by: Theodore Schneider, CFA

 

The Importance of Governance and Fiduciary Responsibilities for Nonprofits with Investment Assets

The job of a non-profit board can be demanding as board members are tasked with numerous responsibilities. They include, but are not limited, to the oversight of the organization’s financial sustainability, legal obligations, strategic initiatives, and fundraising, all in efforts to ultimately improve upon the organization’s mission and public standing. Therefore, for nonprofits with investible assets, the ongoing management and oversight of these assets is just one piece of a much larger puzzle. However, investing as a nonprofit comes with considerable fiduciary duties that must be adhered to. If these fiduciary duties are not upheld, it may result in mismanagement or impairment of the non-profit’s assets as well as legal ramifications for the fiduciary parties and the organization. As a result, effective governance in coordination with a clearly defined fiduciary process is of the upmost importance to maintain strong a fiduciary standing when managing non-profit investment assets. This article provides non-profit boards and investment committees a resource to understand their fiduciary duties as it relates to investing non-profit assets, as well as offers best practices to ensure compliance and optimal results for the organization.

In this article, discover:

  • Fiduciary Responsibilities of Non-Profit Board or Investment Committee
  • Uniform Prudent Management of Institutional Funds Act (UPMIFA)
  • Best Practices for Prudent Investment Management
  • Failure to Comply with Fiduciary Duties: What Can Happen?
  • How Can Round Table Wealth Management Help?

Fiduciary Responsibilities of Non-Profit Board or Investment Committee

By definition, a fiduciary is an individual or organization that is trusted to act on behalf of another individual or entity. For a nonprofit, the fiduciary responsibility of the organization’s assets falls to its board members. To uphold their fiduciary responsibility, non-profit board members must abide by the following three legal duties:

  1. Duty of Care: Non-profit fiduciaries must use the same degree of care, skill, and diligence as any prudent person in their position. To maintain a duty of care as it relates to non-profit investing, a fiduciary should stay prepared, diligent, and active in their role and management of the organization’s assets. This includes staying apprised of all relevant financial activities and consistently engaging and participating in the decision-making process for matters of importance.
  2. Duty of Loyalty: A duty of loyalty requires that fiduciaries must always act in the best interest of the organization, above any personal, social, or other business interests. Those individuals in a fiduciary role should avoid any conflicts of interest or self-dealing in connection with their role within the organization.
  3. Duty of Obedience: Non-profit fiduciaries must also obey and comply with any other applicable fiduciary laws (e.g., state or federal regulations) as well as act within the scope of the organization’s own mission and documented policies (e.g., articles of incorporation, bylaws, etc.).

Uniform Prudent Management of Institutional Funds Act (UPMIFA)

A fiduciary’s responsibility for the management of non-profit assets is also subject to the Uniform Prudent Management of Institutional Funds Act (UPMIFA). UPMIFA serves as an extension of the Duty of Care in that it provides more detailed guidance on prudent investment management for nonprofits and charitable organizations. The act was passed in 2006 as an update to its predecessor, the Uniform Management of Institutional Funds Act (UMIFA) and has been enacted across all U.S. states except for Pennsylvania. The revised act focuses on a few key investment guidelines that are highlighted below:[1]

Prudent Investment Guidelines: Non-profit fiduciaries must consider the following factors in relation to the investment and management of their institutional assets:

  • general economic conditions;
  • the possible effect of inflation or deflation;
  • the expected tax consequences, if any, of investment decisions or strategies;
  • the role that each investment or course of action plays within the overall investment portfolio of the fund;
  • the expected total return from income and the appreciation of investments;
  • other resources of the institution;
  • the needs of the institution and the fund to make distributions and to preserve capital; and
  • an asset’s special relationship or special value, if any, to the charitable purposes of the institution

In addition to these factors, fiduciaries of nonprofits have a duty to diversify the investment assets, following the approach of Modern Portfolio Theory. UPMIFA also states that the risk and return expectations of a specific investment should be assessed in context of the overall investment portfolio and strategy rather than in isolation.

Furthermore, a subsection was added in the UPMIFA for a duty to minimize costs. The organization may incur prudent costs such as hiring an investment advisor, but the totality of the investment costs incurred should be appropriate for the circumstances.

Delegation of Investment Functions: UPMIFA includes a section detailing that an organization may delegate the management and investment of their institutional assets to an external agent (i.e. investment advisor). If an investment advisor is hired for the management of the assets, the advisor accepts to share the fiduciary responsibility and must act in accordance with the guidelines and laws set forth for the non-profit organization.

