Nonprofit Leaders Need Protection

4 common misconceptions about nonprofit liability risk

SEP 2022

Nonprofit liability risk

There are more than 170,000 charitable and nonprofit organizations in Canada. This diverse group includes:

  • Public charities
  • Private foundations
  • Clubs
  • Service/member organizations
  • Private educational institutions
  • Labour unions
  • Shelters
  • Civic leagues

While the size and types of these nonprofits are extremely broad, they all share one characteristic: the need for liability protection. Unfortunately, there’s a widespread belief that directors and officers of nonprofits don’t have any exposure to personal liability. That, however, is not the reality.

Misconceptions about nonprofit liability risk

There are numerous myths about the exposures nonprofits face. Below are some common misconceptions about nonprofit organizations’ liability risks, and the truth about those risks.

Myth No. 1: Because most directors and officers of nonprofits are volunteers, they are not liable for their actions.

According to the Government of Canada, “directors are not personally liable for the contracts of, or the actions or omissions of, the corporation that they serve because a corporation is considered to be a separate legal person at law.” However, when a director or officer fails to fulfill their duties, they may be liable. According to Volunteer Canada, liability arises when a law is broken, a contract is breached or violated or when an act causes damage to another person (tort). As a result, insurance is needed to protect the organization and its employees and pay for the legal defense of volunteers facing liability claims. Refer to the laws of your province for specific details and exceptions.

Myth No. 2: Nonprofit organizations have a lower risk of litigation losses than for-profit companies.

Directors and officers of nonprofits are actually at higher risk. The problem stems from the fact that many nonprofits:

  • Don’t minimize litigation exposures the way corporations do
  • Don’t fully understand their vulnerabilities
  • Don’t carry the appropriate insurance coverage
  • Don’t routinely perform comprehensive risk assessments
  • Mistakenly believe their D&O risks are covered under another insurance policy
Nonprofit liability risk image

Myth No. 3: Directors and officers can’t be held personally liable.

The truth is that anyone involved in managing a nonprofit organization can be held personally liable for any failures of oversight or misconduct that occur while they are in charge. The organization and its directors and officers can be sued for a long list of issues, including mismanaging assets, harassment, neglect, wrongful termination, breach of duty, mistakes in judgment, misleading statements and improper conduct.

Myth No. 4: The absence of shareholders reduces risk and the need for D&O coverage.

In actuality, any number of stakeholders can file a lawsuit, including donors and contributors, beneficiaries, regulatory bodies and prosecutors, association members, third-party affiliates, vendors, fundraisers and current or former employees.

So what’s the solution to managing such broad liability risk?

    Protection for nonprofit organizations

    The first step in any good risk management effort is prevention. That typically entails well-conceived policies that are written and disseminated to all participants in a nonprofit’s affairs. Those protocols should be reviewed by a compliance attorney, and adherence to policies should be documented and memorialized in a disaster-proof location. Everyone from the highest officials of the organization to the newest volunteers should be educated on procedures and best practices and sign an acknowledgment of their understanding.

    But even with consistent application of best practices, claims against the board, its individual members and executives can (and frequently do) occur. For this reason, all nonprofits should carry some level of D&O liability insurance.

    D&O insurance policies can be written to protect a nonprofit’s board officers and directors and the entire organization from liability claims. D&O liability insurance covers claims that come from management decisions and helps with defense costs, settlements and judgments.

    D&O insurance covers actual or alleged wrongdoing in two main areas:

    1. Governance liability: general governance decisions
    2. Fiduciary liability: alleged fraud and improper financial oversight, including violations of the Canada Pension Plan
    Nonprofit Liability Risk Directors & Officers Insurance

    In addition to D&O insurance, nonprofit organizations should consider the following management liability coverages:

    Employment practices liability insurance (EPLI): A majority of claims covered under D&O policies arise under the employment practices liability banner, which covers claims alleging wrongful acts related to employment. These claims are the most frequent, time-consuming and costly. The most common types of EPL claims include sexual harassment, racial or gender discrimination, retaliation, defamation, wrongful termination, failure to accommodate Canadians with disabilities, and improper classification of employees.

    Cyber liability: Every organization that uses technology faces cyber risk, and these threats get more serious as technology gets more complicated. Cyber liability coverage is vital because organizations must be prepared for a data breach. Cyber policies cover the breach of donor, employee and confidential client data, as well as paper document exposures.

    Employee dishonesty: This coverage (also called crime coverage or fidelity bond) helps replace money stolen by employees. Because this type of fraud typically takes place over a long period of time, a great deal of damage can be sustained by the nonprofit directly, as well as the trust between the community and the organization.

    D&O liability insurance is never a cookie-cutter policy. Every organization faces its own exposures and has specific needs. Review your nonprofit clients’ particular operations, processes and personnel to help determine what mix of protection the leadership and organization need.

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