CLIENT ALERT: Non-Profit Revitalization Act of 2013 Substantially Revises New York Not-for-Profit Corporation Law
In December, Governor Cuomo signed into law, generally effective July 1, 2014, the Non-Profit Revitalization Act of 2013 (“Act”) which updates New York’s Not-for-Profit Corporation Law (“NPCL”) and also eliminates some of the administrative burdens that had made it unnecessarily difficult to establish not-for-profit corporations in New York and, in some instances, caused not-for-profit corporations to be established in Delaware rather than in New York.
Among the changes made by the Act were the following:
1. Elimination of the four types of not-for-profit corporations. The current NPCL requires all not-for-profit corporations established in New York to be one of four types – Type A, B, C and D, a typology unique to New York. For a number of not-for-profit corporations, there have been disagreements with the Secretary of State’s Office as to whether they should be characterized as Type B or Type C. Type B is essentially the New York equivalent of an Internal Revenue Code (“Code”) Section 501(c)(3) organization – an organization formed for one or more of the following purposes – charitable, religious, educational, scientific, literary, cultural, or for the prevention of cruelty to animals. Type C not-for-profits are formed to achieve a public or quasi public purpose. Further, the law provides that if any of the purposes for which a not-for-profit corporation is formed is a Type C purpose, it is to be classified as Type C, even if other purposes of the not-for-profit could be characterized as Type B. So, for example, a day care center, or a dance school, or a theater group, even if submitted as a Type B corporation, would be characterized by the Department of State as Type C, even though its purposes and activities would easily satisfy the Code Section 501(c)(3) criteria.
Under the Act, not-for-profit corporations will be classified as either “charitable” or “non-charitable,” with “charitable” adopting the current Type B organization definition. Effective July 1, 2014, existing organizations characterized as either Type B or Type C corporations will be treated as charitable corporations, Type A corporations will be deemed to be non-charitable, Type D not-for-profit corporations formed for charitable purposes will be deemed charitable corporations, and all other Type D corporations will be deemed to be non-charitable. The Act requires that each newly-formed not-for-profit corporation indicate in its certificate of incorporation whether its purposes are charitable or noncharitable, and also provides that a corporation may set forth in its certificate of incorporation any activities that it intends to carry out in furtherance of its charitable purpose or purposes, although its certificate of incorporation is not required to set forth such activities or otherwise state the manner in which the corporation’s purposes will be achieved.
2. Consent of the Education Department. Many not-for-profits indicate that one of their purposes is educational, particularly organizations in the arts. In the past, the Secretary of State’s office would require the consent of the New York State Education Department prior to accepting these organizations’ certificates of incorporation. While this consent was pro forma, the practical problem was that, unlike the Secretary of State’s office, where expedited processing of certificates of incorporation, including same day review, is available, there is no procedure for expedited treatment in the Education Department. Therefore, it might take three or four weeks before the consent of the Education Department was obtained. Further, if the Department of State required any changes to the certificate of incorporation, the revised certificate of incorporation needed to be resubmitted to the Department of Education, even if the change in language was nonsubstantive. The Act streamlined the approval process. It requires only not-for-profit entities operating schools, libraries, museums or historical societies to obtain the prior consent of the Education Department. (Colleges and universities would receive approval by their regents.) All other not-for-profit organizations will be required to provide a certified copy of the certificate of incorporation to the Commissioner of Education within 30 business days after the organization’s certificate of incorporation has been accepted for filing by the Secretary of State.
3. Mandatory Conflict of Interest Policy. As a matter of best corporate practices, and in light of the IRS questions to an organization seeking tax-exempt status under Code Section 501(c)(3) with respect to its conflict of interest policies, New York not-for-profit corporations generally adopt conflict of interest policies. Effective July 1, 2014, all not-for-profit corporations must have a conflict of interest policy containing the following provisions:
- a definition of the circumstances that constitute a conflict of interest;
- procedures for disclosing a conflict of interest to the audit committee or, if there is no audit committee, to the Board;
- a requirement that the person with the conflict of interest not be present at or participate in Board or committee deliberations or vote on the matter giving rise to such conflict;
- a prohibition against any attempt by the person with the conflict to influence improperly the deliberation or voting on the matter giving rise to the conflict;
- a requirement that the existence and resolution of the conflict be documented in the corporation’s records, including in the minutes of any meeting at which the conflict was discussed or voted upon; and
- procedures for disclosing, addressing and documenting related party provisions in accordance with the Act’s revised related party requirements.
