Can private foundations pay board directors and trustees?
Compensating the board of directors or trustees of a private foundation is a legally permissible practice, provided it adheres to specific guidelines. To remain compliant, private foundations must navigate the self-dealing rules under Section 4941 of the Internal Revenue Code (IRC), which prohibit improper financial benefits to "disqualified persons," including board members. Compensation is allowed only if it is reasonable, necessary, and properly documented. Statistics indicate that approximately 25% of foundations compensate their directors, with the likelihood of compensation increasing alongside the size of the foundation's endowment. While large foundations often pay their directors, it remains less common for smaller ones. Importantly, private foundations can compensate both independent directors and those who are family members of the founder.
The question, however, is not just about whether foundations can pay directors, but whether they should. There is no universal answer to this question, as the decision depends on a variety of factors. Some argue that directors should serve without compensation, akin to volunteer work. However, this stance raises concerns about accessibility, as it could limit board membership only to those who are financially well-off. Volunteer boards tend to allocate less time for oversight compared to paid directors, a critical factor in effective grant-making. On the other hand, offering compensation can help attract and retain board members with specialized skills or expertise, which may be especially valuable for foundations with complex operations or substantial assets.
Even modest compensation can incentivize directors to invest more effort in foundation affairs. It becomes particularly justifiable in cases where directors dedicate significant time to foundation business, maintain professionalism, and help navigate complex operational challenges. Conversely, if directors contribute minimal time or if compensation threatens the foundation's endowment, ethical concerns arise. In such instances, boards must carefully evaluate whether compensation aligns with the foundation's priorities and mission. Foundations should also consider the potential impact of compensation on public perception. For smaller foundations, compensating board members may raise questions about priorities and stewardship of resources, possibly undermining trust among donors and stakeholders.
Compensation for private foundation directors is often structured as a base payment for their general responsibilities, with additional payments possible for specific tasks, such as attending meetings or serving on committees like the investment committee. When a foundation lacks professional staff, director compensation may take the form of a salary, as directors often handle all administrative and operational duties. For foundations that choose not to pay board members directly, reimbursing reasonable expenses—such as travel for foundation-related purposes or mileage for the use of a privately owned car for foundation business—can help remove financial barriers to participation. Additionally, offering training opportunities can further enhance board members’ contributions without providing direct financial compensation.
Transparency is crucial, as private foundations must disclose compensation details on their publicly available tax return, Form 990-PF. To safeguard the integrity of the compensation process, clear policies should be established to address potential conflicts of interest. Compensation arrangements must be carefully reviewed and documented to ensure compliance with self-dealing rules and alignment with the foundation's mission. This includes maintaining written agreements, using external benchmarks, and recusing board members from decisions about their own compensation.
Ensuring that director compensation is reasonable is paramount. Many larger foundations engage compensation consultants to compare payment levels with those of similar organizations, ensuring fairness and justifiability. Periodic reviews of compensation practices help foundations remain aligned with industry standards and evolving legal requirements. Although rare, instances of excessive compensation for minimal work have occurred. Such practices are unethical and expose foundations to financial penalties, including the potential revocation of their 501(c)(3) status.
When private foundations decide to pay their board of directors, it is essential to adhere to specific principles:
• Reasonable Compensation: Establishing reasonable compensation for board directors is crucial. Compensation must align with industry standards, the complexity of the foundation's operations, and the time commitment required of directors. Benchmarking director compensation against similar organizations helps ensure it falls within an acceptable range. This practice not only prevents excessive payments but also helps maintain the foundation's financial integrity and credibility. The board should provide a well-justified rationale for the compensation structure, taking into account the time and effort directors invest in fulfilling their duties.
• Duty of Loyalty: Board directors and trustees have a fiduciary duty to act in the best interests of the foundation. When compensation is introduced, this fiduciary duty takes on added importance. Directors must navigate their dual role as stewards of the foundation's mission and recipients of compensation carefully. This means they should always prioritize the foundation's objectives over personal financial gain and disclose any potential conflicts transparently.
In conclusion, compensating private foundation board directors is a complex decision, guided by factors such as size, time commitment, and transparency. While compensation can enhance board engagement and professionalism, it must be approached thoughtfully to avoid ethical and legal pitfalls. Consulting legal or tax advisors, adhering to self-dealing rules, and engaging in transparent and documented decision-making are essential steps to ensure governance best practices and sustain the foundation’s credibility.
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