Nonprofit directors and officers: risks, exposures and insurance options

What do a parent advisory board, parish council, the United Way and local athletic club have in common? They are all nonprofit organizations. Most people serving on the board of such organizations are volunteers. While there are both federal and state Volunteer Protection Acts, organizations and their boards should not rely on those. The acts provide some immunity, but they do not forbid legal action against the organization or volunteers.

The board of directors is ultimately responsible for the organization’s dealings, and its directors and officers may be held personally liable for their actions or inactions. That is perhaps the greatest or scariest exposure for board members.

Individuals serving on nonprofit boards owe three basic “duties” to the organization, namely: duty of care, duty of obedience and duty of loyalty. The duties are similar to those in for-profit enterprises.

The duty of care means that the individuals serving on the board must exercise reasonable care when making decisions. The duty of obedience requires directors to not only familiarize themselves with the organization and its rules, bylaws, articles of incorporation or charter, but to thoroughly understand, follow and enforce procedures and conduct guidelines.

Last but not least, is the duty of loyalty, which has at its core putting the organization first — not the personal interests of individual directors or officers. The duty includes discretion and confidentiality about matters discussed by the board.

Sources of claims
In general, claims against nonprofits arise from breach of the above duties and can come from third parties such as vendors or fundraisers, for example. Recipients of benefits also may bring an action. Insiders such as the directors themselves, the organization or employees also can go after the organization. So the nonprofit obtains insurance to protect its interests in the event of a claim and/or loss.

The nonprofit insurance submission starts with a completed not-for-profit (NFP) directors and officers’ application, which should bear the chairman, president or executive director of the board’s signature and be currently dated at the point of binding. The attachments to complete the submission vary among carriers but can include: copy of the mission statement; C,C&Rs (covenants, conditions and restrictions) if a homeowners association or condominium association; bylaws and articles of incorporation; copy of last filed tax form 990 (return of organization exempt from income tax); projected gross revenue for the next 12 months; 12-month income statement that includes assets, liabilities, revenues and expenses; and a website address, if any.

Because the vast majority of policies include employment practices liability coverage — usually as a shared limit — some carriers ask for the organization’s employee handbook.

While on the “coverage sharing” subject, it is worth noting that the insurance professional must explain to the applicant that the policy limit is shared (if that is the case) and the possibility of policy limit erosion by a claim on either side of the policy. Limits should be purchased carefully, understanding that they will be available to pay for claims against individual insureds and the entity, and that a severe claim against either one could possibly exhaust all limits.

The main difference between for-profit and nonprofit D&O forms is that the latter has no exposure to securities claims. The form typically starts off with three insuring agreements: personal liability for individual insureds; indemnity coverage for organization losses; and entity coverage for claims against the organization.

That is why D&O quotes show more than one deductible/retention. Individual coverage is typically at $0 deductible/retention. The definitions of wrongful act, claim, insured, individual insured, subsidiary, employee, employment practice claim, wrongful employment practice, among others, are key and must be reviewed.

As mentioned, volunteers must be included under the definition of insured or employee. Most forms have the spousal extension and/or domestic partner language built into the form; if it’s not, ask the underwriter to add it. The exclusions need to be reviewed for those exceptions applicable to employment practices claims.

Claim reporting provisions are always important to review, as the policies are all written on a claims made or claims made and reporting form. Some policies are “incident and/or circumstance” sensitive and allow the insured to report a circumstance that may lead to a claim. Those clauses are called “discovery” or “awareness” clauses. If the policy does not have this, ask if it can be endorsed.

Next is the extended reporting period (a.k.a. tail). That is the period of time the insured can buy to report claims or circumstances arising from wrongful acts or wrongful employment practices that took place after the policy’s effective date and retroactive date, if any, and before the policy expiration. Most policies offer an automatic free-reporting period, usually between 30 and 60 days. At its conclusion, the extended reporting period is available for an additional premium and usually for a length of one to five years. A bi-lateral reporting period, which is available whether the carrier or the insured cancels or non-renews coverage, is always preferred, although not always available.

There are three “dates” to keep in mind. The first is the “retroactive date,” which should by all means be preserved. The second — the prior and pending litigation date — needs to be avoided as much as possible. The third — the continuity date — seems to always cause controversy, as it is not defined under the form. Most professional liability experts agree that it is the date the main form application was first completed. The continuity date is not common on nonprofit placements.

The general conditions are usually found at the end of the policy, and they deal with cancellation and non-renewal notices, changes in control of the named organization, severability, etc.

Finally, insurance agents and brokers should remember to avoid conflicts themselves by not pursuing the placement of a nonprofit D&O policy for boards they serve on.

Rocio L. Orta is a professional liability specialist with Western Security Surplus Insurance Brokers in Pasadena, Calif. E-mail: rorta@wssib.com.