Does My Organization Need D&O Insurance?
Does your nonprofit organization really need to purchase directors’ and officers’ (“D&O”) liability insurance? Yes, it really should, if it wants to preserve itself for the long haul, and if it wants to attract the best talent to its board.
When directors and officers agree to serve on a nonprofit board, they agree to accept the many duties and responsibilities that come with the position. Directors and officers are responsible for setting the organization’s policies and procedures. Board directors also deal with any major complaints or claims against the nonprofit. Some of these duties place them at risk of allegations arising, from disgruntled employees, from regulators, or even from other members of the organization.
It’s common for nonprofit organizations to recruit directors who have passion for the organization’s mission, but who may not have much or any experience serving as board members. So the general duties and responsibilities of running an organization are often less familiar to nonprofit directors than to directors of for-profit corporations. But yet, boards of directors have the broad responsibility of overseeing all programs and services of the nonprofit, which makes them liable for all essential operations of the organization.
According to a recent survey by the Insurance Information Institute, 31% of companies had a D&O claim against them within the previous five years, and 58% of those were nonprofit organizations. Put another way, that means almost one in five not-for-profits had some kind of D&O claim in the past five years!
Aren’t We Covered through our General Liability Policy? Or Elsewhere?
Your organization may already have General Liability (“GL”) insurance. GL covers wrongs your organization may cause to the outside world; it does not cover your organization against employment practices or errors in governance or fiduciary obligations: this is what D&O covers. So if you have General Liability insurance, you are still running a large risk to the organization if the organization becomes liable to employees or certain third parties.
The Volunteer Protection Act, a federal law that protects volunteers against allegations of harm, provides limited immunity for volunteers who don’t receive compensation beyond reimbursement of other expenses. However, the Act doesn’t necessarily cover directors and officers of nonprofit organizations from all actions and decisions in the course of their duties. It also doesn’t cover the cost of defense.
It’s a common misconception that a homeowner’s insurance policy will cover any claim on an individual’s actions on behalf of the board. Homeowners’ insurance solely provides an individual’s property and general liability coverage; ii does not extend to any actions on behalf of the nonprofit’s board. If a nonprofit does not have D&O insurance, and if the claim is against a board member, his or her personal assets could on the line.
What D&O Insurance Covers
D&O insurance covers the organization and its directors, officers, and trustees against actual or alleged wrongful acts in three major areas:
- Employment practices liability: claims resulting from employment-related activities;
- Governance liability: claims resulting from general governance decisions;
- Fiduciary liability: claims resulting from alleged fraud and improper financial oversight, including oversight of employee benefit plans (Employment Retirement Income Security Act [ERISA]) and use of grant funds and donor contributions.
Employment Practices. Of these types of claims, employment practices liability claims are by far the most frequent and, generally, the costliest. Employment-related claims tend to spike during recessions, but generally seem to rise year-in and year-out, due to the fact that employment law has become more complex, and it is much easier for all employers, including nonprofits, to be found liable for not following either the spirit or the letter of the law.
An average employment practices claim that actually has merit will typically cost between $150,000 and $200,000 to ultimately resolve—whether by way of settlement or trial.
The most common types of employment practices claims are the following:
- Sexual harassment;
- Racial and gender discrimination;
- Retaliation, including against whistleblowers;
- Failure to accommodate (as per Americans with Disabilities Act [ADA]); and
- Improper employee classification (exempt/nonexempt and independent contractor/employee).
Governance and Fiduciary Claims. The other two areas of coverage relate to governance and fiduciary liability, i.e., allegations of improper governance decisions, or alleged fraud and improper financial oversight or improper use of funds. While these claims may also be large, they are far less frequent than employment-related claims.
Governance/fiduciary claims include the following:
- Breach of contract (those unrelated to employment, such as leases);
- Discrimination in housing access;
- Improper board elections;
- Attorney general investigations;
- Improper fundraising allegations;
- Improper reporting of revenue;
- Mishandling of donations;
- Failure to report payroll taxes; and
- Mismanagement of employee benefit plans.
The average claim against nonprofit directors and officers costs around $35,000 to settle. One of every ten claims reaches $100,000 before a settlement is agreed upon.
Good Coverage Attracts Good Directors
These types of legal claims can be expensive, and beyond the reach of the resources of many not for profits. Even defending against a spurious claim can be costly, stressful, distracting, and make your board members worry if they will somehow be brought into the claim personally. Sophisticated, experienced not-for-profit board members will think twice about joining a board that has no coverage in place for D&O liability, which could in expose them personally to risk of loss.
Your organization’s mission is critical. You, your staff, and your board would not be spending the hours you do working for the organization’s success if it weren’t. D&O insurance is a relatively small financial investment that preserves your organization’s ability to survive in today’s litigious environment, and to attract the best talent to your Board.