Monday, August 31, 2015

Should We Incorporate?



Imagine you and a group of friends want to start a charity, church, club, or other nonprofit organization or are considering whether to restructure a currently operating organization.  An initial question you will need to answer is what form the organization will take.  The two most common forms of nonprofit organization are the corporation and the unincorporated association. Organization founders should understand each option in their decision of how best to structure the organization.  These days, most people choose the corporate structure, and for good reason.  Here’s why.

Advantages and Problems of Unincorporated Association Status

Some founders choose to establish an unincorporated association because they are easy to create and provide flexibility.  Most associations do not have to file any documents with a state regulator to be created or dissolved.  Associations may be created or dissolved by the simple agreement of their members.  The association does not have to adopt a governing document, although it should.  A governing document is helpful for organizational purposes and is required before obtaining tax exemption.

Flexibility and ease of creation, however, typically are outweighed by liability risks.  Unless a state statute specifically provides otherwise, unincorporated associations generally have no separate legal existence apart from their members.  Rather, an association is simply a group of people acting together for a common purpose.  Members of an unincorporated association can be held jointly and severally liable for each other’s acts that arise in the context of the association – i.e., personally, and each to the full extent of potential damages sustained by others.  No legal protections limit personal liability for acts performed by other officers, members, or other volunteers acting on behalf of the organization.   Likewise, no legal protections exist for other members when one member acts negligently in conducting association programs.  Indeed, many of the liability issues for unincorporated associations are the same legal deficiencies inherent in a traditional partnership, which gave rise to the development of the limited liability partnership and limited liability company corporate structures.

Additional problems arise for unincorporated associations in states that have not established a law regarding unincorporated associations as legal entities .  While several states do treat unincorporated associations as entities for the purpose of suing or being sued, many do not.  Also, absent a specific statute, an unincorporated association cannot receive or hold property on its own.  Even in states that do regard associations as legal entities, banks and vendors may be wary of doing business with them because they are more familiar with corporations and may be discouraged by the lack of legal guidance regarding associations.

Benefits of Incorporation

What about the other option – incorporation?  Incorporating requires more work at the forefront, including filing the proper paperwork and establishing bylaws.  The initial investment of effort, however, is often well worth the benefit to members and leaders of the organization .  In particular, the statutory guidance and legal protections afforded to nonprofit corporations are much more robust.

Nonprofit corporations benefit from statutory “gap-fillers.”  These laws specify default rules for situations the corporation’s governing documents do not address.  When a question arises, such as whether members can remove an officer without specific legal cause, or the percentage of votes needed for a particular type of action, nonprofit corporation acts provide an answer.  Unincorporated associations lack this statutory framework, which create greater legal challenges when conflict arises.

In addition, personal liability of members, directors, and officers is more greatly limited when the nonprofit organization is incorporated.  Generally, liability is limited to assets owned by the nonprofit corporation, and does not extend to members.   Volunteer directors and officers of corporations are protected by use of the “business judgment rule,” under which they are presumed to make decisions on an informed basis and in good faith .  Except for very limited situations, volunteer directors and officers are not held personally liable for actions performed as part of their leadership roles absent gross negligence or intentional harm.  Leaders may be further protected by provision for indemnification by the corporation and insurance policies covering acts of directors and officers.

Nonprofit corporations have several other benefits over unincorporated associations.  For example, it is generally easier for a corporation to buy and sell property or to do business with a bank because the nonprofit corporation has a clear governance structure, nonprofit purpose, and legal status.  Incorporation may make it easier to obtain certain benefits such as state sales tax exemptions or special nonprofit mailing rates.  And incorporating the organization provides certain trademark protections in the organization’s name, establishing it in the state’s records so that other entities in the state cannot use the same name or one that is so similar as to be confusing.

While unincorporated associations may seem inviting for the founder who is eager to quickly begin doing good, incorporating is generally better for the long haul.  Incorporating from the beginning and developing thorough governing documents can help to establish a solid foundational structure for the organization’s benefit for years to come.

For further information concerning nonprofits, incorporation and other legal structures, please contact one of our attorneys at 312.626.1600 or info@wagemakerlaw.com, or visit us on the web at www.wagenmakerlaw.com.

