7/27/2011. What are the Drivers to Governance? Governance

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1 What are the Drivers to Governance? Susan M. Kirsch Shareholder, Tax Advisors This advice is not intended or written to be used for, and it cannot be used for, the purpose of avoiding any federal tax penalties that may be imposed, or for promoting, marketing or recommending to another person, any tax related matter. 2 Governance Governance is the system by which an organization is directed and controlled. It includes the rules and procedures for making decisions on the organization s affairs to ensure success and protect stakeholders interests while maintaining the right balance with the organization s purpose. 3 1

2 Governance As it pertains to board officers and directors, there are three fundamental governance duties commonly known as fiduciary responsibilities that apply to all board actions. If board members fail to carry out their responsibilities, they could be held liable for any negative consequences of their actions. 1. Duty of care 2. Duty of loyalty 3. Duty of obedience Governance is Owned by All 4 Poor Governance: Unstable disregard for ethics, lacks discipline, deficient controls, weak employee support system, lack of oversight activities, laissez faire culture Strong Governance: Structurally sound clear tone at the top, all staff and management levels embrace good governance practices, employees are empowered, culture is well defined 5 What are the Drivers of Governance? Drivers of the Recent Past Key New Drivers Practices that Assist You In Getting Where You Need To Be Future Drivers 6 2

3 Drivers of the Recent Past Principles for Good Governance and Ethical Practice A Guide for Charities and Foundations (Panel on the Non profit Sector October 2007) Form 990 overhaul Sarbanes Oxley Influence (Congress/Security and Exchange Commission) Uniform Prudent Management of Institutional Funds Act (as of June 11, 2011, 50 states and territories of the U.S. had enacted UPMIFA; Mississippi, Pennsylvania, and Puerto Rico have not) laws governing the management and investment of charitable funds IRS compliance questionnaires 7 Principles for Good Governance and Ethical Practice: A Guide for Charities and Foundations Legal Compliance and Public Disclosure Effective Governance Strong Financial Oversight Responsible Fundraising 8 Principles for Good Governance and Ethical Practice: A Guide for Charities and Foundations Of the 33 principles, only 6 are legally required: Must have governing body responsible for reviewing and approving the organization's mission, strategic direction, annual budget, key financial transactions, compensation practices, policies and fiscal and governance policies Must abide by federal, state and if applicable, international laws and regulations Must maintain complete, current and accurate financial records Must institute policies and procedures to ensure the appropriate investment and management of institutional funds Must use contributions for purposes consistent with donor intent Must provide donors with acknowledgements of donations consistent with IRS requirements 9 3

4 Sarbanes Oxley Act Although it applies to publicly traded companies, the key pillars of the Act have trickled down into the nonprofit sector. Best practices have emerged and are designed to enhance and improve corporate responsibility and governance 10 Pennsylvania Act 141 / Uniform Prudent Management of Institutional Funds Act Standard of care with respect to Endowment Funds Equally high for both, must affirmatively elect annually and consider the following: Fund duration Fund purpose General economic conditions Effects of inflation/deflation Expected total return Other resources of organization Institutional investment policy Note key accounting differences in treatment exist between Act 141 and UPMIFC 11 Executive Compensation and Benefits Federal legislation in 2006 required more stringent definitions of "disqualified persons" those in a position to exercise substantial influence over an exempt organization and increased penalties for those who participate in an "excess benefit transaction. IRS recommended that charities should generally not compensate persons for service on the board of directors except to reimburse direct expenses. 12 4

5 Key New Drivers IRS Monitoring Practices Economic Landscape State Attorneys General Informed Constituencies 13 IRS Monitoring Practices IRS EXEMPT ORGANIZATION DIVISION 2011 WORK PLAN Using Form 990 as a compliance tool for governance Increase transparency and enforce compliance withfederal tax law Identify noncompliant and potentially noncompliant organizations Use of checklist to track governance practices based upon data submitted in Form IRS Monitoring Practices Checklist indicates that the IRS will be examining six areas related to governance: 1. Governing Body and Management written mission statement of the organization reflecting a 501(c)(3) purpose and current activities; governing board composition, duties and qualifications, frequency of meetings of the board quorum. 2. Compensation approval procedures, comparability data used, and contemporaneous documentation. 3. Organizational Control business and family relationships among officers, directors, trustees or key employees; and whether effective control of the organization rests with a single or select few individuals. 15 5

6 IRS Monitoring Practices Checklist (continued): 4. Conflict of Interest written conflict of interest policy; whether the policy addresses recusals and requires annual written disclosures of conflicts; and whether the policy was adhered d to when actual or potential ti conflicts were disclosed. d 5. Financial Oversight whether systems or procedures are in place to ensure proper use of assets; written financial reports to the board and discussion of such reports; board review of IRS Form 990; and use of an independent accountant, accountant s report, and management letter. 6. Document Retention written policy for document retention and destruction; and contemporaneous documentation of board meetings. 16 IRS Monitoring Practices Checklist (continued): Financial Oversight Questions: How often did the organization provide board members with written reports of the organization s financial activities? Was a management letter prepared by the independent accountant? Was the management letter reviewed by the full board and/or a designated committee? Did the organization adopt any of the recommendations contained in the management letter? 17 Economic Environment Curtailed lending Risk of default of covenants Signs of distress on key grantors, contributors Tightening of lending policies Credit risk assessment of endowed not for profit debt issuers increasingly driven by analysis of institutional governance and risk management processes. This environment highlights the importance of coordinating governance oversight responsibilities, risk management, and compliance activities (GRC) within the organizational structures. 18 6

