As the newest member of the Board of Directors of the Westmoreland Bar Association last year, Jim Whelton began asking questions like, “What do we do with our investment income?”
While Whelton didn’t believe anything improper or illegal was happening at the 485-member bar in southwestern Pennsylvania, “I didn’t think we had all the t’s crossed or the i’s dotted,” he says.
Whelton’s questions eventually led to the bar hosting a community seminar/CLE event this summer led by a financial planning expert. The seminar’s title: “Protecting Yourself and Your Board From Fiduciary Liability in a Post-Enron World.”
“It’s a timely issue,” Whelton says. “I take very seriously the fact that this is membership money I’m responsible for. This is the money for the future of our organization.”
The post-Enron world is certainly a world of caution, responsibility, and regulation for America’s publicly traded companies. The financial debacles of Enron, WorldCom, and others have led to tighter financial and auditing controls—much of those spelled out in the federal Sarbanes-Oxley Act of 2002, an attempt by Congress and President Bush to avoid repeats of those failures.
That regulation—and general fiduciary concern—are also working their way into the world of not-for-profit organizations such as bar associations and foundations. While some bar leaders are unsure if state and/or federal laws will foist more requirements on their organizations, they would not be surprised if it happens.
Although many leaders don’t believe the bar world is rife with financial abuse, the post-Enron climate is prompting some organizations to take another look at how they handle and account for money and the responsibilities of their leaders, making changes where necessary. It’s a prudent course, they say, to assure their members—and potential regulators—that bar leaders are responsibly safeguarding the assets of their organizations.
“The days of, ‘We’re here. Everything’s OK,’ are gone,” says Whelton, referring to the fairly routine work of tracking budgets, audits, and investments for some bar and foundation directors, before anyone put the words Enron and fraud in the same sentence. “I think there are a lot of organizations out there that think they’re doing things OK, but maybe they aren’t.”
Changes on the horizon?
Among other provisions, the Sarbanes-Oxley Act forces publicly traded companies to implement more stringent rules governing independent audits. It also places more responsibility in the hands of boards of directors and audit committees, and requires at least one member of an audit committee to be a “financial expert.”
While Sarbanes-Oxley currently is limited to public companies, many businesses are seeing a “cascade effect,” with private companies implementing many of the act’s provisions on their own in anticipation of going public or being bought by public companies.
As for nonprofits, “A Sarbanes-Oxley-type act is on the horizon,” predicts Guy Sodano, director of administration for the North Carolina Bar Association and the bar’s Foundation Endowment. “I think it is just a matter of time before some of the noncriminal provisions become a requirement for nonprofits.”
And if the federal government doesn’t implement some of those provisions, individual states might do it instead. In New York state, Attorney General Eliot Spitzer has proposed that nonprofits with annual revenues of at least $250,000 be required to demonstrate the independence of audit committees that certify financial statements and that they are free of contracting relationships with the organization.
It also might not be the state or federal governments that drive changes in fiduciary responsibility. Insurers that provide directors and officers liability insurance and other coverage are in a position to adjust their rates depending on how an association or foundation keeps its financial records and sets fiduciary policy.
The company that provides insurance coverage for theft and employee dishonesty for the Oklahoma Bar Association has recently requested copies of the bar’s audit report and management letter, says Craig Combs, the bar’s director of administration. “They’ve started asking more questions about our internal controls,” he says.
New preventive measures
So what’s a bar association or foundation to do in this new era of fiduciary oversight?
For many, it’s a review of existing policies and procedures and making changes where necessary. In North Carolina, for example, the voluntary bar’s executive director and director of administration now provide the board of directors with written certification that the financial statements provided to auditors “fairly present” the operations and financial conditions of the association and foundation, Sodano says.
Additionally, the annual commitment letter to the auditors that was previously signed only by Sodano was delivered to and signed by the chair of the Audit Committee, a position held each year by the bar’s president-elect. That procedure is “more in the spirit of the Sarbanes-Oxley Act,” Sodano says.
