To Pay (Directors) or Not to Pay – That is the Question

04 August 2014 Health Care Law Today Blog

The question of whether to pay the directors of a tax-exempt organization is hotly contested. Although this practice is legal, there can be drawbacks with providing compensation. Despite the perceived hesitancy to compensate directors, a 2010 study found that out of the ten largest nonprofit healthcare organizations, seven compensated their directors. Mark S. Blodgett et al., Evolving Corporate Governance Standards for Healthcare Nonprofits: Is Board of Director Compensation a Breach of Fiduciary Duty?, 7 Brook. J. Corp. Fin. & Com. L. 443, 451 (2013). In contrast, in the large universe of tax-exempt organizations, only a tiny minority compensate their directors or trustees.

Reasons to Pay Directors

To be successful, complex organizations must attract and retain highly-skilled directors. Healthcare organizations are among the most complex public organizations and they regularly encounter complicated strategic decisions that widely impact patients, staff and communities. Compensation improves the ability to attract qualified director candidates who are willing to put in the amount of time necessary to effectively run a complex organization.  

Director compensation may improve board accountability. Compensation can help establish a higher expectation for attendance and preparation compared to a volunteer board. When the compensation follows attendance, individuals have the added incentive to fulfill their commitments to the organization.

Moreover, providing compensation can promote economic diversity among board members. Serving as a director is a large commitment and compensation allows individuals for which this commitment would be a hardship to serve. Studies have routinely shown a diverse board provides better governance and allows for more innovative ideas.

Reasons Not to Pay Directors

However, there are disadvantages to paying directors. There are significant to compensating directors. For instance, the media and the public have ready access to all compensation information (as published on the organization’s publicly available tax return). This information routinely appears in news stories. Such publicity could lead to increased scrutiny and substantial criticism from the public.

For the public, compensation paid to directors is seen as an unnecessary and frivolous expense when healthcare organizations are making difficult decisions about cutting back on their mission or increasing costs. 

For organizations concerned with attracting donors, negative press could negatively affect contributions. Donors may be apprehensive to donate money if they perceive (rightly or wrongly) that the healthcare organization is wasteful or already flush with resources.

Organizations should also be aware of the views of their attorney general of compensating board members (and the general political climate). Some Attorneys General may have strong opinions as to whether this practice is advisable. For instance, Martha Coakley, the Attorney General of Massachusetts, has urged tax-exempt organizations to not compensate their board. More information on the Attorney General’s report is available on Boston.com.

Depending on the healthcare organization’s exact situation, there are specific legal considerations. If a tax-exempt organization decides to compensate its board, the directors will lose protection under the Federal Volunteer Protection Act (“VPA”) (42 U.S.C. § 14501 et. seq.). This is a significant disadvantage because the VPA provides directors with immunity from liability in varying circumstances. The directors may also lose protections provided by state volunteer protection statutes.

As healthcare organizations continue grow and the demands placed on their boards increase, they are more likely to consider paying their directors. Before doing so, organizations should take time to consider all of the ramifications, both legal and practical.

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