On July 14, 2014 the Nonprofit Revitalization Act of 2013 (“the Act”), signed into law by Governor Andrew Cuomo, took effect. The Act was based on recommendations from the Nonprofit Revitalization Group, which suggested changes to cut red tape and eliminate obsolete procedures to make it easier and more efficient for nonprofits to operate effectively. The Act predominantly applies to nonprofits incorporated in New York. However, one section – relating to audit committees, related governance procedures, and financial reporting to the Attorney General – applies to nonprofits registered to conduct charitable solicitations in New York, regardless of where they are incorporated.
Elimination of Letter Types
One of the most significant changes in the Act is the elimination of the classification of nonprofits as Type A, Type B, Type C, and Type D. Organizations will instead be classified as either “charitable” or “non-charitable”. Existing organizations do not have to amend their governing documents to clarify whether the organization is “charitable” or “non-charitable.” Type B and C entities, as well as Type D entities formed for a charitable purpose, will be considered “charitable.” Type A and all other Type D entities will be regarded as non-charitable.
The Nonprofit Revitalization Act also implemented the modernization and streamlining of nonprofit governance and communication. The Act allows Board members to participate in meetings through electronic communication, such as Skype, unless restricted by the organizations’ certificate of incorporation or bylaws. This is deemed suitable so long as all board members can hear each other simultaneously and each director can participate in the meeting. Additionally, the Act makes it possible to provide notice, waiver of notice, and to designate a proxy by email and other forms of electronic communication. Previously, nonprofits were required to provide notice of member and director meetings by mail or in person.
Enhanced Governance Procedures, Policies, and Prohibitions
Several procedures have been outlined in the Act In order to strengthen governance through compliance with certain best practices. From a governance perspective you need to consider the following:
Restriction on Employee Serving as Chair:
The Act explicitly prohibits an employee from serving as chair of the board or in an officer position with similar responsibilities in an effort to preserve the independence between the board and the executive staff of nonprofits. This does not, however, extend to legitimate independent contractors.
Executive Compensation Approval:
The Act states that individuals who may benefit from a compensation decision cannot be present, or participate in any board or committee deliberation concerning said compensation. The board or committee may request that the person present information or answer questions at a board or committee meeting prior to the beginning of discussions on executive compensation.
Definition of “Independent Director”:
The Act defines an “independent director” as an individual who meets all of the following criteria:
- Has not been an employee of, or does not have a relative that was a key employee of, the corporation or an affiliate of the corporation in past three years;
- Has not received, or does not have a relative that has received, $10,000 or more in direct compensation from the corporation or an affiliate in the last three years (other than expense reimbursement or reasonable compensation as a director);
- Is not a current employee of, or does not have substantial financial interest in, an entity that made or received payments from the corporation or an affiliate of more than $25,000 or 2% of the corporation’s gross revenue for property or services (whichever is less) in the last three years;
- And does not have a relative who is a current officer of or has a substantial interest in an entity making or receiving payments of a similar amount to the organization in the past three years. The above mentioned “payments” exclude charitable contributions, but does not exempt membership dues. Entities whose board consists of employees of related organizations should be cautious of this as it could elicit the “$25,000 or 2%” rule of independence.
Mandatory Conflict of Interest Policy
Under the Act, all nonprofits were required to adopt, or update their existing conflict of interest policy covering directors, officers, and key employees. The policy must include, but is not limited to:
- A definition of circumstances that constitute a conflict of interest, procedures for disclosing a conflict to the audit committee or the board,
- A requirement that the person with a conflict of interest not be present at or participate in board or committee deliberations or voting on the matter giving rise to such conflict,
- A prohibition on any attempt by a conflicted person to influence board deliberations, documentation procedures for detailing the existence and resolution of the conflict, and procedures for disclosing and addressing related-party transactions.
- Directors must complete, sign and submit a written disclosure of potential conflicts before the election of any director, and annually thereafter. Additionally, the board or audit committee must supervise the implementation and compliance with any conflict of interest.
Related-Party Transaction Approval Process
Similar to the current New York Not-for-Profit Corporation Law, the Act requires that related-party transactions be fair, reasonable, and in the nonprofit’s best interest. The definition of what constitutes a related party was updated to reflect the requirement of good faith disclosures by key employees. The board of a charitable organization must consider alternatives to any related-party transactions, approve the transaction upon the vote of at least a majority of the directors, and document contemporaneously the basis of the board’s approval. The Act authorizes the attorney general to bring discretionary action to instruct, void, or repeal related-party transactions or proposed related-party transactions that are not reasonable or in the best interest of the nonprofit.
Mandatory Whistleblower Protection Policy
The Act also mandates that whistleblower protection policies be implemented for nonprofits with 20 or more employees and annual revenue in the prior fiscal year in excess of $1 million. The policy should cover the protection of any director, officer, employee, or volunteer who reports an action that is potentially illegal, fraudulent, or in violation of any adopted policy of the corporation from unjust retaliation. It is also required that an employee, officer, or director be designated to oversee the policy and procedures for reporting violations, including measures for maintaining the discretion of reported information.
