Other Bulletins

Fall, 2005
Business Law Bulletin

Proposed MA Legislation on Financial Integrity of Public Charities
By Kelly A. McCarthy, Esq.

The Massachusetts Attorney General has proposed legislation, filed in the State House in May 2005, that would amend existing law governing public charities in Massachusetts.

The Act has been assigned to the Committee on Consumer Protection and Professional Licensure and has been assigned a bill number - House No. 4347. The proposed legislation, entitled "An Act to Promote the Financial Integrity of Public Charities" ("the Act"), is a revised version of an initial proposal that the Attorney General circulated within the public charities community in 2004. The stated intent of the Act is to strengthen the operations and finances of Massachusetts charities, to enhance financial discipline and controls, and to help rebuild confidence in charities among the public, funders, regulators, and potential board members.

The following is a summary of major components of the Act.

1. Audit Committees for Charities Required to File Audited Financial Statements. A public charity with more than $500,000 in annual gross support and revenue must file audited financial statements with its annual report (i.e., the Annual Financial Statement Form PC) to the Attorney General's Division of Public Charities. Under the Act, public charities required to file audited financial statements must have an audit committee of at least three (3) members, and at least a majority of audit committee members must be board members. The composition of an audit committee also must satisfy the following factors concerning independence: (a) members may not be employees of the charity; (b) members may not receive any additional compensation for serving on the audit committee; (c) no member shall have any material financial interest in any entity doing significant business with the public charity; and (d) no member shall have engaged in any related party transactions within the three years preceding appointment to the audit committee.

The board of a charity may designate any permanent board committee (e.g., the finance or executive committee) to perform the audit committee function, so long as such designated committee complies with the stated composition requirements above. The Act also permits charities that are under the control of another charitable corporation to fulfill the audit committee requirement with a single audit committee of the controlling charitable corporation.

The Act requires the audit committee, subject to the supervision of the board, to be responsible for making recommendations to the board concerning: (a) the selection, retention, and termination of the independent auditor, (b) the compensation of the auditor, (c) measures to ensure that the internal controls are documented by management and evaluated as part of the audit, (d) the process by which the audit committee shall review the audit and the management letter, if any, with the auditor and work with the auditor and management to resolve any issues of concern arising from the audit or the management letter or recommend resolution to the board and (e) measures to ensure that any non-audit services provided by the audit firm conform with the required standards of independence. The Act also requires the audit committee to report to the board on the results of the audit (prior to the board's consideration of and action on the independent auditor's report).

2. Annual Financial Statement Form PC/Verifications and Board Reviews. For public charities with more than $100,000 but not more than $500,000 in annual gross support and revenue, the Form PC must be signed by both the senior board member (i.e., the chair, president, or principal officer of the board) and by the senior officer of the charity (i.e., the CEO, executive director, or the most senior employee). The individuals signing the Form PC each must verify under oath that the board has reviewed and accepted such annual report.

For public charities with more than $500,000 in annual gross support and revenue or holding more than $5 million in net assets, the Form PC must be signed by both the senior board member (i.e., the chair, president, or principal officer of the board) and by the senior officer of the charity (i.e., the CEO, executive director, or the most senior employee); and, the individuals signing the Form PC each must verify under oath that the board has reviewed and accepted such annual report and the audit required to be performed.

The Act does not create any private right of action against any signing officer, board member, director, trustee, or audit committee member based on the required verifications.

3. Excess Benefit Transactions/Self-Dealing. The Act incorporates into Massachusetts law standards set by the "intermediate sanctions regulations" of the Internal Revenue Service (IRS) and prohibits charities from engaging in any act that the IRS determines constitutes or would constitute an "excess benefit transaction." If the Attorney General determines that any contract, compensation arrangement, or transaction is an excess benefit transaction, or constitutes "self-dealing" as that term already is defined under Massachusetts laws, then the Attorney General may bring an enforcement action seeking remedies, which may include penalties equal to the value of fines assessed under the Internal Revenue Code for excess benefit transactions, restitution, and the removal of officers and trustees or other equitable relief.

Charities must retain records concerning any related party transaction for at least four (4) years after the transaction was approved. Such records shall be made available to the Attorney General upon request. Such records shall not constitute public records.

4. Whistle-Blower Protection. The Act prohibits retaliation against any employee of a public charity who files a complaint with the board, directors, trustees, Attorney General, or other government agency concerning: (a) dissipation of the charity's assets, (b) mishandling or misuse of restricted funds, (c) related party transactions, (d) compliance with state or federal reporting requirements, (e) overriding or circumventing of the charity's internal controls, (f) private inurement, and (g) fraud.

Charities must retain records concerning such complaints for at least four (4) years. Such records shall be made available to the Attorney General upon request; and, such records shall not constitute public records. The Attorney General may enforce this section of the Act and seek remedies, which may include compensation and back pay for the employee.

5. Increased Filing Failure Penalties. The Act increases from $500 to $5,000 the civil penalty that may be assessed for violation of a charity's statutory obligation to register or file Form PCs with the Attorney General's Division of Public Charities or other statutory filing violations.

The text of the proposed legislation, as filed, may be found at http://www.ago.state.ma.us/filelibrary/FinancialIntegrityPublicCharities.rtf.

Kelly A. McCarthy is a partner and Coordinator of the Health Law Practice Group at BR&G. She may be reached at kmccarthy@bulkley.com or (413) 272-6306.