Sarbanes-Oxley and Changing Nonprofit Accountability
By Kristin A. Pace, Esq.
Fitzgerald, Abbott and Beardsley LLP

The Sarbanes-Oxley Act, which was signed into law by President Bush in 2002, significantly changed the way publicly traded companies govern themselves. Sarbanes-Oxley was passed in response to the financial scandals that rocked formerly formidable companies such as Enron, Arthur Andersen, WorldCom and Global Crossing. Sarbanes-Oxley is said to effect the most extensive reforms in American business practices since the Great Depression and enactment of the New Deal securities acts of 1933 and 1934.

The Act seeks to increase investor confidence in public reporting and reduce aggressive financial reporting. It is also meant to ensure that effective internal controls regarding financial reporting of a company are put in place in order to reduce fraud and increase accountability for company expenses. Under the Act, there are provisions that are meant to ensure that the persons who serve on a company's board of directors act strictly in the best interest of the company. Finally, the Act provides for increased accountability of company management in financial reporting and disclosure of information to the public.

For the most part, Sarbanes-Oxley only applies to publicly traded companies and their auditors. When initially passed, there was significant concern among nonprofit organizations that the Act would spawn analogous state laws imposing accountability and disclosure requirements on such organizations, which would be both costly and onerous. Some of the larger charities in California have already adopted policies designed to meet the objectives of the Act; however, most nonprofits are still grappling with these issues today.

On February 12, 2004, Byron Sher, D-Palo Alto, introduced into the California Senate SB 1262, dubbed The Nonprofit Integrity Act of 2004. The legislation is a clear indicator of the types of controls that California may seek to impose on nonprofits. Backed by the California Attorney General's office, SB 1262 seeks to curb the recent scandals that have plagued commercial fundraisers and impose Sarbanes-Oxley-type oversight on California charitable organizations.

Proposed Changes under The Nonprofit Integrity Act

SB 1262, which focuses on charitable organizations with gross revenues of $500,000 or more in any fiscal year, would require that such organizations do the following: (1) prepare and make available to the public annual financial statements that have been audited by an independent certified public accountant; (2) establish an independent audit committee from the group of members of the board of directors not already serving on the organization's finance committee and who do not have a material financial interest in the entity; and (3) annually review compensation and benefits paid to top officers.

It is expected that, as proposed, the Sarbanes-Oxley oversight provisions of SB 1262 would apply to approximately 11 percent of the state's 88,000 registered nonprofit entities. Florence Green, executive director of the California Association of Nonprofits ("CAN"), believes that the cost of complying with the Nonprofit Integrity Act could cost nonprofits organizations as much as $7,000 per year. While agreeing with the intent of the legislation, CAN has already voiced certain objections to the bill in a press release issued on March 11th. In particular, CAN would like to see the audit trigger raised from $500,000 to $1,000,000 in order to protect grassroots organizations from incurring the expenses necessary to satisfy the requirements under SB 1262.

The proposed regulations are more stringent for professional fundraisers. The push for increased oversight of these types of organizations is in direct response to recent scandals involving the alleged disappearance of funds that were raised at gala events attended by celebrities that never reached the designated charities' coffers. Under SB 1262, professional fundraising organizations will have to disclose their fees and charges, restrict payments to celebrities and turn over donations to the charities within five days of collection. "We needed to deal with the relationships between charities and commercial fundraisers and better protect charities so that they have more control over their money," said Tom Dresslar, a spokesman for the Attorney General's office.

California Legislation Follows Lead Set by New York AG's Office

As in California, Attorneys General in several states, including New York, have recently proposed state laws containing provisions similar to those codified in the Sarbanes-Oxley Act that would apply to nonprofits and their auditors. Many states are watching to see what happens with the New York legislation, which is pending in that state's Senate as Bill S-4836. This bill has been revised substantially since it was first introduced based on input from various nonprofit associations.

