Personal Liability of Church Board Members
In the past, church board members performed their duties with little if any concern about personal legal liability. But this is changing. An increasing number of church board members are being sued personally. What has changed? What are the most common theories of liability? What can board members do to protect themselves? These are critical questions addressed in this article.
THEORIES OF LEGAL LIABILITY
The most common basis of liability is the commission of a tort. A "tort" is an injury to another's person or property caused by either an intentional act or negligence. Examples include the negligent operation of a vehicle in the course of church work, defamation, fraud, copyright infringement, and wrongful termination of employees.
Board members ordinarily do not incur personal liability for such torts solely because they serve on the board. They must be actively involved by directing or participating in the wrong. A board member ordinarily will not be liable for the torts committed by other board members without his or her knowledge or consent. Obviously, board members having any question regarding the propriety of a particular action being discussed at a board meeting should be sure to have their dissent to the proposed action registered in the minutes of the meeting.
Church board members may be personally liable on contracts they sign in either of two ways. First, board members may be liable on contracts they sign without authority. Second, board members may be liable on contracts they are authorized to sign but which they sign in their own name without any reference to the church or to their "representational capacity." To prevent liability, board members who are authorized to sign contracts (as well as any other legal document) should be careful to indicate the church's name on the document and clearly indicate their own representational capacity (agent, director, trustee, officer, etc.).
Breach of the Fiduciary Duty of Care
Church board members have a "fiduciary duty" to perform their duties "in good faith, in a manner they reasonably believe to be in the best interests of the corporation, and with such care as an ordinarily prudent person in a like position would use under similar circumstances." This duty commonly is referred to as the "prudent person rule" or the fiduciary "duty of due care." Church board members can reduce the risk by (1) attending all of the meetings of the board and of any committees on which they serve; (2) thoroughly reviewing all interim and annual financial statements and reports and seeking clarification of any irregularities or inconsistencies; (3) investigating and correcting any other irregularities or improprieties; (4) thoroughly reviewing the corporate charter, constitution, and bylaws; (5) dissenting from any board action with which they have any misgivings and insisting that their objection be recorded in the minutes of the meeting; and (6) resigning from the board if and when they are unable to fulfill these duties.
Breach of the Duty of Loyalty
Church board members have a fiduciary duty of loyalty to the church. This duty generally requires that any transaction between the board and one of its members be (1) fully disclosed, (2) approved by the board without the vote of the interested member, and (3) fair and reasonable to the corporation.
To illustrate, assume that a board member owns a carpeting business and is selected to install new carpeting for the church. In most states such a transaction will be appropriate so long as the board member's personal benefit is fully disclosed, the transaction is approved by a disinterested majority of the board, and the transaction is fair to the church.
Violation of Trust Terms
Church board members may be legally responsible for violating the terms or restrictions of properties and funds held in trust by the church.
To illustrate, assume that a church raises $250,000 for a new building fund and later decides to cancel the project. Can the board spend these funds for other purposes? The important point is this—designated funds are held by the church "in trust" for the designated purpose. When the church abandons the building project, the designated contributions are revocable at the option of the donors. In most cases donors who made designated contributions can be identified, and they should be asked if they want their contributions returned or retained by the church and used for some other purpose. Church boards must provide donors with this option in order to avoid violating their legal duty to use "trust funds" only for the purposes specified. Of course, churches should advise these donors that they will need to file amended tax returns if they claimed a charitable contribution deduction for their contributions in a prior year.
Most state securities laws impose civil liability on every board member that (1) offers or sells unregistered, nonexempt securities; (2) uses unlicensed agents in the offer or sale of its securities (unless the agents are specifically exempted from registration under state law); or (3) offers or sells securities by means of any untrue statement of a material fact or any omission of a material fact.
In recent years, a number of churches have violated some or all of these requirements. Such violations render each board member potentially liable, and the amount of liability can be substantial.
Wrongful Discharge of an Employee
In the past, employment agreements of unspecified duration could be terminated "at will" by either the employer or the employee. No "cause" was necessary. In recent years, courts in a number of states have permitted dismissed "at will" employees to sue their former employer on the basis of a number of theories, including: (1) wrongful discharge in violation of public policy (e.g., employee terminated for filing a worker's compensation claim or for reporting illegal employer activities); (2) intentional infliction of emotional distress; (3) fraud; (4) defamation; and (5) breach of contract terms. Directors may be personally liable to the extent that they participate in such activities.
Willful Failure to Withhold Taxes
Church board members having authority over a church's day-to-day financial affairs can be personally liable for the amount of payroll taxes that are not withheld or paid over to the government by the church. It does not matter that they serve without compensation, so long as they act willfully. Clearly, church leaders must be knowledgeable regarding a church's payroll tax obligations and ensure that such obligations are satisfied.
Loans to Directors
Most states prohibit the board of a church or other nonprofit corporation from making loans to either directors or officers. Board members who vote in favor of such loans can be liable for them in the event that the loan is unauthorized or otherwise impermissible. Church boards must check the state law under which they are incorporated before considering any loan to a minister.
Most states have enacted laws limiting the liability of church board members. The most common type of statute immunizes uncompensated directors and officers from legal liability for any negligent act committed within the scope of their official duties. "Willful and wanton" conduct or "gross negligence" is not protected by such statutes. Why have most states enacted such laws? The primary reason is to encourage persons to serve as directors of nonprofit organizations. In the past, many qualified individuals have declined to serve in this capacity out of a fear of being sued. The immunity statutes respond directly to this concern by providing directors of nonprofit organizations with limited immunity from legal liability.
A few defenses are available to the directors and officers of nonprofit organizations in addition to state "immunity" laws. One relates to unincorporated churches. It is the general rule that members of unincorporated churches cannot sue other members for injuries they suffer in the course of church activities. This rule on occasion can protect church board members. In addition, most courts have ruled that church board members cannot be sued over internal "ecclesiastical" disputes, including the selection, discipline, or dismissal of church members.
As a general rule, board members are not responsible for actions taken by the board prior to their election to the board (unless they vote to ratify a previous action). And board members ordinarily are not liable for actions taken by the board after their resignation. Again, they will continue to be liable for actions they took prior to their resignation.
A number of state laws permit nonprofit corporations to amend their bylaws to indemnify board members for any costs incurred in connection with the defense of any lawsuit arising out of their activities as directors.
Richard R. Hammar, J.D., LL.M., CPA, serves as legal counsel to The General Council of the Assemblies of God. A graduate of Harvard Law School, he is the author of over 30 books on legal and tax issues for churches and pastors. This article is excerpted from his bimonthly Church Law & Tax Report newsletter.
A helpful resource for church boards. In 1997 Richard Hammar released a new resource for church boards. His "4-Hour Legal Training Program for Church Boards" is a 4-hour audio tape set that fills a critical need—providing church board members with an introduction to key legal issues. In eight easily understood 30-minute presentations, church board members are introduced to such vital topics as fiduciary duties, personal liability, church records, and personnel issues. Every board member needs to be aware of the information in this set. Copies can be ordered by calling Christian Ministry Resources at 800-222-1840.