In New York, the 70,000-member New York State Bar Association responded to its auditor’s concern this year by requiring double signatures on all checks, says John Williamson, associate executive director of the country’s largest statewide voluntary bar. For checks of higher amounts, at least one of those signatures must be from a bar officer.
The Sarbanes-Oxley Act requires companies to perform annual quality reviews of its auditors and rotation of lead auditors at least every five years, and it is in that vein that the NYSBA is now putting its auditing services out to bid after working with the same auditor for more than 15 years. “It’s just a sense that it’s a good thing to do,” Williamson says. “We have a heightened sense of staying on top of details, particularly as it pertains to financial items ... and that’s a good thing.”
There is a similar sense of heightened awareness at the Connecticut Bar Association, where three new handbooks for bar leaders were developed and delivered last fall, says Janis C. Jerman, bar counsel and director of administration and finance. One handbook is targeted at bar officers, a second at the Board of Governors, and a third at statewide delegates. The handbooks go into greater detail about fiduciary expectations, as well as meeting attendance requirements.
“We try to impress upon them their responsibility and accountability in regard to the finances of the organization,” Jerman says. She thinks the post-Enron message is being heeded, adding that “for the first several meetings, people brought their handbooks with them and were looking things up.”
The Washington State Bar Association is reviewing qualifications for a new auditor this year. The bar’s executive director, Jan Michels, took a different step in that process by rejecting auditors upfront who had “subsidiary businesses they could hook us into,” she says. “They would probably love to steer us to their consulting business.”
The WSBA has also established a separate Sarbanes-Oxley subcommittee that has been charged with exploring how the act affects Washington lawyers and their Rules of Professional Conduct. The subcommittee will likely draft additional rules that deal with the act, Michels says, and she says the bar itself will abide by those rules (see “ABA, states, and SEC hash out lawyers’ responsibility in corporate settings,” page 6, for more on how this act affects lawyers).
Sarbanes-Oxley and Enron were “in the back of our minds,” says Jane Curran, executive director of the Florida Bar Foundation, when a program was developed this year that immediately alerts foundation directors if there is a large up- or downswing in certain accounts. “It sets up a system of bells and whistles if staff was messing around,” Curran says.
The role of the audit
Along with the tweaks and changes to fiduciary policy over the last two years, bar associations and foundations still rely on tried-and-true methods of keeping track of finances. The independent outside audit is the backbone of that effort for many organizations, although even the audit is seeing some changes.
The latest audit performed for the New York State Bar Association included a new disclaimer, spelling out precisely what the auditors did and didn’t do, Williamson says. That is a liability and responsibility by-product of the overall climate of the last two years, he explains.
Many bar associations and foundations, including the New York state bar, have a finance or audit committee that receives the report, reviews the findings, and reports out to the full board. In many cases, bar and/or foundation staff are asked to leave when an auditor makes a report to a board or committee, allowing auditors to address any potential concerns about staff actions.
Some organizations, such as the Washington state bar, also have an internal audit performed every four to six years to ensure staff accountability. “It says to our members, ‘We’re not pulling anything. We’re not taking any extravagant trips,’ ” Michels explains. She also maintains an open records policy, inviting members to review financial documents at any time.
While audits can be costly, they can go a long way toward alleviating any fears that association members might have about how the organization’s finances are handled. This can also alleviate some stress if the Internal Revenue Service comes calling—either as part of its ongoing market segment study of (c)(6) organizations, or for a standard audit. Knowing that an independent audit had been done was a relief to the Westmoreland bar when the IRS performed two audits of its own over the last few years, says Diane Krivoniak, the bar’s executive director.
“It’s a little bit frightening when they’re here,” Krivoniak says. “But [the IRS auditor] was very impressed by how organized we were. We were really OK.”
A yearly audit helps board members of the Alaska Bar Association feel more comfortable, says Deborah O’Regan, the bar’s executive director. There was a move a few years ago—ironically, at the suggestion of its auditor—to reduce the frequency of audits at her bar to every other year. The idea was rejected by board members. “They thought [the yearly audit] protected the board members and protected the staff,” she says.