[1] Source: National Conference of Commissioners on Uniform State Laws. “Uniform Prudent Management of Institutional Funds Act.” 2006. https://www.uniformlaws.org/committees/community-home?CommunityKey=043b9067-bc2c-46b7-8436-07c9054064a3

Best Practices for Prudent Investment Management

Given the fiduciary obligations that nonprofits must adhere to, the need for a prudent governance structure and a fiduciary process is vital to both the success and legal liability of the organization. The section below outlines the best practices a non-profit board can incorporate into their governance framework to ensure their fiduciary responsibility is fulfilled.

Fiduciary Best Practices

  • Create a Dedicated Investment Committee
    • Purpose: It is highly recommended that any nonprofit with investible assets create a dedicated investment committee to assume the fiduciary responsibilities and oversee the management of assets. As mentioned earlier, investment management is just one of numerous responsibilities that fall under the supervision of a non-profit board and given the time commitment and resources required, a separate committee tasked with the duty can provide more robust oversight and action.
    • Considerations:
      • The investment committee is commonly comprised of a subset of board members, but it many instances can include non-board members that have financial or investment experience to provide enhanced expertise in the decision-making process.
      • While the investment committee will take accountability over the day-to-day investment decisions and activities, the committee needs to maintain close communication with the board to align with the organization’s objectives for the assets as well as any changing circumstances.
  • Investment Committee Charter
    • Purpose: The initial task for a newly developed investment committee should be the creation of an investment committee charter, which is a policy document designed to ensure that the investment committee follows a formally defined approach.
    • Considerations to Include in the Charter:
      • Size of the Committee
      • Appointment Process of Members & Committee Chair
      • Determine Terms of Members & Chair:
        • Determine which committee members are permanent (Director Finance, Executive Director, etc.) and which members should rotate.
        • We suggest rotating members serve a minimum of three to five years on the committee. Additionally, the rotation of new members should be evenly spaced so as not to create significant turnover in any one year.
      • Roles & Responsibilities of IC members vs. Outside Agents (Investment Advisor)
      • Committee Meeting Expectations
        • We encourage that the committee convene at least quarterly
    • The creation of an investment committee and charter go hand in hand. However, if your nonprofit already has an investment committee but no formal charter, it is encouraged that one is developed as it serves to reaffirm the committee members’ roles and acts as a resource for future committee members.
  • Investment Policy Statement (IPS)
    • Purpose: Before any non-profit assets are invested, it is imperative for the investment committee to establish an Investment Policy Statement to outline the purpose of the non-profit’s investment assets as well as any unique circumstances that are associated with the management of the funds. The IPS provides the investment committee, as well as a hired investment advisor, a clearly defined and documented roadmap to the organization’s investment plan, which can then be used to help construct an investment portfolio that aligns with the goals and objectives the organization has set out to achieve.
    • Considerations: Below are the key topics that should be addressed in a non-profit IPS. However, for more details on these pertinent items, please find an in-depth discussion in our “Guide to Investing for Non-Profit Organizations
      • Background of Organization
      • Investment Considerations
      • Investment Objectives & Parameters
      • Allowable Asset Classes & Target Asset Allocation
      • Portfolio Measurement & Reporting
    • Given that a non-profit’s financial circumstances and needs change, the investment committee should review the standing IPS on annual basis, or anytime there is a material change, to ensure the purpose and parameters established for the portfolio remain valid.
    • In many instances, the investment committee charter and investment policy statement are integrated within the same document.
  • Investment Committee Meetings
    • Purpose: As an investment committee member there is a fiduciary duty to remain diligent and active in the oversight of the organization’s assets. Therefore, as the investment committee takes shape and the funds are invested in a diversified asset allocation, the committee’s principal ongoing fiduciary responsibility occurs in the form of investment committee meetings to ensure the duties of care, loyalty and obedience are being upheld.
    • Considerations:
      • Meeting Frequency: We suggest that the investment committee convene at least quarterly. This excludes any additional board-level meetings to present or relay information to the board.
      • Participation: We advocate full attendance at each meeting. To encourage attendance, give the investment committee members the opportunity to join via conference call or video if in-person participation is not possible. Additionally, make sure performance reports and any other meeting materials are sent out in advance of the meeting to provide members sufficient time to prepare and be ready to discuss the relevant information.
      • Meeting Agenda Items
        • Approval of Prior Meeting Minutes
        • Investment Portfolio Review
          • Develop a Portfolio Performance Report that contains performance measurement data in accordance with the IPS
          • Note: It is important not only to review portfolio performance in context of the broad market but also in context of the organization’s long-term objectives (i.e., IPS) as the two do not always align.
        • Discussion of Asset Allocation & Potential Portfolio Changes
        • Liquidity & Cash Flow Needs (Short-Term & Long-Term)
        • Organizational or Investment Committee Updates
  • Delegate to an Investment Advisor
    • In many circumstances, the members of the board and/or investment committee do not have the experience, expertise, resources, or time to dedicate to the management of the non-profit’s investment assets. Thus, if this is the case, the board and/or investment committee members have a fiduciary duty to delegate their investment management responsibilities to a third-party, professional investment advisor.
    • By doing so, the investment advisor accepts and shares the fiduciary duties to prudently manage the non-profit’s investment assets. By shouldering the fiduciary burden, the investment advisor can take ownership over the day-to-day management of the assets. However, the board and investment committee still hold a level of fiduciary oversight and must continue to remain vigilant of the investment advisor’s activity to ensure compliance with the fiduciary duties.
    • For example, this includes upholding the duty of care through periodic meetings to stay up to date on all relevant information and happenings in the investment portfolio. As mentioned above, these meetings should also require engaged participation from its members. The board and investment committee also need to remain compliant to the duty of obedience by periodically verifying the investment assets are being managed in congruence with the organization’s mission, policies, and procedures.