The revised New York proposal now provides that certification of financial data is required of organizations with revenues in excess of $1,000,000 or assets in excess of $3,000,000 rather than applying to organizations with revenues above $250,000 as originally conceived. Similar to California's SB 1262, the revised proposal retains the provision requiring a nonprofit to set up an audit committee of directors not doing business with the nonprofit. Another substantial revision in the legislation is that an executive committee need only be formed in the event that the board of directors of a nonprofit has more than 25 members. This provision in the New York legislation is clearly in response to the perception that very large boards do not have a sufficient number of directors who feel responsible for the affairs of the organization. In circumstances where organizations have smaller boards, the creation of an executive committee is strongly encouraged but not required. The message of board responsibility is a key theme in many aspects of the New York legislation. Finally, with regard to interested party transactions, the legislation, as revised, allows the Attorney General to challenge in court interested party transactions it considers objectionable, even if such transactions have been approved by the board after full disclosure.

While California may soon pass legislation that will apply Sarbanes-Oxley-type accountability to nonprofit boards of directors and their auditors, based on the extensive revisions to New York's proposal as a result of comments from nonprofit associations, it is likely that the final version of SB 1262 will be adapted to suit both the size and resources of smaller nonprofit organizations. CAN Director of Public Policy Ken Larsen commented, "It's too early to say what the final version of the bill will look like, but the Attorney General has already incorporated some of our [CAN] suggestions, and we remain hopeful that the Attorney General will incorporate our remaining recommendations."

While we wait to see what the final version of SB 1262 will look like and whether or not it will pass, nonprofit organizations can voluntarily put in place procedures and policies that will surely be required in some form in the future. By instituting measures that demonstrate good corporate governance, nonprofits of all sizes and with various revenue streams can show that they are striving for better accountability, which should be a popular selling point with existing and potential donors. Taken partly from SB 1262 and the legislation proposed in New York, following is a list of recommended actions that nonprofits can implement to exhibit their willingness to address the public's concerns:

• Create an audit committee comprised of independent members which includes at least one financial expert. If the nonprofit organization is small, it can create a finance committee that will function as an audit committee with an accountant or other financial expert available to assist with the review and interpretation of financial reports.
  
  
• Require that the executive director or CFO publicly attest to the accuracy, completeness and fairness of the organization's financial statements. Make the organization's written policies regarding internal accounting controls available to the public.
  
  
• Adopt a code of ethics for the organization's management and board members. Ensure that this information is available to the public upon request.
  
  
• Recruit board members who are financially savvy. Train board members who are not familiar with financial statements on methods for interpreting them.
  

The fact that SB 1262 has been proposed and is sponsored by the Attorney General's office should serve as a wake-up call to California nonprofit organizations and professional fundraising companies. As noted above, some larger nonprofit organizations have already undertaken to satisfy the spirit of Sarbanes-Oxley-type requirements by overhauling their internal governance controls and implementing sound financial management measures. The need for most nonprofit organizations to do this is and will continue to be necessary to shore up donor confidence in charitable giving.

Survey Reveals Growing Desire Among Affluent to Give Back
By Aline Sullivan

Amid economic uncertainty and the war against terrorism, wealthy individuals are now more concerned about local community and their families and less concerned about their career ambitions. They also widely perceive money as "a powerful tool for doing good."

At the same time, the affluent say they are now more likely to seek help of a professional financial advisor to manage their wealth.

This recognition of the need for professional advice--along with the increased social and familial concerns of affluent individuals--presents an exceptional opportunity for financial advisors. According to the latest Wealth & Values survey findings, 88 percent of donors still conduct their philanthropy by making direct cash gifts. As a result, they may be overlooking the wealth protection benefits of more sophisticated philanthropic strategies--strategies that advisors are well positioned to incorporate into an overall financial plan.

Renewed Focus on Values

Almost two-thirds of the 712 respondents surveyed reported an obligation to give back to their community, up from 50 percent in 2000, when the previous study was conducted. The affluent, which the survey defines as those with gross annual incomes of at least $150,000 and investable assets of at least $500,000, now overwhelmingly advocate the power of philanthropy.

This finding doesn't surprise Stephen Goldbart, a clinical psychologist and co-founder of the Money, Meaning & Choices Institute in Kentfield, California. "The mania for accumulation has ended," says Goldbart, who counsels wealthy families and serves as a member of the East Bay Community Foundation's Professional Advisor Committee. "Many people have become focused on their real values since the events of September 11 and in the wake of the economic downturn."