Not every association has an outside audit done, but that doesn’t mean there aren’t sound fiscal policies or controls in place. Helena Henderson is the executive director of the 2,600-member New Orleans Bar Association. She has a master’s degree in business administration and uses a certified public accountant and a payroll service on a regular basis.
“The accounting function is spread out, so the checks and balances are there,” she says. “I’m only authorized to sign checks up to $500. I’m playing with other people’s money here. It’s not mine.”
Henderson has spent 13 years at the New Orleans bar, and like many veteran executive directors, she combines her knowledge of her members with existing bylaws to help keep steady hands on the association’s finances.
“I like to keep people around [on the board] for five years,” says Beverly Mondin, executive director of the 2,900-member Bar Association of Montgomery County (Md.). She is also the executive director of the Montgomery County Bar Foundation.
While Mondin utilizes an audit, she also uses an established system that keeps financially experienced members in audit and finance positions for both organizations for several years. For example, the foundation’s assistant treasurer sits on the budget committee for the foundation and association, becoming treasurer the next year and then chairman of the budget committee the third year. The association’s president and budget committee chairman eventually take on roles with the foundation’s 21-member Board of Directors.
“There are people on the foundation board that are often there for five, 10, 15 years,” Mondin says, adding that familiarity with budget and finance issues is “really important when you have a volunteer organization.”
Knowing that there are association members who have a wide range of expertise, including finance, Jerman of the Connecticut bar says staff quizzes members on their strengths and seeks to match them with the appropriate committees.
Communication is key
Communication and education are also key components of financial responsibility for bar associations and foundations. For Jane Curran in Florida, the communication begins with her staff.
“You have to make sure your staff knows what the ethical standards are and have them in writing,” Curran says. “My auditor would blow the whistle on me in a minute, and we’ve been together for 20 years. You have to give staff permission to do the right thing.”
Helena Henderson puts the onus on her board members: “I tell them, ‘Don’t trust me. Ask questions. Your job is to ask questions.’ ”
Henderson also says she supplies board leaders with extensive financial documents at every meeting, providing as much detail as members need. Curran and many other bar and foundation executives do the same.
“Our attitude is to keep the board informed,” says North Carolina’s Sodano. “The only place they can get into trouble is not knowing what’s going on financially.”
Communication among members is also vital to good, open discussion about association finances, Sodano adds. The North Carolina Bar Association’s Finance Committee reports quarterly to the full board. Those reports include a narrative from the president-elect and the director of administration, as well as copies of statements of position, statements of activities, a capital expenditures report, and an investment committee report.
As for education, many associations and foundations start with orientation sessions for new committee or board members, making them aware of handbooks and bylaws that lay out their responsibilities, ranging from meeting attendance to material review.
“We’ve done a number of educational programs, including a presidential summit, and CLE designed to educate our members,” Williamson says.
The Foundation for Fiduciary Studies, which is based in Sewickley, Pa., and affiliated with the University of Pittsburgh, says the term “fiduciary” includes more than 5 million people “who have the legal responsibility for managing someone else’s money.” That includes trustees and investment committee members of a wide range of organizations, including bar associations and foundations.
Yet, according to foundation President Donald Trone, there is a vast lack of knowledge about what processes fiduciaries should follow to properly manage that money. While many organizations have an investment policy, he says, “I would guess that 98 percent of the investment community would find one or more shortfalls in the policy. Investment advisory work doesn’t receive the same recognition as other work being done.”
To help trustees and directors navigate through the maze of responsibility, the foundation—in conjunction with the American Institute of Certified Public Accountants—has developed Prudent Investment Practices: A Handbook for Investment Fiduciaries. Information on the handbook, as well as related information on fiduciary responsibility, can be found at the foundation’s Web site at www.ffstudies.org.