Failure to Comply with Fiduciary Duties: What Can Happen?

If a board or investment committee member breaches their fiduciary duties, they could be held personally liable for their actions. This has most commonly occurred when an individual has failed to uphold the duty of loyalty, whereby the responsible party has received a personal benefit or acted in their own best interest ahead of the organization.

Furthermore, liability can fall back on the organization or entity if fiduciary standards are not upheld by its members. In particular, private foundations can be at risk of forfeiting their tax-exempt status if they invest in or hold specific types of investment, as defined by the Internal Revenue Service (IRS):[2]

No category of investments is treated as an intrinsic violation, but careful scrutiny is applied to:

  1. Trading in securities on margin,
  2. Trading in commodity futures,
  3. Investing in working interests in oil and gas wells,
  4. Buying puts, calls, and straddles,
  5. Buying warrants, and
  6. Selling short.

The penalty for a deemed jeopardizing investment can result in an excise tax of 10% of the investment for each tax year the investment is held. If no steps are taken to remove the jeopardizing investment, additional tax may be applied to both the foundation and personally for those responsible for management of the investment.

[2] Source: Internal Revenue Service. Private Foundation – “Jeopardizing investments” defined. https://www.irs.gov/charities-non-profits/private-foundations/private-foundation-jeopardizing-investments-defined

How Can Round Table Wealth Management Help?

Round Table Wealth Management provides a comprehensive service to nonprofits with long-standing experience. We have partnered with a variety of non-profit organizations at different stages of their investment journey, from organizations just getting started to others with years of investment experience. Nonprofits of any size or structure or at any stage of their investment journey can find value in the service we provide. The bullet points below outline how Round Table can specifically enhance non-profit governance and assist in the fiduciary responsibility of managing non-profit investment assets:

  • Share Fiduciary Responsibility: Partnering with an investment advisor allows the board or investment committee to delegate fiduciary responsibility. As a Registered Investment Advisor (RIA), our firm is bound by a fiduciary duty to our clients and function as a fiduciary in all that we do. Therefore, we are perfectly aligned to accept the fiduciary responsibility that comes with managing non-profit assets. Additionally, by sharing the fiduciary responsibility, it allows us as investment advisors to shoulder the day-to-day management of the investment portfolio and give time back to the board to concentrate on the plethora of other items they are tasked with.

  • Development/Review of Investment Documents: As part of our service, we will work with the investment committee to either draft a new investment policy statement, or review and update an outstanding IPS. We believe an accurate and up-to-date investment policy statement is critical to achieving the strategic vision for the investment assets.

  • Communication & Reporting: As an investment advisor, we accept the day-to-day management of the investment portfolio, but it is imperative that the investment committee and board maintain ongoing oversight of the assets. To that end, we provide frequent communication as well as regular meetings to review the investment portfolio as well as our investment perspectives and market outlook with the organization. We are also always available to address any questions or challenges that come up outside of scheduled meetings. Additionally, we provide periodic portfolio reporting and online account access to track the success of the investment portfolio and prepare for investment committee meetings.

  • Education: One of the common deterrents that hold a nonprofit back from investing is the lack of internal expertise or experience in managing investment assets. Not only does Round Table provide professional investment management, but just as importantly, we offer investment education to bring a board or investment committee up to speed so they can more prudently oversee and perform their fiduciary duties.

We believe these benefits provide a strong fiduciary framework for any nonprofit looking to invest without fear or uncertainty of breaching their fiduciary obligations. We encourage you to reach out to learn more about how we may be able to assist you in the advancement of your non-profit organization.

 

Please contact us to learn more or to speak to a wealth advisor to discuss your specific situation.

908-789-7310  |  www.roundtablewealth.com

 

 

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