Although directors and officers liability insurance is sometimes perceived to only be necessary for leaders of large public corporations, all organizations can benefit from it even nonprofits.
“Statistically, more than a third of all companies can expect a claim against an officer or director,” says Shane Moran, vice president of ECBM Insurance Brokers and Consultants. “The risk is pretty high that you’re going to see a claim.”
Smart Business spoke with Moran about how directors and officers liability insurance can protect the board members of nonprofit organizations.
Why do nonprofit organizations need to invest in D&O insurance?
A comprehensive D&O policy is essential for nonprofit organizations for several reasons. It’s a necessary tool in order to attract qualified individuals to sit on the board, as well as to act in the capacity of an officer or director. As a board member, you can be held personally liable for claims that arise out of the running of the organization.
While many states have enacted charitable immunity for people serving as an officer, director, or trustee of a nonprofit, those laws can vary by state, as well as who might be entitled to protection under that statute. Whether or not a board member is compensated in that capacity can determine whether that person has protection under that statute. However, there is no liability protection under any state statute for violation of a federal statute. For example, if you violate the Americans with Disabilities Act or Civil Rights Act, there is no protection under state law.
Another reason is cost. It is relatively inexpensive to purchase a liability policy to protect not only the officers and directors, but also the entity itself when compared to the cost of hiring an attorney to defend an allegation, let alone a judgment against the organization. Most nonprofits don’t have in-house counsel with the expertise to address these claims.
What does D&O insurance cover?
The basic D&O policy form is meant to cover directors, officers and board members for wrongful acts while they are acting in that capacity. The amount of coverage you ultimately purchase varies by each entity and its potential exposure. In the for-profit world, you have the risk of shareholders making a claim against the operations and running of the company. In nonprofits, you typically do not have claims from shareholders but may see claims from guardians of people that the organization serves, past officers and board members, as well as from its employees.
The nonprofit D&O policy has evolved to include claims against the officers as well as claims for employment practices liability. Another area of coverage that may be included is fiduciary liability. Most of the D&O claims that we see stem from wrongful termination, discrimination and sexual harassment.
What are the consequences of leaving an organization unprotected?
As a board member, you can be held personally liable. Your personal assets are potentially at stake if there is no coverage. If you’re going to sit on a board without day-to-day oversight of the company, putting your personal assets out there is a gamble that most people are not willing to accept. Most people asked to sit on a board consult with an attorney about potential ramifications. The first question that attorney will ask is, ‘Does the organization carry directors and officers insurance?’
From the organization’s perspective, the consequences of not carrying this policy can be fatal. The average cost to defend an allegation can be in the tens of thousands of dollars. That’s a cost most nonprofits can’t afford, nor do they have access to a specialized attorney to properly defend themselves. In the end, the organization may have to close its doors.
How can the fiduciary responsibility of board members lead to a claim?
The charters or bylaws of most nonprofit organizations require the board members to protect the assets of the nonprofit, as well as to expand and grow the funding forces. An example might be if an officer or board member decided to use certain funds within an agency on a risky new program, and that risk proves to be a bad investment and the overall agency suffers financially. Then, you could conceivably see a third-party or fellow board member claiming that the future of that organization could be in jeopardy because its endowment or funding has been diminished significantly by the choices of that officer or board member. You could see claims coming from the choices the officers made in connection with the organization’s 403(b) or 401(k) plan. Most nonprofit D&O policies have the ability to address this fiduciary liability now, and many organizations address this exposure with a standalone fiduciary liability policy.
How can you avoid situations that lead to claims?
With D&O policies, the devil is in the details. A comprehensive review of the policy language is essential to understanding what you do and do not have coverage for. Does the policy contain an insured versus insured inclusion? If the policy is providing coverage for employment practices liability as well as fiduciary liability, is the limit of insurance a shared limit, or does each agreement have a separate limit of liability? Is the cost of defense included within the limit of liability? What is the retention amount? Using a broker that specializes in the nonprofit sector can be a great source of information as to the differences between policies and insurance arms.
When completing the application it is important that you fully disclose accurate information, as misstatements can void coverage. The application becomes part of the policy and is a warranty statement. Organizations should also emphasize any loss control and risk management policies used to help minimize any potential losses. By giving more information to an underwriter to help that person become comfortable, you will be able to negotiate better pricing and broader coverage.
Shane Moran is a vice president at ECBM. Reach him at (610) 668-7100 x1237 or firstname.lastname@example.org.