The Act also requires that prior to the initial election of any director, and annually thereafter, each director provides a written statement identifying any conflicts specified in the Act. Not-for-profit corporations with existing conflict of interest policies will need to review them to ensure that they comply with the above-requirements.
4. Mandatory Whistleblower Policy. Every not-for-profit corporation that has 20 or more employees and in the prior fiscal year had annual revenue in excess of $1,000,000 must adopt a whistleblower policy that includes (i) procedures for the reporting of violations or suspected violations of laws or corporate policies including procedures for preserving the confidentiality of reported information; (ii) a requirement that an employee, officer or director of the corporation be designated to administer the whistleblower policy and to report to the applicable committee, or if no committee to the Board; and (iii) a requirement that a copy of the policy be distributed to all directors, officers, employees and volunteers who provide substantial services to the corporation.
5. Related Party Rules Tightened. While the existing NPCL addressed related party transactions, those rules have been tightened and expanded. “Related party” is defined under the Act to include officers, directors, “key employees,” their relatives and certain entities in which they have a specified ownership interest. Key employee is a new concept, defined as any person who is in a position to exercise substantial influence over the affairs of a corporation, as referenced under the Code’s excess benefit transaction provisions. The Act prohibits a corporation from entering into a related party transaction unless the transaction is determined by the Board to be fair, reasonable and in the corporation’s best interest. Any director, officer, or key employee who has an interest in related party transactions must disclose in good faith to the Board, or an authorized committee thereof, the material facts concerning such interest.
With respect to any related party transaction involving a charitable corporation and in which a related party has a substantial financial interest, the Board of such corporation, or an authorized committee thereof, must (i) prior to entering into the transaction consider alternative transactions to the extent available; (ii) approve the transaction by not less than a majority vote of the Board or committee members present at the meeting; and (iii) contemporaneously document in writing the basis for the Board or authorized committee’s approval, including its consideration of any alternative transactions. A related party cannot participate in deliberations or voting related to related party transactions. However, such recusal does not preclude the Board or authorized committee from requesting that a related party present information concerning the proposed transaction prior to the commencement of deliberations or voting related thereto. Further, the Attorney General is empowered to commence proceedings to enjoin, void or rescind a related party transaction or proposed related party transaction, including a compensation agreement with an officer, director, trustee or key employee, if the transaction violates any law or is otherwise not fair, reasonable or in the best interest of the corporation. The Attorney General is also granted specific authority to seek other relief with respect to related party transactions, such as damages, restitution, removal and/or an accounting, including double damages in cases of “willful and intentional conduct.”
6. Chair Requirement. Effective July 1, 2015, to ensure an independent Board, the Act prohibits employees from serving as chair of the Board, or holding any other title with similar responsibilities
7. Mandatory Audit. The Act imposes audit oversight requirements on corporations and trusts that solicit charitable contributions and have gross receipts exceeding $500,000. (A grace period is provided for organizations with annual revenues less than $10,000,000 in the last fiscal year ending before January 1, 2014. For these entities, the requirements become effective January 1, 2015.) Either the Board or an audit committee of independent directors must (i) oversee the accounting and financial reporting processes of the organizations and the audit of its financial statements; (ii) annually retain or review the retention of an independent auditor; (iii) review with the independent auditor the results of the audit (including the management letter); and (iv) oversee the adoption, implementation of and compliance with any conflict of interest policy or whistleblower policy (unless otherwise performed by another committee consisting solely of independent directors).
Additional responsibilities are placed upon charities registered to conduct annual solicitations in New York with annual revenue in excess of $1,000,000 in the prior or current fiscal year. The independent directors or audit committee must (i) review with the independent auditors the scope and planning of the audit prior to commencement of the audit; (ii) upon completion of the audit, discuss with the independent auditor (w) any material risks and weaknesses in internal controls identified by the auditors; (x) any restrictions on the scope of the auditor’s activities or access to requested information; (y) any significant disagreement between the auditor and management; and (z) the adequacy of the corporation’s accounting and financial reporting processes; and (iii) annually consider the performance and independence of the independent auditor.
