Non Profit Report - November 2011
What Associations and Nonprofit Organizations Need to Know about the New DC Nonprofit Corporation Act
By: Dorothy Deng & Megan C. Spratt
Nonprofit corporations incorporated in or registered to do business in the District of Columbia will have a new law to contend with starting on January 1, 2012. Although the new nonprofit law offers some benefits, it is more verbose, more complicated, and less user-friendly than the current law.
And while the new law will not necessarily change how nonprofits operate in a dramatic way, nonprofit corporations are strongly encouraged to conduct a review of their organizational documents to ensure compliance with the new law. Jeff Glassie, co-chair of Whiteford, Taylor & Preston’s Nonprofit Organizations and Associations section, commented, “The current nonprofit law is reasonable and flexible, and has served corporations in the District of Columbia very well for a long time. The new law’s many nuances will take more time to navigate and interpret.”
As background, the District of Columbia Council passed the District of Columbia Code Title 29 (Business Organizations) Enactment Act of 2010 (the “new law”) in order to revamp its business organizations code. The D.C. Department of Consumer and Regulatory Affairs (“DCRA”) is currently working on emergency and proposed regulations to implement the new law. These regulations will be published in the D.C. Register.
The new law is structured such that provisions governing all types of corporations (including business, nonprofit, and limited liability,) are found in Chapter 1, General Provisions, while provisions pertaining specifically to nonprofit corporations are found in Chapter 4, Nonprofit Corporations. The following discusses some of the key provisions in the new law, including how it affects so-called “old act” corporations incorporated in the District of Columbia prior to 1962.
Under Chapter 1, General Provisions, the new law uses several new unique defined terms that nonprofit corporation executives must now know (§29-101.02). For example, “organic law” means the law of an entity’s jurisdiction of formation which governs the internal affairs of the entity. Under this definition, D.C. law is the “organic law” for nonprofit corporations incorporated in the District. Further, “private organic rules” generally refer to a nonprofit corporation’s bylaws, and a “public organic record” generally refers to a nonprofit corporation’s articles of incorporation. In addition, “organic rules” mean the public organic record and private organic rules of an entity.
In addition, several new terms are specifically defined for nonprofit corporations in Chapter 4 (§29-401.02). For example, “fundamental transaction” means an amendment of the articles of incorporation or bylaws, merger, membership exchange, sale of all or substantially all of the assets, domestication, conversion, or dissolution of a nonprofit corporation. As for terms related to the newly codified fiduciary duties principles (further explained below), “material relationship” means a familial, financial, professional, employment, or other relationship reasonably expected to impair the objectivity of an individual’s judgment.
When unfamiliar new terms are encountered, one must refer to the definition sections under both the new law’s General Provisions in Chapter 1 and Nonprofit Corporations in Chapter 4.
Simpler Incorporation Process
One major benefit of the new law is the simplified incorporation process. Under the new law, only one incorporator (rather than three) is required, a notary is no longer necessary, and the initial board of directors is no longer required to be listed in the articles of incorporation (§29-402.01, §29-402.02). This is welcome news for organizations contemplating setting up a related foundation, certification program, or affiliate in the District. As for the two-year reports currently applicable to D.C. corporations, the reports will be due on April 1st (rather than January 15th), and they can now be filed online by visiting the DCRA website (§29-102.11). The electronic filing option will provide a less burdensome and more efficient way for nonprofit corporations to file their reports.
The new law contains many more details than the current law, including provisions that provide more clarity and greater flexibility for the governance of nonprofit corporations. For example, if authorized in a corporation’s articles or bylaws, members may hold any annual, regular, or special meeting electronically (§29-405.01, §29-405.02). That is, meetings can be held by means of the Internet or other electronic communications technology where the members have the opportunity to read or hear the proceedings substantially concurrently with their occurrence, vote on matters submitted to the members, pose questions, and make comments.
Also, if the nonprofit corporation authorizes the exercise of emergency powers in its articles or bylaws, then, in the event of an emergency, the board may assume emergency powers such as modifying lines of succession and relocating offices (§29-403.03). Another feature of the new law is a provision allowing a membership corporation to elect or appoint “delegates” by setting forth the qualifications and related requirements in its articles or bylaws (§29-404.3).
