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Governing Nonprofit Organizations
by Marion R. FREMONT SMITH and Marion R Fremont-Smith
Harvard University Press, 2008
Cloth: 978-0-674-01306-3 | Paper: 978-0-674-03045-9 | eISBN: 978-0-674-03729-8
Library of Congress Classification KF1388.F74 2004
Dewey Decimal Classification 346.73064


The nonprofit sector is a vital component of our society and is allowed the greatest freedom to operate. The public understandably assumes that since nonprofit organizations are established to do good, the people who run nonprofits are altruistic, and the laws governing nonprofits have reflected this assumption. But as Marion Fremont-Smith argues, the rules that govern how nonprofits operate are inadequate, and the regulatory mechanisms designed to enforce the rules need improvement.

Despite repeated instances of negligent management, self-interest at the expense of the charity, and outright fraud, nonprofits continue to receive minimal government regulation. In this time of increased demand for corporate accountability, the need to strengthen regulation of nonprofits is obvious. Fremont-Smith addresses this need from a historical, legal, and organizational perspective. She combines summaries and analysis of the substantive legal rules governing the behavior of charitable officers, directors, and trustees with descriptions of the federal and state regulatory schemes designed to enforce these rules. Her unique and exhaustive historical survey of the law of nonprofit organizations provides a foundation for her analysis of the effectiveness of current law and proposals for its improvement.

Table of Contents:


1. The Nonprofit Sector in the Twenty-First Century
The Legal Meaning of Charity
Size and Characteristics of the Nonprofit Sector
Current Challenges for Specific Components of the Sector
Religious Organizations
Health Care Organizations
Educational Organizations
Human and Social Service Organizations
Arts and Cultural Organizations
Foundations and Other Grantmakers
How Extensive Is Wrongdoing in the Sector?
Policy Issues Facing the Nonprofit Sector in the Twenty-First Century

2. A Brief History of the Law of Charities
Evolution of Charities in Early Society
Islamic Foundations
Charities in England
Development of Trusts
Restrictions on Charitable Gifts
The Statute of Charitable Uses
The Role of the Attorney General and the Charity Commission
Regulation of Charities after 1950
Developments in Substantive Charity Law after 1601
Charitable Corporations
Charities in the United States
Development of the Law of Charitable Trusts
Charitable Purposes
Charitable Corporations
State Regulation of Charities
Federal Regulation of Charities: The Internal Revenue Code
Deductibility of Contributions
Federal Reporting and Disclosure Requirements
Congressional Investigations of Charities prior to 1969
The Walsh Commission
The Cox and Reece Committees
The Patman Committee
1965 Treasury Department Report on Private Foundations
Tax Reform Act of 1969
Reactions to the Tax Reform Act from the Nonprofit Sector
The Peterson Commission
The Filer Commission
Congressional Activity after the Tax Reform Act of 1969
Private Foundations
Lobbying by Public Charities
Unfair Competition with Small Businesses
Standards for Exemption of Hospitals
Regulation of Church Activities
Relief for Victims of the Terrorist Attacks of September 2001
The Effectiveness of the IRS as Regulator
Major Expansion of Federal Regulation: Intermediate Sanctions for Excess Benefit Transactions
Other Changes in Substantive Laws after 1970
Changing Parameters of the Definition of Charitable Purposes
Application of the Public Policy Doctrine to Definitions of Charitable Purposes
State Action Limitations on Charitable Purposes: The Subsidy Theory
UBIT and Commercial Activities
Regulation of Public Companies and Auditing Firms in 2002 and 2003
Treasury Department Anti-Terrorist Financing Guidelines

