Nonprofit organizations should be aware of the applicable law and best practices with respect to their endowment and investment assets. In all but a handful of states, a charitable organization’s board of directors is subject to statutory law governing the management of the organization’s endowment and investment assets. These rules generally impose a statutory duty of care, expenditure rules for endowments, and the standard of care required for delegation of investment management. Best practices for nonprofit organizations also suggest that organizations with significant investment assets adopt an investment policy and a spending policy.
In managing the organization’s endowment and investment assets, boards should ensure that they are in compliance with statutory laws, as well as best practices. Generally, the board’s first step is determining what law applies. In addition to the District of Columbia and the U.S. Virgin Islands, 47 states have adopted the Uniform Prudent Management of Institutional Funds Act (UPMIFA). Florida and Mississippi have adopted the older version, the Uniform Management of Institutional Funds Act (UMIFA), but Pennsylvania has not adopted either of the uniform acts. UPMIFA contains certain rules that apply to the investment and management of an organization’s investment assets and expenditure of its endowment funds. In addition, UPMIFA sets forth rules on the release of restrictions on the use and management of funds.
While a board is still required to act in good faith and exercise ordinary business care and prudence in making investment decisions, UPMIFA updates the standard of care by directing a board to consider investment decisions in relation to the whole investment portfolio, the economic circumstances at the time, and the organization’s charitable purposes, as well as the charitable purposes of the fund. UPMIFA also requires a board to exercise prudence in cost management by allowing only appropriate and reasonable costs. The board has a duty to investigate the information it uses to make investment decisions. In addition, any person who has special skills or expertise is required to use such skills or expertise in making investment decisions.
The board should also be aware of duties that exist under common law, namely, the duty of care and the duty of loyalty. The duty of care requires directors to actively participate in making decisions on behalf of the organization by being reasonably informed, acting in good faith, and exercising the care of an ordinarily prudent person in similar circumstances. The duty of loyalty requires directors to act in the best interests of the organization, including the disclosure of conflicts of interest, avoidance of competition with the organization for business opportunities, maintenance of confidentiality, and avoidance of use of the organization’s assets for personal benefit.
A third duty, the duty of obedience, may also exist. The duty of obedience requires directors to comply with applicable federal, state, and local laws, comply with the organization’s governing documents, and act to advance the organization’s mission and exempt purpose.
Best practices suggest that a board adopt a written investment policy to provide guidelines for adequate financial management. Such a policy should state the investment goals of the organization, keeping in mind that the more specific the objectives are, the more helpful they will be to investment managers. For example, including a measurable return objective and time horizon for achievement of returns will help managers track the achievement of the organization’s goals. The policy should also state acceptable levels of risk tolerance and turnover rate, percentages of portfolio asset allocations with explanations of why each asset class is included and procedures for reassessing the allocations, and procedures for evaluating performance of the portfolio and the investment managers.
A spending policy will also help directors manage the funding of the organization’s exempt purposes while addressing the need to maintain the economic value or purchasing power of the organization’s assets. UPMIFA eliminated the concept of historic dollar value incorporated in its predecessor, UMIFA, and instead gives factors for the board to consider in setting prudent levels or rates of spending for an endowment fund. The board must ensure that the spending policy complies with any applicable restrictions in gift instruments, and the policy should be reviewed as needed, but at least annually.
Directors will best serve the charitable organization by being aware of the applicable provisions of UPMIFA regarding investment decisions and consistently reviewing and updating the organization’s investment and spending policies.
McGuireWoods Nonprofit & Tax-Exempt Organizations Group
Our nonprofit and tax-exempt organizations lawyers provide advice and guidance that enable charities and other nonprofits to operate more efficiently and effectively in today’s increasingly complicated, regulated and competitive environment.