Wednesday, August 19, 2015

Politics Run Amok? Issue Advocacy and Democracy, Wisconsin Style


Politics Run Amok? 
Issue Advocacy and Democracy, Wisconsin Style
 
A long-standing criminal prosecution of “John Doe” targets finally ended with a massive court decision that harshly criticized both the blatant constitutional violations by government operatives and antics such as “paramilitary-style home invasions.”  The Wisconsin Supreme Court issued its decision in July 2015, providing potent reminders about the importance of free speech to our country’s democratic processes, how damaging government abuses can be, and the continued importance of educational “issue advocacy” carried out by nonprofits. 

Background – Search Warrants in Extremis

The underlying facts are complicated.  The controversy began in 2010, when the Milwaukee County District Attorney initiated a “John Doe” investigation into the financial conduct of staff and campaign supporters of Scott Walker, then the Milwaukee County Executive and now Wisconsin’s Governor.  John Doe probes are investigative legal proceedings to determine whether a crime has been committed and, if so, by whom.  This investigation triggered a second John Doe probe to root out allegedly illegal campaign “coordination” between Walker’s staff (during his 2012 gubernatorial recall election) and individuals involved with certain issue advocacy groups.  The term “issue advocacy” typically means educational efforts to raise public awareness about various public policy topics, usually carried out by nonprofit organizations.  Depending on the issues involved, such efforts may intersect with politics, such as environmental causes, pro-life, pro-choice, animal rights, and fiscal responsibility. 

A state judge later authorized the John Doe proceeding and granted a secrecy order covering the investigation.  By August 2013, court permission had been granted to commence John Doe proceedings and secrecy orders in five Wisconsin counties.  A special prosecutor was appointed to oversee the investigation.  By October 2013, 29 subpoenas had been issued, compelling the production of documents relating to coordination between issue advocacy groups and Scott Walker’s campaign committee.  Search warrants were issued for the homes of two individuals and then were executed in pre-dawn hours.  

As the Wisconsin Supreme Court’s decision reflects, the scope of such searches was disturbing, to say the least:

The breadth of the documents gathered pursuant to subpoenas and seized pursuant to search warrants is amazing. Millions of documents, both in digital and paper copy, were subpoenaed and/or seized. Deputies seized business papers, computer equipment, phones, and other devices, while their targets were restrained under police supervision and denied the ability to contact their attorneys. The special prosecutor obtained virtually every document possessed by the Unnamed Movants relating to every aspect of their lives, both personal and professional, over a five-year span (from 2009 to 2013). Such documents were subpoenaed and/or seized without regard to content or relevance to the alleged violations. . . .  As part of this dragnet, the special prosecutor also had seized wholly irrelevant information, such as retirement income statements, personal financial account information, personal letters, and family photos.

State ex rel. Two Unnamed Petitioners v. Peterson, 363 Wis.2d 1, 38 (2015).


Judicial Relief – Free Speech Prevails

In the weeks following this raid, several of the targeted individuals (identified as Unnamed Movants) filed motions to quash the subpoenas.  After extensive machinations by various trial court judges, the litigation reached the Wisconsin Supreme Court for a decisive ruling.  The Court first resoundingly affirmed the critical First Amendment principles at stake, observing that free speech is a foundational principle of democracy.  The Court then centered on political speech, as “integral” to our government’s operation because it allows for the exchange of ideas.  Political speech thus must be afforded the highest level of available legal protection.

The Court required that the statutory language at issue be “closely examined,” particularly since the law was criminal in nature and addressed an area “permeated by First Amendment interests.”  The Court further recognized that limited regulation is allowed within the political campaign finance context, but only with respect to disclosure and reporting requirements and contribution limits.  While such limitations may be important for minimizing corruption, they should not trump free speech values.  Indeed, such anti-corruption goals cannot justify regulation of all political speech. 

