How Should Nonprofit Boards Manage Fiduciary Risk?

The words trust and fiduciary have much in common, particularly as they pertain to nonprofit boards. In fulfilling a nonprofit’s mission, board members are stewards of the public’s trust. It’s a given that nonprofit boards should manage fiduciary risks. In pursuit of that task, they need to understand what fiduciary risk is and what steps they should be taking as an effective and responsible board member. In light of their fiduciary duties, it’s essential for board members to consistently act in ways that are ethical and honest.

What Nonprofit Boards Should Know About Risk

Passionate nonprofit board members are always looking for new opportunities to advance their mission. While that’s a good thing, they also need to be aware that new opportunities go hand-in-hand with threats and risks.

Let’s take a look at how The Alliance for Nonprofit Management defines risk management:

“A discipline for dealing with the possibility that some future event will cause harm. It provides strategies, techniques, and an approach to recognizing and confronting any threat faced by an organization in fulfilling its mission.” 

Risks are ubiquitous in the world of nonprofits. While it’s nearly impossible to predict them all, nonprofit board members should become acquainted with some of the more common risks that plague nonprofit organizations.

Here are four of the most common nonprofit risks:

1. Fundraising fraud. Technology gives criminals and unethical people the means to copy your logo and use your name to solicit funds from an unsuspecting public, stealing the money for themselves. Such risks harm your organization and reflect poorly on your leadership with donors. Further, your donors could hold your organization liable for losing the funds they entrusted to your organization.
2. Regulatory and legal compliance. Nonprofit boards have a responsibility to ensure that they’re following all the rules and laws to maintain their nonprofit status and to prove they’re tax-exempt. It’s illegal to use charitable funds for personal, financial, or political gain. Nonprofit board members play an important role in overseeing legal compliance.
3. Cybersecurity risk. Unfortunately, cybercrime is prevalent. Criminals are lurking in the background with the assumption that nonprofits aren’t prepared to address cybersecurity risks. Hackers find it easier to target nonprofits rather than large corporations that are more likely to have robust security measures in place.
4. Theft risks. The risk of theft extends to money, data, and physical property. The culprits could take the form of staff, volunteers, clients, third-party vendors, or even board members themselves. Regardless of the size of the nonprofit, any loss can have a huge impact on the nonprofit’s programs and activities and harm its reputation along the way.

What Is Fiduciary Risk?

To better understand the meaning of fiduciary risks, let’s look at the definition of the word fiduciary. According to the dictionary, fiduciary refers to something that involves trust, especially with regard to the relationship between a trustee and its beneficiary. In essence, board members are trustees of their donors and of the public interest.

As board leaders, nonprofit board members incur three primary fiduciary duties and they include the Duty of Loyalty, Duty of Obedience, and the Duty of Care.

Here’s a breakdown of each:

Duty of Loyalty

The Duty of Loyalty requires directors and officers of nonprofit organizations and corporations to make decisions in the best interest of the organization they represent and not put their personal interests first.

Duty of Obedience

The Duty of Obedience requires board members to be prudent with the organization’s assets including the facilities and everyone involved in the organization. This fiduciary duty ensures that goodwill prevails and that boards obey applicable laws and employ ethical practices.

Duty of Care

The Duty of Care requires nonprofit board members to give the same care and attention to board matters as any reasonable, responsible person would under the same circumstances. Nonprofit board members that don’t understand this duty, or fail to meet it, could be considered negligent. Negligent board members could be held liable for damages.

There’s something very important that nonprofit board members should be aware of. Just because they don’t know or understand their fiduciary responsibilities, it doesn’t relieve them of their responsibilities in fulfilling them.

How Nonprofit Boards Should Manage Fiduciary Risk

Best practices for nonprofit governance lead the way in helping boards manage fiduciary risks. To make things clearer and easier, we’ve developed a shortlist of steps that nonprofit boards can take to manage fiduciary risks.

1. Actively manage all financial risks. Board members act as trustees of the nonprofit’s assets. It’s essential for board members to understand financial terms and jargon. Your board should also know how to read and interpret financial reports, audit forms, and audits. Board members should be capable of judging the soundness of financial reports and be able to notice red flags that could signal a change in the organization’s financial health.

Here is a list of specific things your board can do to ensure good financial practices:

• Review your budget and financial plan to ensure it’s consistent with your strategic plan.
• Evaluate your cash flow to ensure that it’s adequate to fund programs and activities.
• Establish a specific threshold to allocate toward reserves.
• Review financial reports and highlight any areas where expenses are rising faster than budget allocations.
• Review budget entries and evaluate whether expenses are appropriate on a regular basis.
• Ensure that you have appropriate checks and balances in place to prevent abuse and fraud.
• Verify any requirements or guidelines that are required by funders.

2. Annually review compliance documents and legal forms. The Duty of Obedience requires board members to know the state and federal laws that govern nonprofit organizations. A failure in this area could put the organization’s nonprofit status in jeopardy.

Take these steps to ensure compliance:

• Review Form 990 and other IRS documents.
• Maintain and store minutes of all board meetings and committee meetings.
• Annually review required policies such as whistleblower, conflict of interest, document retention and destruction, and gift acceptance.
• Review the executive director’s compensation and compare it with similar nonprofits to ensure it’s not excessive.
• Disclose the three most recent annual returns filed with the IRS and other documents related to the tax-exempt status and make them available to the public.

3. Manage risks proactively. There are several responsible ways for boards to manage risks including avoiding them, accepting them, transferring them, or limiting them. Effective nonprofit board members review trends in issues such as cybersecurity, insurance, and technology to help them manage risks proactively.
4. Succession planning. It’s the board’s responsibility to ensure continuous responsible leadership. Nonprofit boards commonly have specific term limits. Nominating and recruiting activities should be a continual process to ensure effective succession planning for leadership.

With so many duties and responsibilities, it’s obvious that there are many factors involved with managing fiduciary risks. A board management portal by BoardEffect helps nonprofit boards manage board calendars, board meetings, and all the other board activities that require fiduciary oversight. With secure and immediate access to the right tools, your board members can easily hold the highest standards for accountability, integrity, and internal controls no matter what challenges they face.