Realizing that lack of knowledge in Westmoreland—and not just in his association—Jim Whelton asked more questions that led the bar to develop its fiduciary seminar, in conjunction with similar associations in the community. Neighboring bar associations were invited to the one-day event, which also provided four CLE ethics credits for attending attorneys. “Hopefully,” says Whelton, “they walked away with some knowledge of what they need to do to fulfill their legal and ethical responsibilities.”
While responsibility and accountability are vital to being a fiduciary, Whelton adds, he also believes that most bar association and foundation members are up to the task—no matter their financial background. “I think you can be a good fiduciary without being a market analyst,” he says.
A better level of comfort
With increasing talk of greater accountability, liability, and governmental regulation in the nonprofit world, there is also increasing concern about what effect this shift will have on the organizations and their volunteers.
While Curran likes the idea of regularly seeking new auditors, “the cost to the foundation for a new auditor is very, very high.”
If federal or state legislation similar to Sarbanes-Oxley is extended to nonprofits, some say smaller bars and foundations with no outside auditing function might have to spend money for a service that might not be particularly useful to them.
And if organizations don’t have sufficient financial controls and policies in place to please insurers, they may find themselves paying higher insurance premiums—if they can get coverage, Trone says.
Then there are the volunteers themselves. Will members be willing to put in the time needed to keep abreast of finances, while potentially exposing themselves further to being held liable for those financial decisions?
“I haven’t seen it inhibiting anyone,” Curran says, “but I do occasionally hear them kidding about it, saying, ‘Don’t forget you’re accountable.’ ”
Bar leaders say the situation merits watching, as public companies now work to come into compliance with regulations and as people continue to ask more questions about fiduciary responsibility.
They also say that might not be such a bad thing for bar associations and foundations.
“Nonprofits ought to embrace something that gives donors and members a better level of comfort,” Curran says. BL
Louisville bar faces real-life test of fiduciary mettle
How much money to spend on the year-end holiday party? That’s the kind of question Louisville (Ky.) Bar Association trustees can handle pretty easily.
What to do with more than $1.5 million in stock from an insurance company going public? That was a different matter—and one that offers a good case study on how to keep fiduciary responsibility in mind when the unexpected pops up.
The dilemma arose in the fall of 2001 when Anthem Insurance announced it was moving from a mutual organization (owned by subscribers) to a publicly traded company. That meant the LBA, which offered life and health insurance via Anthem, would become a holder of 24,000 shares of stock.
But who owned the shares—the association as the master policyholder, or its members who bought insurance? Would they get stock, or would the stock have to be sold? Would tax have to be paid? What liability did board members have as they made these decisions? Those were just some of the questions the LBA board faced.
“The board was not prepared for the scope of the issue. These weren’t typical items,” says LBA Executive Director Kimberly Farmer. “We did not realize what type of fiduciary role we had.”
As Anthem’s stock price soared from about $30 a share to more than $70 a share in less than a year, it became clear that the LBA needed to act. The board hired expert counsel in Employee Retirement Income Security Act (ERISA) issues, sought advice from the ABA and spent many hours in discussion about what to do. “Our counsel told us that each decision we made put us more into the position of fiduciary,” Farmer says. “We needed to protect the association from a potential lawsuit.”
With that threat hanging over the LBA, the association filed an interpleader lawsuit in U.S. District Court, asking a judge to step in and help sort out the complicated proceedings. While the LBA is now the trustee of the stock account, a court-approved investment manager was hired and the association now takes all direction from the court, Farmer says.
Nearly two years after the LBA found itself in a fiduciary pickle, it is still in court as it tries to sort through issues involving the IRS, ERISA, stock sales, and officer liability. While the headaches have been frequent, Farmer says, she adds that the issue has probably helped the LBA in the long run as it has asserted its role in handling finances for a 3,200-member volunteer organization.
The LBA board was careful to keep all association members apprised of the situation through regular newsletter and Web site updates, Farmer says. Board members and staff also learned a thing or two about insurance and fiduciary responsibility.
“It’s been really healthy, because it gives us more discussion about financial issues now. We’re much more aware of the liability of the board now,” she says. “I don’t think we see financial issues as mundane any more.”
—Robert J. Derocher