3. Creation, Administration, and Termination of Charities
Charitable Purposes
State Law Definitions
Motives of Donors
Gifts for Charitable and Noncharitable Purposes
Charitable Purposes for Nonprofit Corporations
Requirement of Indefinite Beneficiaries
Definitions in State Tax Laws
The Trust Form for Charities
Creation of Charitable Trusts
Restrictions on the Amount of Charitable Bequests
Duration and Restrictions on Remoteness of Vesting
Accumulation of Income
Administrative Duties of Trustees
Administrative Powers of Trustees
Discretionary Powers of Trustees
Exercise of Powers by Majority of Trustees
Compensation of Trustees
Exculpatory Clauses
Liability to Third Persons
Court Supervision of Trusts
The Corporate Form for Charities
Development of a Model Nonprofit Corporation Act
Creation of Charitable Corporations
Power of the Legislature to Modify Corporate Charters
Restrictions on Holdings of Charitable Corporations
Amendment, Merger, and Dissolution
Accumulation of Income
Internal Organization
Administrative Duties of Directors
Administrative Powers of Directors
Discretionary Powers of Directors
Compensation of Directors
Ultra Vires Contracts
Corporations Formed to Administer Charitable Trusts
Trust Rules Inapplicable to Corporations
Reporting Provisions
The Doctrines of Cy Pres and Deviation
Cy Pres
Application to Charitable Corporations

4. Fiduciary Duties: State Law Standards
Fiduciary Duties of Trustees: Prudence and Loyalty
Duty of Prudence
Investment of Trust Funds: The Modern Prudent Investor Rule
Standards for Investments
Investment of Trust Funds: Diversification
Duty of Loyalty
Liability of Trustees for Breach of Trust
Exculpatory Clauses
Fiduciary Duties of Corporate Directors: Care
Duty of Care
Review of Current Law
The Business Judgment Rule Limitation on Liability
The Duty of Care as Related to Investments
The Modern Prudent Investor Rule
The Uniform Management of Institutional Funds Act (UMIFA)
Fiduciary Duties of Corporate Directors: Loyalty (Fair Dealing)
Duty of Loyalty (Fair Dealing)
Statutory Formulations of the Duty of Fair Dealing
Definitions of Conflicts of Interest
Procedures for Validating Conflicts
Duty to “Mission� and the Cy Pres Doctrine
Prohibition against Loans to Directors
Statutory Relief from Liability
Codification of the Business Judgment Rule
Indemnification, Insurance, and Liability Shields
Procedural Limits on Directors' Liability: Shifting the Burden of Proof
State Prohibitions Based on Federal Tax Laws
Protection of Volunteer Directors from Tort Liability
Proposals for Reform
Duty of Care
Duty of Loyalty

5. The Internal Revenue Code
Permitted Purposes for Tax-Exempt Charities
Basic Requirements for Exemption
The Organizational Test
The Operational Test
Prohibition against Private Inurement
Limitation on Private Benefit
Prohibition against Excess Benefit Transactions Applicable to Publicly Supported Charities
Disqualified Persons
Excess Benefits
Revenue-Sharing Arrangements
Rebuttable Presumption of Reasonableness
Excise Taxes on Disqualified Persons
Excise Tax on Manager
Applicable Organizations
Early Experience Applying Excess Benefit Limitations
Section 4958 and Revocation of Exemption
Restrictions on Private Foundations
Internal Revenue Code Definition of Private Foundations
Governing Instrument Requirements and Termination Rules
Disqualified Persons
Mandatory Distributions
Excess Business Holdings
Jeopardy Investments
Taxable Expenditures
Impact of Chapter 42 on Charitable Fiduciaries
Reconciling Chapter 42 and the Excess Benefits Provisions
Prohibition against Participation in Politicial Campaigns
Restrictions on Lobbying Activities
Unrelated Business Income Tax
Joint Ventures and Taxable Subsidiaries Conducting Exempt Activities
The Role of the Internal Revenue Code in Assuring Compliance with Fiduciary Duties

