US Nonprofits: How to Manage a Conflict of Interest

Create a culture that encourages disclosure of potential conflicts

A conflict of interest occurs when an obligation to further an organization's charitable purposes is at odds with personal financial interests — and it happens more often than you might expect. Here's help spotting and managing conflicts of interest.

How to recognize conflicts of interest

The potential for conflict occurs whenever nonprofit board members, directors or key staff have employment, investment or family connections to an entity associated with the nonprofit.

Consider this classic example: A board member owns an office building where the nonprofit is considering leasing space. A conflict is present because the transaction has the potential to personally benefit the director, who is legally bound to act in the best interest of the nonprofit.

It's important to note that a conflict of interest involving a director isn't illegal or improper. Rather, it's the manner in which the director and board deal with and disclose the conflict that determines the propriety of a decision or transaction.

Why you need — and want — a conflict of interest policy

A conflict of interest policy reduces the appearance of impropriety and helps ensure that your organization conducts business in a manner consistent with your charitable purpose.

Federal law doesn't require tax-exempt organizations to have a conflict of interest policy, but some state laws do. In some cases, state law even specifies what must be included in the policy and how conflicts are to be managed. The state of New York, for example, requires that nonprofits have a written conflict of interest policy that, at a minimum, explicitly addresses specific criteria outlined in the law.

In addition, the IRS strongly encourages a conflict of interest policy. Unmanaged conflicts of interest may result in significant penalties, called intermediate sanctions, from the IRS. These sanctions may be assessed against both the organization and the individual who benefits.

What to include

The board of directors is responsible for drafting, approving and maintaining the conflict of interest policy. The policy should outline how to handle transactions in which board members, directors or other key staff may have an interest. For example, some policies require that directors or others excuse themselves from voting on proposals that create conflicts of interest — such as a proposal between the nonprofit and a separate business owned by the director.

For specific guidance, check out this sample conflict of interest policy from CompassPoint, a nonprofit leadership and strategy practice based in Oakland, California. Here's another sample policy applicable in the state of Minnesota.

Putting the policy into practice

Often people are unaware that their personal or family activities may be in conflict with their duty to look out for the best interests of the nonprofit. That's why it's critical to educate board members, directors and staff about what constitutes a conflict. Better yet, create a culture that encourages disclosure of potential conflicts.

For example, it's common practice to ask new board members and staff to list potential conflicts up front with a standard disclosure form. The form should ask for a listing of existing conflicts and offer a reminder about the importance of disclosing any conflicts that arise in the future. Going forward, the form should be updated annually (or more often, if needed).

To take it one step further, you might consider making board members' disclosures public. Although uncommon, the practice is a clear signal to staff, volunteers and other supporters that your organization is committed to transparency when it comes to potential conflicts of interest.

This article draws on the expertise of Grace Davies, a Minneapolis-based attorney with special interest in product liability, medical malpractice and employment discrimination.

References

National Council of Nonprofits: Conflict of interest