"We are coming off a three-year downturn in the market and people have started to refocus on philanthropy," adds Richard Slutzky, a senior consultant at the Merrill Lynch Center for Philanthropy and NonProfit Management in Hopewell, New Jersey. "Those who are working are feeling less pressure and are more willing to free up some of their income for giving," Slutzky continues. "Older investors are more willing to work with philanthropy in their estate plans. People are more reflective now and more willing than ever to give."

A Need for Guidance

The Wealth & Values survey, which was conducted in the spring of 2003 and sponsored by Harris Interactive for Community Foundations of America and HNW, Inc., a wealth market consultancy, found that even the most financially sophisticated investors recognize they need help growing and protecting their assets. Just 61 percent of the survey respondents agreed with the statement that, for that most part, "they can make it without anyone's help," down five percentage points from 2000.

Dr. Goldbart says this trend extends into the area of philanthropy. "There's a much greater interest these days in using advisors," he says. "Wealthy investors want a moral compass for their money, a set of objectives that will help their families and help society."

A Passion To Do Good

Among other key findings, 60 percent of affluent respondents say that their happiness has grown along with their wealth. Still, most continue to fret about sustaining and increasing their wealth, and say they need more money than ever to feel secure. Specifically, 32 percent of those surveyed said they needed between $2.5 million and $5 million in assets to feel secure.

Even so, many affluent respondents are clear that there is more to life than making money: 69 percent identified career satisfaction as very important to their happiness in the latest survey, down from 80 percent in 2000. By contrast, 72 percent say that families and friends are very important, up from 68 percent in the earlier survey.

Money is now widely perceived by the affluent as something that can solve problems. Stephen Johnson at the Philanthropic Initiative in Boston says that well-heeled donors have been more willing to step up to the plate in the economic downturn, even though their own wealth has declined.

"They have a passionate determination to give because they can see that the government has a reduced willingness and ability to spend on social problems and that nonprofit organizations are increasingly needy, both because overall donations are down and because the constituency that they serve is growing," he says.

A Brighter Future for Giving

Now that the economy appears to be picking up, the survey suggests that affluent donors will continue to give, and may even increase their donations. Two-thirds of respondents believe that the US economy will improve over the next year, up from only 16 percent in 2000.

Optimism, a growing social consciousness, and a need for financial and philanthropic advice: these elements spell opportunity for advisors to help clients develop and implement strategic giving plans to support their favorite causes now ­- and in the future.

Aline Sullivan is a freelance writer based in Westport, CT Copyright 2004, Council on Foundations and Community Foundations of America Used with permission.

Case Study: Charitable Remainder Trust

Sometimes it makes great sense to refer Charitable Remainder Trust (CRT) clients to a community foundation, especially when the client's goals include flexibility, family participation, and active engagement in the giving process.

Recently, Ken Mitchell and Kathleen Courts, estate planning attorneys with Mitchell & Courts in Oakland, prepared an estate plan for an East Bay couple, which involved the East Bay Community Foundation.

The clients wanted to establish a CRT and had specific goals around the structure and operation of their charitable trust. They wanted as much flexibility as possible in designating the beneficiaries of their trust. This couple has great relationships with certain charities now but they don't know if that will be the case in the future or if these charities will even exist.

In addition, the clients wanted their school-age children to become actively engaged in charitable giving, both to continue the charitable legacy of their parents and to develop charitable interests of their own.

"It was a no-brainer for me to suggest the East Bay Community Foundation," Ken said.

The clients met with Foundation staff and decided to designate a charitable fund at the Foundation as the remainder beneficiary of their CRT. They designed the fund so that half of the fund's yearly income would be distributed to a select group of their favorite charities and the remaining half would be distributed to the charities of their children's choice. The clients can revise the beneficiaries designated in their fund agreement at any time thus obtaining maximum flexibility. Their children can draw upon the community knowledge of the Foundation when making their giving decisions in the future.

The parents hope the children will visit the charities as adults, a service the Foundation can facilitate to ensure that only the most effective nonprofits are supported.

"My clients couldn't say enough nice things about the Foundation," said Ken. "In their words: 'it was simple and easy to do.' They are perfectly satisfied."