity’s directors are directors or are financially interested will be invalid as long as the charity complies with one of the methods descried in Section 617.0832(1), Florida Statutes.

Section 617.0832(1)(a), Florida Statutes, provides that a conflict of interest transaction is authorized, approved, or ratified if it receives the affirmative vote of a majority of the directors on the board of directors who have no relationship or interest in the transaction. Section 617.0832(2), Florida Statutes, provides that a transaction may not be authorized, approved or ratified under this Section by a single director.  Thus, a majority of the disinterested directors can approve a transaction with a full disclosure of the relationships of the interested directors.

Section 617.0832(1)(b), Florida Statutes, provides that a conflict of interest transaction is authorized, approved, or ratified if it receives the affirmative vote of a majority of the members after a full disclosure of such relationship or interest is made by the board of directors to the members entitled to vote.

Section 617.0832(1)(c), Florida Statutes, provides that if the transaction is fair and reasonable to the corporation at the time it is authorized by the board, then the contract or transaction is not void because of a director conflict of interest if such director or directors are present at the meeting of the board of directors, which authorizes, approves or ratifies such contract or transaction, or because his or her or their votes are counted for such purpose.

Florida Courts have determined that a board of directors’ decision is in good faith even when one of the directors is personally interested in the transaction and votes on same, provided there is adequate disclosure and no evidence of duress or coercion.  See Yarnall Warehouse & Transfer, Inc. v. Three Ivory Brothers Moving Company, 226 So.2d 887 (Fla. 2d DCA 1969).

An example of the application of 617.0832, Florida Statutes, is Conboy v. Black Diamond Properties, Inc., 2010 WL 2944374 (M.D. Fl. 2010). In this case, the court confirmed that the business judgment rule is applicable to directors of a charity and permitted a director to derive a personal benefit of income tax deferral from a transaction where the benefit did not result in any harm to the charity. The court stated that directors are not to engage in self-dealing, but it is not inappropriate, per se, for a director to derive a personal benefit from a transaction as long as there is full disclosure or the transaction is fair and reasonable to the corporation. Thus, the transaction will not be void or voidable, unless there is not full disclosure of the benefit to the directors or the transaction is adverse to the interests of the not for profit corporation.

Florida courts generally will void a transaction if a director’s interest is not adequately disclosed or the transaction is not fair and reasonable to the corporation. For example, in State ex rel. Butterworth v. Anclote Manor Hosp., Inc., 566 So.2d 296 (2nd DCA 1990), the court held that the sale of the charity’s assets to another corporation owned by the directors for less than fair market value was improper and issued an injunction prohibiting improper use of the charity in the future. Thus, if the transaction is fair and reasonable as to the charity at the time it is authorized by the board, a court will not question the directors’ judgment or void such contract

Director limitation from civil liability under Section 617.0834, Florida Statutes.

Section 617.0834 provides that an officer or director of a charity recognized under Section 501(c)(3) of the Code is not personally liable for monetary damages to any person for any statement, vote or decision unless:

(a) the officer or director breached or failed to perform his or her duties as an officer or director; and
(b) the officer or director’s breach of, or failure to perform, his or her duties constitutes:

(i) a violation or criminal law;
(ii) a transaction from which the officer or director receives an improper personal benefit; or
(iii) a reckless act committed in bad faith with a malicious purpose or in a manner exhibiting wanton and willful disregard.

This provision is analogous to the personal liability shield provided for directors of for-profit corporations in Section 607.0831, Florida Statutes.  The liability limitation applies to directors and officers of Section 501(c) type corporations.  In Sonny Boy, L.L.C. v. Asnani, et al., 879 So. 2d 25 (Fla. 5th DCA 2004), the court determined that decisions of directors of a condominium association are protected by the “business judgment rule” and their decisions will not be questioned unless there is a showing of fraud, self-dealing, dishonesty or incompetency.  Likewise, in Raphael v. Silverman, 22 So. 3d 837 (4th DCA Fla. 2009), the court determined that the term “personal benefit” requires some form of self-dealing; the fact that directors own units and therefore derived benefit similar to other condominium owners is not self-dealing.

In addition, directors of a corporation generally are not liable to the creditors of the corporation without a showing of fraud, insolvency, or a violation of Florida statute.  Florida courts are reluctant to impute a director’s actions for the corporation onto a director if such actions were not undertaken to defraud the corporation, the corporation derived some benefit from the action and the director did not receive an improper benefit from the action.  The term “improper personal benefit” of the director in Section 617.0834, Florida Statutes, requires some form of self-dealing by the director and the mere fact that the director will derive a benefit similar to other not for profit members does not constitute self-dealing.  See Banco Latino International v. Gomez Lopez, 95 F. Supp. 2d 1327 (S.D. Fl. 2000) and Raphael v. Silverman, 22 So.3d 837 (4th DCA 2009).

Conclusion.

In order for a board of directors for a charity to faithfully discharged their fiduciary duties as a director, the decision must be made: (a) in good faith; (b) with the care an ordinarily prudent person in a like position would exercise under similar circumstances; and (c) in a manner that they reasonably believe to be in the best interests of the charity. Applying the business judgment rule to a transaction, the directors of the charity must (1) have the authority to act on behalf of the charity and (2) the transaction must be reasonable and in the best interest of the charity under the circumstances.  If the transaction involves a related party to a director, then it is best for the director to disclose the information to the other board members and refrain from voting.