The Importance of Audit Meetings
Pre-Audit Planning Meetings
The Act requires that the audit committee or independent members of the board meet with their financial statement auditor (“the auditor”) to discuss the scope and planning of the audit for any fiscal year in which the organization expects to have over $1 million in revenue, or if it had over $1 million in the prior year. These meetings are often referred to as “pre-audit planning meetings.” The agenda of these meetings should include:
- An introduction of anyone who was not actively involved in the previous audit;
- An overview of what your organization does and its major sources of revenue and expenses (if the auditor is not already familiar with the organization);
- Details of any changes that have taken place since the last audit, or will take place before the audit is completed;
- A review of previous year’s audit. This can include a discussion of the prior year management letter and steps that have been taken to rectify any issues mentioned within;
- Confirmation of the date the field work will begin and the date that draft audited financial statements are required to be issued.
The ultimate goal of the pre-audit planning meeting is to communicate concerns and areas needing improvement. It is also helpful to identify ways that information could be provided in advance of the audit, which can include any analysis or reports that the organization could prepare to reduce the time spent on the audit by the auditor.
Post- Audit Meetings
In addition to conducting appropriate and timely pre-audit planning meetings, the following must be communicated after the audit has been completed:
- Material risks and weaknesses in internal controls identified by the auditor;
- Any restrictions on the scope of the auditor’s activities or access to requested information;
- Any significant disagreements between the auditor and management; and
- The adequacy of accounting and financial reporting processes of the organization; and
If the above responsibilities are performed by an audit committee, the committee must report to the board of directors the results of these procedures.
The New York Nonprofit Revitalization Act of 2013 was amended in late 2015. These amendments may impact governance document updates that nonprofits have made since the Act was adopted. Key amendments are summarized as follows:
- The definition of “independent directors” was amended to exclude directors (and relatives of directors) who are owners, officers, directors or employees of the corporation’s external auditor or who worked on the corporation’s audit during the past three years. Additionally, the definition was expanded to clarify that the term “payments“ exclude dues or fees paid to the corporation for services which the corporation performs as part of its nonprofit purposes, provided that such services are available to individual members of the public on the same terms. This allows directors who have relationships with entities that pay the aforementioned dues or fees to maintain independent director status.
- The “related party” definition was expanded to include “any other person (and relative of such person) who exercises the powers of directors, officers, or key employees over the affairs of the corporation or any affiliate of the corporation.”
- The amendments allow an interested person to present information or answer questions prior to the commencement of deliberations or voting on issues.
- For quorum and voting purposes, a director who must leave a meeting for a vote due to a conflict of interest or related party transaction is still considered “present” at the time of the vote.
- The definition of affiliate now excludes entities under common control.
- Domestic partners of brothers, sisters, children, grandchildren, and great-grandchildren are all considered relatives under the amendments. Originally, only spouses were included in the definition.
- Conflict of interest disclosure statements may be submitted to either the corporate secretary or to a designated compliance officer.
- The distribution requirement for whistleblower policies may now be satisfied by posting the policy on the corporation’s website or in a visible location at the corporation’s physical location.
- Non-directors may now serve on committees of the corporation, but still cannot serve on committees of the board. The board versus corporate committee distinction is associated with the authority given to the committee. A committee that has been given power to act with the authority of the board is considered a board committee. Only directors may serve on a board committee. Corporate committees do not act with the power of the board and typically support the organization’s activities by providing information and resources. They do not have the power to bind the organization and/or Board, they can only make recommendations to the Board.
- Directors cannot be prohibited from deliberating or voting concerning compensation for board service that is to be made available to all directors on the same or substantially similar terms.
- The Religious Corporations Law was amended to give religious corporations the option of obtaining approval of the New York Supreme Court or the New York Attorney General for authorization to sell, mortgage, or lease any of their real property for more than five years. In the past, it was required that religious corporations obtain Court approval on notice to the New York Attorney General of such activities.
The Nonprofit Revitalization Act seeks to make New York more welcoming for nonprofits that incorporate or transact business in the state by setting forth clearer expectations and making it easier for organizations to operate. However, to comply with many of the changes indicated in the Act nonprofits will have to adopt and analyze policies and procedures in order to implement changes in governance and reporting requirements. Nonprofit organizations that have already updated their policies and procedures to comply with the Nonprofit Revitalization Act of 2013 should further examine their governance documents in order to ensure compliance with changes that took effect with the 2015 amendments.
Kenneth R. Cerini, CPA, CFP, FABFA
Ken is the Managing Partner of Cerini & Associates, LLP and is the executive responsible for the administration of our not-for-profit and educational provider practice groups. In addition to his extensive audit experience, Ken has been directly involved in providing consulting services for nonprofits and educational facilities of all sizes throughout New York State in such areas as cost reporting, financial analysis, Medicaid compliance, government audit representation, rate maximization, board training, budgeting and forecasting, and more.