Maintenance of additional corporate records is now explicitly required under the new law, including meeting minutes, accounting records, and membership records (§ 29-413.01). The new law defines “record” as information that is inscribed on a tangible medium or stored in an electronic or other medium retrievable in perceivable form. Accordingly, nonprofit corporations may keep corporate records in digital form. The new law also gives members significant rights to inspect and copy the corporate records, so long as the organization is given notice that includes a proper purpose for the request, though such rights can be limited or abolished by amendment to the articles of incorporation or bylaws (§ 29-413.02).
Fiduciary Duties and Standards of Conduct for Directors/Officers
The new law codifies a number of common law principles that relate to a director’s fiduciary duties. For example, under the new law, when a conflict of interest is present as to a transaction between a nonprofit corporation and one or more of its members, directors, or officers, the transaction is not void or voidable solely for that reason, provided that the material facts as to the relationship or interest are disclosed, the transaction is approved in good faith, or if the transaction is fair to the corporation (§29-406.70). This treatment of conflicts of interest brings the District in line with many states that address conflicts of interest in their statutes.
In addition, the new law codifies the standards of conduct for directors and officers (§29-406.30, 406.42), and the standards of liability for directors (§ 29-406.31). Each director must act in good faith and in a manner the director reasonably believes to be in the best interests of the nonprofit corporation; an officer with discretionary authority must discharge his or her duties in good faith, with the care an ordinarily prudent person in a like position would exercise under similar circumstances, and in a manner the officer reasonably believes to be in the best interests of the corporation. In regards to director liability, unless the party asserting liability establishes that the challenged conduct violated the standard of conduct, directors are not liable to the nonprofit corporation or its members for any decision to take or not to take action.
The new law includes very detailed provisions on indemnification. For instance, indemnification is now mandatory if a director or officer is successful in the defense of any proceeding (§ 29-406.52). Indemnification is permissible if the director or officer acted in good faith, reasonably believed that the conduct was in the best interests of the corporation, and had no reasonable cause to believe the conduct was unlawful. Indemnification is also permissible if it is obligatory under a provision of the articles of incorporation (§ 29-406.51). This is different from the old law, which gave nonprofit corporations the power to indemnify any director or officer against expenses actually and necessarily incurred in connection with the defense of any action in which the director or officer is made a party by reason of the position, except for negligence or misconduct in the performance of a duty. Nonprofit corporation executives will need to review indemnification provisions in their articles of incorporation or bylaws to ensure compliance with the new provisions.
Finally, in regards to immunity from civil liability for volunteers of D.C. nonprofit corporations, the new law is in line with the old law (§29-406.90). Any volunteer of the nonprofit corporation is immune from civil liability (except for willful misconduct, crime, improper personal benefit, or act/omission that is not in good faith) if the corporation maintains liability insurance with a limit of coverage of not less than $200,000 per individual claim and $500,000 per total claims that arise from the same occurrence. This insurance requirement does not apply to any tax-exempt Section 501(c)(3) corporation having annual total functional expenses, exclusive of grants and allocations, of less than $100,000.
The rights and obligations of members receive expanded treatment under the new law. First, the new law defines the term “member” in a more restrictive manner, essentially providing that only those who have the right to vote for directors or on a fundamental transaction constitute members of a nonprofit corporation for purposes of the statute (§ 29-401.02(24)). For the many organizations that have members with no voting rights, this means that their members are not formally “members” and will not be entitled to the statutory rights provided to members under the new law. In spite of this distinction, for the most part, a corporation’s members that are not considered members under the new law will not have to adjust to a vast difference in treatment. In fact, it is acceptable under the new law to continue to refer to those who do not meet the statutory definition as “members.” They simply will not be entitled to statutory member rights, such as the right to inspect corporate records.
Regarding the notice required for meetings of members, the notice can now be provided up to sixty days in advance (the current law only allowed up to fifty days). The minimum amount of notice required, ten days, has not changed. However, the notice can now take the form of an oral or electronic communication (§ 29-405.05(a); § 29-401.03). With respect to special meetings of members, the new law provides that a special meeting called by members requires at least ten percent of all the votes entitled to be cast (the current law only requires five percent), or such other amount up to twenty-five percent as the articles of incorporation or bylaws specify (§ 29-405.02(a)(2)).
As for quorum requirements, the default quorum has been increased from at least 1/10 of the votes entitled to be cast to a majority of votes entitled to be cast (§ 29-405.24(a)). Members can still vote by proxy, and the default proxy validity period is still eleven months. However, the new law stipulates that a proxy appointment may not exceed three years (the current law does not impose a cap on the proxy validity period) (§ 29-405.22(c)).