7 Responsible Fund Raising Endowments 3, 5, and 10 year return on endowments remain below the level needed for long term funding and sustained grants State t solicitation it ti registration it ti Privacy policy 19 Governance in the 21 st Century Governance shared responsibility between management and the board Board s role is to serve as a check and balance on management who are involved in the day to day activities of the nonprofit If the board stays true to its function, it will help to avoid inefficiencies, and the organization will be more effective Form 990 is another important check on the organization's governance policies and processes 20 Practices that Assist You In Getting Where You Need To Be Elements of a Strong Governance Culture Governance Oversight Best practices are aspirational goals, not legal requirements. Absent a legal mandate, a decision not to adopt is not indicative of a breach of fiduciary duty. 21 7

8 Elements of a Strong Governance Culture Mission and Core Values The mission must be measurable, promote an ethical work environment and aid in achieving business goals and objectives Strategic t Plan both short term t and long term goals aligned with mission i and core values Code of Ethics and Related Party/Conflict of Interest Policy reinforce continuously throughout the organization Management evaluation, compensation and succession 22 Elements of a Strong Governance Culture Independent Board/Board Dynamics to monitor and evaluate actions of executive management Financial Oversight internal control and monitoring activities to prevent financial misstatement and/or fraud Expense Reimbursement and Gift Acceptance polices to deter potential abuses Whistleblower Hotline key element to an effective governance program Risk Management/Control Environment COSO frameworks Performance Evaluation 23 Mission Statement Mission Statement must clearly define the purpose of the organization (What is our purpose? Why do we exist? What are we trying to accomplish? How will we accomplish it?) The mission is not the organization slogan Organization s goals, objectives and activities should align directly to the mission 24 8

9 Strategic Plan Key Components Clearly define the purpose/mission of the organization, and establish realistic goals and objectives consistent with that mission Board support and approval and an inclusive, management directed plan Describe the organization s resources, key priorities, growth initiatives, etc. for both the short (one year) and long (three five years) periods Establish mechanisms for quantitatively measuring success and timeframes for achievement that are realistic (within the organization s capacity) Present plan in a format that is clear and focused Board approved policies to guide implementation of activities designed to assist the organization in meeting strategic objectives. 25 Core Values The guiding principles of an organization, espoused by senior management, and acceptedby employees, often reflected in themission statement of the organization. Core values often influence the culture of an organization and are normally long standing beliefs. Core values are an increasingly important component in strategic planning because they drive the intent and direction of the organization s leadership. 26 Code of Ethics Adopt a written Code of Ethics Designed to deter wrongdoing and to promote honest and ethical conduct Outlines the activities that are appropriate and inappropriate and the consequences for violation Directors, trustees, and staff should be familiar and abide by the Code and periodically educated as to the importance of compliance Obtain written acknowledgement of adherence to code annually Related Party/Conflict of Interest Establish strict policies on approving and conducting business with related parties (family members, business affiliations, etc.) Relationships should be at arms length All conflicts or the appearance of conflicts should be reviewed and approved independent of the employee involved 27 9

10 Independent Board Responsible for reviewing and approving the organization s mission and strategic direction, annual budget and key financial transactions, compensation practices and policies, and fiscal and governance policies Responsible for the organization s compliance with laws and regulations and provisions of gift agreements Oversees the hiring and annually evaluates the performance of the CEO and other executive management and monitors his/her progress towards meeting strategic objectives Board recruitment and succession planning 28 Board Education Establish an effective, systematic process for educating and communicating to board members their legal and ethical responsibilities and ensure that they are knowledgeable about the programs and activities of the organization and can carry out their oversight functions effectively and responsibly Orientation program Board Self Assessments Board members should evaluate their performance as a group and as individuals Clear procedures for removing board members who are unable to fulfill their responsibilities should be in place 29 Financial Oversight Providing adequate information to the Board Board/Committee with financial expertise to review financials Comprehensive budgeting and forecasting model Key Performance Metrics Primary measures used to monitor the success of the organization according to its mission and strategic plan, and provide early warning to potential issues within a process Investment Policies Capital Allocation Policies Document Retention policies Independent Annual Audit 30 10

11 Expense Reimbursement Policy Should establish clear, written policies for reimbursing expenses incurred by anyone conducting business or traveling on behalf of the organization, including the types of expenses that can be reimbursed and the supporting documentation required Such policies should require that travel on behalf of the organization be undertaken in a cost effective manner Organizations should neither pay for nor reimburse travel expenditures for spouses, dependents, or others who are accompanying those traveling on behalf of the organization unless they are also conducting business on behalf of the organization 31 Gift Acceptance Policy Adopt restrictions on accepting gifts of a nature that could compromise ethics, influence decisions or be perceived to influence. All gifts should be reported. 32 Whistleblower Hotline Anonymous submission of concerns by employees or external third parties is critical. Documented procedures for the receipt, retention and treatment of complaints in a confidential nature. Reward system for those providing critical information (encourage don t discourage)

12 Control Environment Adopt a framework (COSO elements) Risk Assessment Control Environment Control Activities Information and Communication Monitoring What is a control? Mechanisms in place to mitigate risks to acceptable levels/within defined risk tolerances 34 For Governance to Be Successful Clear Mission and Core Values aligned to Strategic Plan Strong Tone top to bottom and vice versa GuidingPoliciesand Procedures Management strict adherence to mission, values and policies Adoption and management of formal internal control framework Formalized oversight activities internal audit, external audit, independent board 35 Resources

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