The Act defines “independent director” as a director who (i) has not been an employee or does not have a relative who was a key employee of the not-for-profit or an affiliate of the not-for-profit in the past three years; (ii) has not received or who does not have a relative who has received $10,000 or more in direct compensation from the not-for-profit or an affiliate in the past three years other than reasonable director’s fees; and (iii) is not a current employee of, or does not have a substantial financial interest in, any entity that has made payments to or received payments from the not-for-profit or an affiliate of the not-for profit for property or services in an amount that exceeds the lesser of $25,000 or 2 percent of the entity’s consolidated gross income in the past three years. (For these purposes, payments exclude charitable contributions.)
8. Compensation. The Act, as does the Code, allows executives of not-for-profit corporations to receive reasonable compensation. However, the individual whose compensation is being considered may not be present or otherwise participate in a deliberation or vote concerning his or her compensation, although the Board may request that the person present background information or answer questions prior to the deliberation or voting.
9. Changes in Annual Reporting. Organizations that are registered or required to be registered to solicit contributions in New York are subject to the following reporting requirements, which may be filed electronically:
- organizations with annual gross revenues and support of $250,000 or less file an unaudited financial report on a form prescribed by the Attorney General;
- organizations with a gross revenue and support of at least $250,000 but not more than $500,000 must file an independent CPA review report. (Effective July 1, 2017, the $500,000 threshold is increased to $750,000, and effective July 1, 2021, the threshold is increased from $750,000 to $1,000,000.) However, upon review of the independent CPA review report, the Attorney General may require that the organization obtains and files with the Attorney General’s Office an independent CPA’s audit report;
- Organizations with gross revenue and support or more than $500,000 must file an independent CPA’s audit report. (Effective July 1, 2017, the $500,000 threshold is increased to $750,000, and effective July 1, 2021, the threshold is increased from $750,000 to $1,000,000.)
10. Board of Directors. The definition of “entire Board” was modified so that if the by-laws specify a range in the authorized number of directors, the entire Board consists of the number of directors elected at the most recently held election.
Additionally, not-for-profit corporations without members will no longer be required to fix the number of directors in their bylaws. Rather, the number may be fixed by action of the board pursuant to a specific provision of the by-laws, or the number may be any number within a range set forth in the by-laws. As a result, not-for-profit corporations without members will be able to change the number of directors without amending their by-laws.
11. Additional Powers of Attorney General. Under the Act, the Attorney General, or a New York Supreme Court justice, will have the authority to (i) approve the sale, lease, exchange or other disposition of all or substantially all of a corporation’s assets; (ii) approve the merger or consolidation of charitable corporations; and (iii) approve the plan of dissolution of charitable corporations and non-charitable corporations holding assets legally required to be used for a specific purpose. The Attorney General, on its own initiative, may bring an action against any corporation that has not obtained the required consents or submitted the appropriate notices required under the NPCL, or has not complied with the registration requirements under either the NPCL or the Estates, Powers and Trust Law. Also, in any action or proceeding by the Attorney General under the NPCL, process may be served on any non-domiciliary who becomes a director, officer, key employee or agent of the not-for-profit corporation.
12. Easing of Requirements for Real Estate Transactions. In lieu of approval by a two-thirds vote of the Board, a purchase, sale, mortgage or lease of real property can be approved by a majority vote of the Board or a majority vote of a Committee, unless the transaction involves all or substantially all of the assets of the corporation. In such case, a two-thirds vote of the entire Board is required unless the Board has 21 or more members, in which event a majority vote of the Board is sufficient.
13. Updating Board Procedures. The Act allows directors to participate in Board or committee meetings through video screen communications as well as by conference calls, so long as all members can hear each other at the same time. The Act also permits the electronic delivery to members and directors of consents, waivers, notices, proxies and financial statements.
14. Committees. The Act eliminates the distinction between standing and special committees; provides that committees of the corporation, i.e., committees that include non-directors, do not have the authority to bind the corporation; and also imposes an affirmative duty on any committee authorized by the Board to purchase or dispose of real estate to report promptly to the Board, and in no event after the next scheduled meeting of the Board.
15. Privacy. Although the Act still requires not-for profits to produce a list of directors and officers upon demand from a member of the not-for profit or a law enforcement agency, the Act eliminates the requirement to disclose the home address of officers and directors.
As a result of these numerous changes in the operation of New York not-for-profit corporations, New York not-for-profit organizations will need to review their bylaws and other policies, and the manner in which they are governed.
Please contact the Olshan attorney with whom you regularly work or the attorney listed below if you have any questions regarding the Act.