Rather, as previously established by the U.S. Supreme Court, campaign finance regulation is permitted only for “express advocacy and its functional equivalent,” that is, speech directly related to political campaign advocacy.  But such regulation is not allowed for “issue advocacy,” i.e., speech not directly related to political campaigns.  To avoid potentially dangerous “chilling effects” on free speech resulting from the inevitable tension between these categories, a “close fit” is therefore required between a government’s means (its laws) and its ends (to avoid campaign finance corruption).

In this case, the “fit” was far from close.  Relying on “political purposes” and “coordination” statutory terms, the special prosecutor claimed a criminally illegal “coordination” between the Unnamed Movants and political campaign activity as the crux of his case.  The Wisconsin Supreme Court gave little credence to such arguments.  The Court ruled that both terms were unconstitutionally overbroad and vague, in violation of both the federal and state constitutions.  As the Court explained, people “of common intelligence must necessarily guess at [the law’s] meaning and differ as to its application,” making the law legally unacceptable.  Id. at 47 (quoting Citizens United v. Fed. Election Comm’n, 558 U.S. 310, 339 (2010)).  Particularly within this case’s criminal context, such vagueness clearly could not pass constitutional muster.

Granting full relief to the Unnamed Movants, the Court further observed that the Wisconsin campaign finance law was “labyrinthine” and otherwise constitutionally defective.  Sadly, two dissenting justices argued that campaign finance considerations were sufficiently compelling to warrant lesser First Amendment protections than accorded by the court majority. 

Thankfully, the Unnamed Movants’ First Amendment rights ultimately prevailed.  As the U.S. Supreme Court ruled nearly a decade ago, and as the Wisconsin Supreme Court echoed, “Where the First Amendment is implicated, the tie goes to the speaker, not the censor.” Fed. Election Comm’n v. Wisconsin Right to Life, Inc., 551 U.S. 449, 474 (2007).  May our government’s leaders remember this judicial admonition as nonprofits continue to engage in issue advocacy and other vigorous exchanges of ideas, not only to advance public policy goals but also to uphold our country’s democratic values.

For further guidance on nonprofit issue advocacy and related political activity implications, please contact an attorney in our law firm at info@wagenmakerlaw.com or 312-626-1600.








Tuesday, August 11, 2015

Congress Approves Form 990 6-Month Auto-Extension


Nonprofits: mark your calendars for 2016 – well, actually soon thereafter.  Starting with tax years that begin after December 31, 2015, IRS Form 990 filings will be eligible for a longer automatic extension of the submission deadline.  Translated from IRS-speak, that means 2016 tax returns filed in 2017 are eligible for the extension. 

On July 31, 2015, President Barack Obama signed an extension of the highway funding bill into law.  The legislation primarily ensures that federal government will continue to reimburse states for highway and mass transit projects.  However, the new law also modifies the due dates for several tax return filings, including the Form 990 series annual information returns for tax-exempt organizations.

Under the current system, nonprofits may obtain a 3-month automatic extension for Form 990 filings simply by filing IRS Form 8868 before the initial due date.  The Form 990 filing due date is four months and fifteen days after the organization’s fiscal year-end (e.g., May 15 for calendar fiscal years, and November 15 for fiscal years ending June 30).  For an additional three-month extension, nonprofits must make a second filing – this time to ask permission for such additional extension and to demonstrate “reasonable cause” therefor.  Given the IRS’s beleaguered condition these days, it can be quite challenging to garner any assistance with such requests.  Further, since the penalties for late Form 990 filings can be quite onerous (measured on a per-day late basis), it is generally best to just get the Form 990 filed by the initial due date or no later than the available automatic 3-month extension.   

The new law brings welcome relief:  the IRS will automatically grant a 6-month extension for 990 filings, upon timely submission of such request.  Accordingly, for organizations with a calendar fiscal year that seek such extension by the initial due date of May 15, their filing deadline will effectively change to November 15.  Nonprofit organizations thus have good reason to rejoice in Congress’ generosity toward their IRS Form 990 filings!

For further guidance on 990 filings and other nonprofit legal matters, please contact one of our attorneys at 312.626.1600 or info@wagenmakerlaw.com or visit us on the web at www.wagenmakerlaw.com.

