Tuesday, June 28, 2011

Massachusettes Senate Passes Law Requiring State Approval of Nonprofit Officer and Board Member Compensation

Big brother has taken the first step towards taking over the nonprofit sector in Massachusettes.  No kidding!  In a first of its kind law, Massachusettes requires public charities to obtain state approval before compensating nonprofit board members.  The events leading to this incredible result began when the Boston Globe published several articles questioning the compensation paid to nonprofit health care executives.  One such article explained:

The issue of paying nonprofit board members came to the forefront in March after the state’s largest health insurer, Blue Cross Blue Shield of Massachusetts, disclosed that it gave former chief executive Cleve L. Killingsworth an $11 million payout. The Blue Cross board members who approved the package earned annual salaries that ranged from $56,200 to $84,463. Attorney General Martha Coakley’s office said health insurers were not justified in paying directors because they do about the same amount of work as volunteer board members at other nonprofits.  “We’re concerned where board members of any charity are paid, including foundations,’’ said Brad Puffer, a Coakley spokesman.  Following a public uproar over the health insurers’ board compensation, Blue Cross and Fallon Community Health Plan suspended the payments. Harvard Pilgrim Health Care, and Tufts Health Plan — the state’s other two major insurers — said they will continue to pay directors.  Two weeks ago, the state Senate approved a budget amendment that would bar all charitable organizations — not just health insurers — from paying directors without state approval. The Senate amendment has not faced significant opposition, but lawmakers still must reconcile the Senate bill with a House version in coming weeks. It could be modified or cut from the budget.

When the Attorney General got wind of the public outcry, she began an investigation that culminated in a letter to several of the largest nonprofit health care organizations.  The letter, with very dubious authority, rejected all the justifications offered in support of nonprofit board member compensation, stating the following:

The rarity of director compensation within the non-profit industry is entirely consistent with the purpose and structure of non-profit charitable organizations. In the for-profit world, organizations operate for the exclusive benefit of their owners (shareholders) and directors are entirely justified in requiring compensation for serving those private interests.  In contrast,  nonprofit charitable organizations operate for the exclusive benefit of the public and the vast majority of directors view voluntary service as a primary means of giving back to the greater community the value of their skils and experience. Compensating directors is contrary to this spirit and diverts resources otherwise focused on achieving the charitable mission of the organization. Moreover, the authority of directors in the for-profit world to establish and set their compensation is subject to the ultimate authority of the shareholders.  Those who are entitled to the benefits of non-profit charitable organizations (the public) have no such authority.

Although our office is troubled that Harvard Pilgrm and Tufts have continued to compensate board members while health care costs continue to rise, compensation of independent directors is not merely an issue of cost. Compensation has the potential to impair board independence.s For example, the Guide notes that "individuals who have a personal financial interest in the affairs of a charitable organization may not be as likely to question the decisions of those who determine their compensation or fees or to give unbiased consideration to changes in management or program activities." P.23. Likewise, compensation of directors creates an unavoidable conflct of interest inherent in the unchecked ability to self-elect compensation with charitable funds, and is clearly contrary to this volunteer tradition that characterizes our charitable boards.  Moreoever, compensation of independent directors cannot be viewed in isolation from broader concerns about mission drift in certain sectors of our charitable community. Particularly in the health care arena, where non-profits organizations (both providers and insurers) often operate side-by-side with for-profit entities, are subject to the same market dynamics and regulatory requirements, provide similar community benefits and yet are granted far more favorable tax treatment, the traditional justification for granting charitable status is increasingly subject to scrutiny. Compensating independent directors contributes to this trend and further blurs the line between charitable and for-profit entities.

Because compensating independent directors departs from the charitable industry and judicially recognized norm and creates unavoidable conflicts of interest, public charities that undertake this practice should do so only if they have a sound and convincing rationale. 

Thereafter, the Attorney General convinced several legislators to introduce the bill passed by the Senate on June 20, 2011.  The meat of the bill states:

(b) No Massachusetts based public charity required to be registered under section 8E and to file annual reports under section 8F, shall provide compensation to any independent officer, director or trustee for service as such independent officer, director or trustee except with the approval of the Director in accordance with the provisions of this section.

Any such public charity intending to provide compensation to any independent officer, director or trustee shall file an application with the Division, on such forms and with such supporting information and documentation as the Director shall from time to time prescribe, requesting the approval of the Director to provide compensation.

The Director may adopt and promulgate guidelines, rules or regulations to carry out the provisions of this section including, but not limited to, the criteria for granting approval and the time period during which such approval shall be effective. Such criteria shall recognize that service as an independent officer, director or trustee of a public charity is recognized as a voluntary contribution of time and expertise to benefit the community served by the public charity and that any departure from the voluntary nature of such service requires a clear and convincing showing that compensation is necessary to enable the public charity to attract and retain experienced and competent individuals to serve as independent officers, directors or trustees.

If the Director approves an application for compensation, amounts paid as said compensation shall be limited to the amount the Massachusetts based public charity reasonably determines are necessary to accomplish the purposes for which compensation is paid. The Director may rescind the approval for compensation if he finds that any compensation paid under this section is in excess of that reasonably necessary to accomplish the purposes for which compensation is approved and paid.

Subsequent media reports suggests that the real purpose of this law is to altogether prohibit nonprofit board member compensation: 

Senator Mark Montigny, the New Bedford Democrat who sponsored the legislation, said people who serve on nonprofit boards should not collect paychecks. The money would be better spent supporting the organizations’ charitable missions, he said.  “I think the game is over for a lot of these folks,’’ Montigny said. “Unless there is an extraordinary case, we need to look at completely stopping paying volunteer board members.’’

So here is where the editorializing starts.  Nonprofit health care has for too long been allowed to serve as the caricature representative of the entire charitable sector.  Not only that, there have been complaints about compensation practices in the college, university and nonprofit health care industry for years. For the most part, the charitable sector has not heeded those complaints.  The Massachusettes law is a foreseeable result of that failure to heed.  The charitable sector is also referred to as the "Independent Sector" because it is deemed trustworthy enough to engage in responsible self-policing.  The Massachusettes law challenges, in none too subtle ways, that trustworthiness.  Indeed, it sounds a serious warning that should be heeded.  If the charitable sector does not clean up its own act, others will do so for it, typically in ways that are as destructive as the Massachusettes law. 



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