Given the new law’s many extensive member requirements, such as those noted above, nonprofit membership corporation executives should re-examine their bylaws to ensure compliance with the new law.
Amendment of Articles
The new law provides some added flexibility to boards regarding certain amendments to the articles of incorporation. Specifically, the new law allows the board of directors to amend the articles without approval of the members to: (1) extend the duration of the corporation if it was incorporated at a time when limited duration was required by law; (2) delete the names and addresses of the initial directors or members; (3) change the registered agent information; (4) change the corporate name by substituting or deleting the word “corporation”, “incorporated”, “limited”, “corp.”, or “inc.” for a similar word or abbreviation in the name; or (5) restate without change all of the then operative provisions of the articles of incorporation (§ 29-408.03(b)). This means the new law enables the board of a nonprofit corporation to restate its articles at any time, without approval of the members, to consolidate all amendments into a single document (§ 29-408.07(a)).
- Domestication: A major change enacted is that the new law allows for domestication of corporations (§ 29-407.02). Nonprofit corporations incorporated in a different jurisdiction may become a D.C. domestic corporation – or vice-versa – by filing articles of domestication. A significant benefit of domestication is that a corporation that chooses to domesticate will not have to re-apply to the IRS for tax exemption, which is normally required for a new legal entity. Another benefit of domestication is that it may reduce the number of states where the corporation is doing business and required to file reports. It should be noted, however, that domestication is permissible only if the original state of incorporation allows domestication, and currently, only a handful of states do (for example, Virginia, Massachusetts, and Pennsylvania). Conversely, due to this new domestication option, nonprofit corporations currently incorporated in the District that ultimately decide that the new law is too burdensome or want to avoid being subject to jurisdiction in D.C. will now have the opportunity to domesticate to another state without having to re-apply for tax-exempt status.
- Mergers: Regarding mergers, the new law abolishes the term “consolidation” but permits the option of a “membership exchange” (§29-409.03). For example, D.C. nonprofit corporations may acquire one or more membership classes of another domestic or foreign nonprofit corporation, in exchange for memberships, cash, or other property or consideration.
- Numeric Requirements: The new law revises a number of numeric requirements. For example, the required notice for elections is now at least ten and no more than sixty days before the meeting (§29-405.05). Regarding quorums, the default member quorum is now a majority of votes entitled to be cast (§29-405.24) and the default board of directors quorum is now a majority of the directors (§29-406.24).
“Old Act” Corporations
The new law is somewhat contradictory with respect to so-called “old act” corporations incorporated in the District prior to 1962. Specifically, Chapter 1 provides that “old act” corporations that do not desire to be subject to the new law must file a notice by January 1, 2014, that includes the corporation’s articles of incorporation, as well as the names and street and mailing addresses of its current officers and directors, but the new law then goes on to provide that, if such a corporation wishes to continue to do business in the District, it must file articles of incorporation with the Mayor and otherwise comply with the new law (§29-107.01(b)).
The confusion is magnified by language in Chapter 4 stating, “This chapter applies to all domestic nonprofit corporations in existence on its effective date that were incorporated under any general statute of the District providing for incorporation of nonprofit corporations” (§29-414.01). A “technical corrections” bill is expected to be introduced to correct certain errors in the new law and hopefully this matter will be addressed.
Notwithstanding the foregoing, the general consensus at this time is that, if “old act” corporations wish to remain incorporated in the District, they must file new articles by December 31, 2013, and then will be subject to the new law and the same biennial reporting requirements applicable to other D.C. nonprofit corporations.
It should be noted that “old act” corporations that are put off by the new law and its many complications, or that have moved out of the District and would prefer not to be subject to D.C. jurisdiction for litigation, employment, or other purposes, may want to consider taking advantage of the new domestication option. As explained above, if an “old act” corporation has a presence in or is willing to move its corporate status to a jurisdiction that permits domestication, the corporation can presumably shed its D.C. corporate form without affecting its tax-exempt status.
In conclusion, while the new law contains a number of changes, for the most part, the day-to-day operations of most D.C. nonprofit corporations will not be affected in a major way. Nonetheless, it is important to become familiar with the new law, which is more cumbersome and less flexible than the current law, and to conduct a review of the corporation’s governing documents to ensure compliance. All nonprofit corporations incorporated in D.C. are strongly encouraged to review their articles of incorporation, bylaws, policies, and other general governing practices to ensure compliance with the new law.