Friday, August 7, 2015

New Rules for “Exempt” Employees


More employees may soon qualify for overtime. In newly proposed rules under the Fair Labor Standards Act (FLSA), the Obama Administration aims to substantially increase the minimum salary requirements for qualification as an “exempt” employee.  The new limits should concern both nonprofit and for-profit employers alike, as the current salary threshold is $23,660 and the proposed rules more than double this amount.  Under the proposed rules, an employee must earn at least $50,440 per year to qualify as “exempt” and therefore not be subject to otherwise mandatory overtime requirements.  Exclusions may apply for certain nonprofit activity, but all employers need to understand the proposed rules’ implications and remain attentive to further developments. 

Background:  FLSA Employee Classification – Exempt Versus Non-Exempt

The proper classification of employees for FLSA purposes is an ongoing consideration for many nonprofits.  The FLSA imposes significant requirements for non-exempt employees, including minimum hourly wage requirements, “time-and-a-half” overtime pay obligations for more than 40 hours worked per week, and recordkeeping requirements to comply with the foregoing.  An employer’s misclassification of its employees as exempt can result in serious liability under the FLSA when an employer fails to properly pay overtime wages and related penalties.  Under the Department of Labor’s (DOL) longstanding rules, the test for determining whether an employee is exempt is three-fold. 

First, an exempt employee must perform a specific type of work.  Exempt employees include only executives, administrators, professionals, and certain computer or outside sales employees.  However, title alone does not classify the worker as exempt; the DOL maintains guidelines for exempt classification under each of these types of work.  While factors differ for each, the guidelines generally focus on the employee’s primary duty.

Second, an exempt employee must be salaried.  Workers paid by the hour are generally treated as non-exempt.  An exception occurs only if an employee is highly compensated – that is, receiving compensation of over $100,000 per year when considering certain bonuses and other compensation, with at least $455 per week of this compensation being salary or fees.  In that case, the type of work and salary requirements do not apply.

Third, and at stake in the new proposed rules, is a requirement regarding the amount of the salary.  Currently, an exempt employee must be paid at least $455 per week ($23,660 per year).  This amount has not been updated since 2004.  Notably, the current rules do not provide for inflation or other automatic annual adjustment.

Some categorical exclusions may apply.  For example, as explained more fully below, certain employers with annual gross “business” revenues of less than $500,000 may be excluded from FLSA coverage.  In addition, some local churches and similar religious institutions have argued that the FLSA does not apply to them because they do not engage in interstate commerce (a legal prerequisite for FLSA applicability).  However, serious problems exist with this argument because they usually conduct interstate business activities through the internet and other avenues.

New Rules Proposed for Salary Element

The DOL released its newly proposed rules on July 6, 2015.  The rules increase the annual compensation requirement to the 40th percentile of average earnings for full-time, salaried workers.  For 2016, this amount is $970 per week ($50,440 per year).  For a full-time employee working an average of 40 hours per week, this translates to approximately $24 per hour.  The compensation required for an individual to be considered a “highly compensated employee” – and therefore exempt regardless of type of work – also increases under the proposed rules.  Additionally, the proposed rules would automatically update the foregoing amounts by linking them either to earnings percentiles or to changes in inflation.

As with the current rules, the proposed rules do not include any geographic modifier to account for differences in cost of living and average salaries from region to region or from urban communities to rural communities.  Nor do they include any adjustments based on differing career fields (e.g., a lawyer, a teacher, and a restaurant manager must all earn salaries at or above the threshold before being treated as exempt under the FLSA).  The increase in the compensation amount to approximately double the current amount would be immediate upon the effective date, with no gradual increase over time to allow organizations to adjust their practices.  The lack of distinctions and the abrupt shift make the proposed rules highly problematic. 

Applicability of Proposed Rules on Nonprofits

As stated above, nonprofits should note that the new rules are only proposals at this point.  The DOL is currently accepting public comments on the proposed rules at www.regulations.gov (Rule Identification Number 1235-AA11) until September 4, 2015.  Some legislators and others have called for an extension that would change the deadline to November 3, 2015, arguing that the proposed rules may significantly affect businesses and that organizations will need time to thoroughly review the proposed rules.  As of August 5, 2015, over 1,200 public comments had been filed, including about 105 that specifically referenced nonprofits (approximately 80 of which were letters from local divisions of the YMCA seeking the two-month extension).

