Is Creation of a Governance Committee Now Considered a Best Practice in the U.S.? (Part 1 )
[Author’s note: The following two-part article, though focused on the topic of governance committees from the U.S. context, it will be of interest to our colleagues in other countries as well. This Part 1 goes below the surface of the question of whether or not governance committees are now a best practice, to examine the reasons behind the clear trend toward their formation. This article is continued in Part 2.]
While it is tempting to try to draw conclusions as to what constitutes a “best practice” when it comes to the proposed formation of a governance committee, applying the “best practice” buzzwords tends to remove the question at hand from the realm of reasoned consideration. It implies that reasonable minds may not differ on the proposition.
Yet, there is ample indication that reasonable minds do differ:
- A 2007 BoardSource survey, referenced below, reports on a trend toward creation of governance committees. It cautions that “common practices, however, are not necessarily best practices, nor should they be interpreted as ideal examples to be adopted by every board.”
- The Council for Advancement and Support of Education (CASE), despite having a natural interest and stake in higher-education supporting foundation management and governance issues, has not made a recommendation regarding the establishment of a governance committee. Importantly, its widely-followed Management and Governance Checklist for Institutionally Related Foundations does not directly address governance committees, according to Colleen Nielsen, CASE InfoCenter.
- At least two well-received books on Sarbanes-Oxley and nonprofits, though discussing at length the governance challenges implied, if not mandated, by Sarbanes-Oxley and listing the usual board committees—executive, finance, audit, nominating, and development/fundraising—and their respective roles, omit any reference to a governance committee as a vehicle for implementing their many governance recommendations.
On the other hand, many leading associations and authorities seem to assume, and in some cases advocate for, the creation of a governance committee. Some notable examples:
Governance and Nominating Committees: Organizations should have one or more committees, composed solely of independent directors, that focus on core governance and board composition issues, including: the governing documents of the organization and the board; the criteria, evaluation, and nomination of directors; the appropriateness of board size, leadership, composition, and committee structure; and codes of ethical conduct.
ABA Coordinating Committee on Nonprofit Governance, Guide to Nonprofit Corporate Governance in the Wake of Sarbanes-Oxley, 2005 – Part II: Sarbanes-Oxley Act and Related Reforms, D. Key Corporate Governance Principles of the Sarbanes-Oxley Reforms for Consideration by Nonprofit Corporations, Principle 4, p. 17.
Increasingly, nonprofits have turned to governance committees to expand on – and even replace – traditional nominating committees. While nominating committees have long been used to identify and recommend new board members, governance committees can assist with ongoing board development.
BoardSource (formerly The National Center for Nonprofit Boards), July/August 1998 edition of Board Member, Volume 7, Issue 7.
Every nonprofit corporation should have a nominating/governance committee composed entirely of directors who are independent in the sense that they are not part of the management team and they are not compensated by the corporation for services rendered to it, although they may receive reasonable fees as a director. The committee is responsible for nominating qualified candidates to stand for election to the board, monitoring all matters involving corporate governance, overseeing compliance with ethical standards, and making recommendations to the full board for action in governance matters.
The International Center for Not-for-Profit Law, “Ten Emerging Principles of Governance of Nonprofit Corporations and Guides to a Safe Harbor” by Thomas Silk, The International Journal of Not-for-Profit Law Volume 7, Issue 1, November 2004.
Part of what makes it tempting to label formation of a governance committee as a “best practice” is that, beginning in 2003, a confluence of three factors—the Sarbanes-Oxley Act introduced the prior year, the outbreak of high-profile charity scandals, and the introduction of Intermediate Sanctions as embodied in IRC 4958—led to an unmistakable trend toward the formation of governance committees, either as separate committees or, as is more common, combined with nominating (or membership) committees.
Over the past two years, governance committees have further multiplied in number as a result of the Internal Revenue Service’s heightened investigation of nonprofit governance practices via the newly re-designed Form 990—the informational tax return that most nonprofits are required to file annually.
The above-referenced 2007 BoardSource survey found that 68% of responding nonprofits have a governance committee—outranked in prevalence by only executive and finance committees. But, there is a caveat: References to percentages refer only to survey respondents, not to all nonprofits. Note the context of the survey, as stated in the report:
This snapshot of board practices is based on responses from 1,126 chief executives and 1,026 board members who completed two different surveys…. Participants were selected from the BoardSource membership, and they serve a broad spectrum of organizations that are well distributed geographically and across IRS classifications, budget size, and mission areas. They are not, however, a statistically weighted, representative sample of the nonprofit sector.
Although nonprofit corporations were required to comply with only two of the many provisions of the Sarbanes-Oxley Act (i.e., limited “whistleblower” protections and the prohibition against document destruction), leadership associations in the nonprofit sector began advocating for the establishment of governance committees with the expectation that Sarbanes-like regulations would soon be developed for and imposed upon nonprofit corporations.
According to the Society of Corporate Secretaries and Governance Professionals:
The not-for-profit community considered Sarbanes-Oxley and developed ‘best practices’ based, in part, upon its precepts. Certain of these best practices have been high profile because they can be directly tied to the dictates of Sarbanes-Oxley.” The effect of Sarbanes-Oxley on nonprofit governance was documented in a number of studies and surveys including:
ABA Coordinating Committee on Nonproﬁt Governance. 2005. Guide to Nonproﬁt Corporate Governance in the Wake of Sarbanes-Oxley. Chicago, IL: American Bar Association.
BoardSource and Independent Sector. 2003. The Sarbanes-Oxley Act and Implications for Nonproﬁt Organizations.
The Urban Institute. 2004. “Submission in Response to June 2004 Discussion Draft of the Senate Finance Committee Staff Regarding Proposed Reforms Affecting Tax-Exempt Organizations.
National Association of College and University Business Officers. 2003. “The Sarbanes-Oxley Act of 2002: Recommendations for Higher Education.” Advisory Report 2003. Washington, DC: NACUBO.
Governance committees would shoulder the anticipated policy-making, oversight and compliance responsibilities triggered by a regulatory expansion.
Several widely-publicized scandals within the charitable sector brought heightened public scrutiny and media attention to how nonprofit boards conducted themselves. Over the years, because of my visibility in the sector via my role as CEO of CharityChannel, I had the opportunity to comment on many of these national scandals, such as the American Red Cross scandal following 9/11, The September 11th Fund, and others, in a number of television appearances, such as Fox News and CNN, and a variety of major newspapers and magazines. As I often said in those interviews, unlike boards of for-profit corporations, charitable boards operate on behalf of the public trust. That trust had been severely breached with major missteps by these and other high-profile agencies.
In 2002, the Internal Revenue Service responded to public and Congressional concern with an addition to the Internal Revenue Code — Section 4958 (aka the “intermediate sanctions” regulations) — to crack down on conflicts of interest, excess financial benefit transactions, and public disclosure issues specific to nonprofits. For the first time, the IRS could levy penalties against individual board directors who acted in a manner that did not comply with the Code.
As more directors became informed about the legal requirements—and risks—associated with board service, directors themselves started to recognize the benefits of appointing a board committee charged with the responsibility of educating the board about its fiduciary obligations and regulatory limitations, and with monitoring directors’ compliance on an ongoing basis.
So, whether or not it is appropriate to label this or any board process a “best practice,” there is no doubt that the clear trend is toward creation of such committees for U.S. nonprofits.