Second, while there is no explicit exemption for nonprofits, the FAQs from the DOL (available online) indicate that many nonprofits are not covered by the FLSA because it only applies to organizations with more than $500,000 in annual business revenues.  The DOL has indicated that only business activities over $500,000 determine coverage:  In determining coverage, only activities performed for a business purpose are considered and not charitable, religious, educational, or similar activities of organizations operated on a non-profit basis where such activities are not in substantial competition with other businesses.”  It is possible that many nonprofits will not be subject to the new FLSA salary requirements since they do not engage in substantial “business” activities. 

While the DOL response is encouraging to a certain extent, it may prove challenging in application.  Nonprofits will need to consider not just their overall annual revenues but also each activity that brought in those revenues. For example, a nonprofit religious radio station will need to assess whether each of its revenue-making activities is or is not in substantial competition with for-profit radio stations.  Many nonprofits engage in activities that may in fact “compete” with businesses offering similar services, such as child care, tutoring programs, sports activities, fine arts, and a plethora of other activities, so they may in fact be covered by the FLSA’s new rules.  Nonprofit supporting organizations that turn over all revenues (e.g., charitable thrift stores) to a specific supported charity may also have trouble determining the applicability of the new rules.  Notably, hospitals, schools, and residential programs for the care of the sick, elderly, or mentally ill are covered by the FLSA, no matter their total revenue or its sources.  In practical terms, the DOL’s guidance regarding business activities is of limited value to these types of organizations.

Recommendations for Nonprofit Leaders

If approved, the new proposed rules could become effective late this year or in early 2016.  Some have asked for an extension of the public comment period, so the timeframe for implementation could be delayed further.  However, with no phase-in time to adjust practices, nonprofits should be prepared to act quickly if the proposed rules are finalized as proposed.  Here are some key considerations for what lies ahead. 

First, nonprofit management may wish to adopt new time-keeping methods, such as tracking all workers’ hours.  Thorough time-keeping may contribute not only to legal compliance (in case persons understood to be exempt are later determined to be non-exempt), but also to improved accountability and project management. 

Second, be attentive to written job descriptions.  Documentation is important for the “type of work” first element of FLSA applicability.  And it likewise may well contribute to employee accountability and other workplace improvements.

Third, salaries may need to be increased in order to keep employees exempt.  Alternatively, additional staffing may be warranted for positions that normally require more than 40 hours for one employee and are paid at levels lower than the newly proposed salary threshold.  Still another alternative is for nonprofit leaders to take a hard look at their overall staffing and related financial needs.  E.g., in what areas can work be made more efficient?   Should certain (or all) employees be encouraged to work no more than 40 hours per week?  If not, what due diligence is warranted for compensation evaluation in connection with potential salary increases?  Where can the funding be obtained for increases? 

Fourth, “volunteering” for overtime is not an option.  As a legal matter, extra time that employees spend on the job for the same type of work as they regularly perform cannot be treated as volunteer service; wages must be paid.  While nonprofit workforces often have highly dedicated and skilled nonprofit workers who work long hours, these hours may result in overtime wage obligations.

Fifth, ignoring these new rules (and accompanying state counterparts for violation of non-exempt employees’ wage rights) is not an option, either.  Employees whose rights are violated may generate massive organizational liability, especially if a now-positive employment relationship later sours. Penalties are extremely high for violations, including possible personal liability for directors and officers.

Sixth and last, nonprofit leaders should consider filing a public comment, using the www.regulations.gov link, and explaining the detrimental effect on their organizations.  The process is quick and simple.  Now is the time to speak up!

In summary, the new FLSA rules – if enacted – may cause significant increased costs and other headaches for nonprofits.  For further guidance on FLSA’s applicability to nonprofit organizations and other nonprofit legal matters, please contact one of our attorneys at 312.626.1600 or info@wagenmakerlaw.com or visit us on the web at www.wagenmakerlaw.com.