6. Regulation of Charities in the States
The Courts
The Attorney General
Statutes Enhancing Attorney General's Enforcement Powers
Registration and Reporting Requirements
Power to Conduct Investigations
Required Notice to Attorney General of Judicial Proceedings
Power of the Attorney General over Conversions
The Role of the Attorney General in Interstate Disputes
Charities Operating in Several States
Charities Seeking to Move Out of the State of Origin
Charities Operating Outside Their State of Origin
Standing to Sue to Enforce Duties of Charitable Fiduciaries
Exclusion of the General Public
Standing to Sue Granted to Certain Interested Parties
Review of Recent Standing Cases
Proposals for Reform of Standing Rules
The Power of Visitation: Reserved Rights of Donors and Heirs
Parties to Suits Involving Charities
Necessary Parties
Proper Parties
Statutes of Limitations and Laches as Bars to Actions
Effective State Enforcement Programs
New York
Other Jurisdictions
The Legislature
Supervision by Other State Agencies
Secretaries of State and Corporation Commissions
Departments of Education, Health, and Similar Agencies
Supervision of Bank and Trust Companies
Departments of Tax and Revenue
Regulation of Charitable Fundraising
Proposals for Independent Boards for Charity Supervision

7. The Role of the Federal Government in the Regulation of Charities
The Congress
General Accounting Office
The Treasury
Promulgation of Regulations
Treasury Oversight of Published Rulings
Treasury Inspector General for Tax Administration
Treasury Department Antiterrorist Activities
The Internal Revenue Service
Regulation of Exempt Organizations in the Restructured IRS
Role of IRS Counsel
Commissioner's Advisory Committee on Tax-Exempt and Government Entities
Components of IRS Regulation
Revenue Rulings and Revenue Procedures
Information Releases and Notices
Private Letter Rulings, General Counsel Memoranda, and Technical Advice Memoranda
Limits on Disclosure of IRS Actions
Department of Justice and the Solicitor General
The Courts
Judicial Remedies Available Universally
Declaratory Judgment Procedure on Denial or Loss of Exemption
Appellate Courts
Tax Regulation in Operation
Determinations of Exemption (Form 1023)
Information and Tax Returns
Record Retention
Document Availability and Disclosure Requirements
Audit Process
Appeals Process
Standing to Sue
Other Federal Agencies That Regulate Charities
Federal-State Cooperation

8. Improving the Law and Regulation of Charities
Effect of a Dual Legal System
State Laws Governing Charities and Their Fiduciaries
Enabling Statutes for Charitable Corporations
Duty of Care
Duty of Loyalty
Indemnification, D&O Insurance, and Liability Shields
Cy Pres; Deviation; Amendment Powers
Rights and Duties of Members
Powers of Donors
State Regulation of Charities
Regulation by the Office of the Attorney General
Standing to Sue
Other State Agencies Regulating Specific Charitable Activities
Federal Laws Governing Charities and Their Fiduciaries
Internal Revenue Code Provisions
Recommendations for Changes in the Code and Regulations
Financial Reporting
The Effect of Privatization on Nonprofits
Federal Regulation of Charities: The Internal Revenue Service as Regulator
Proposals to Change the Situs of Regulation
The Role of the Charitable Sector
Organizational Components of the Current Infrastructure
Organizations Monitoring and Studying Nonprofit Activity
Measuring Performance
The Future of the Law and Regulation of Charities

Table 1: State laws governing creation, administration, and dissolution of charities
Table 2: Cy pres doctrine applicable to outright transfers and trusts
Table 3: Fiduciary duties under state laws


Whether you call it civil society, social capital, or the nonprofit charitable sector, this vital and diverse sector deserves the highest quality of attention by democratic institutions, citizens, and scholars. Marion Fremont-Smith provides the single best resource for understanding the issues raised by government regulation of religions, foundations, social services agencies, hospitals, arts organizations, and other parts of the nonprofit sector. While making a compelling argument in favor of the trend toward federal regulation instead of the patchwork of state supervision and neglect that still exists, the book manifests clarity, erudition, and fairness on every page and should help elevate the study of this crucial part of society.
--Martha Minow, Harvard Law School, and author of Partners, Not Rivals: Privatization and the Public Good

Marion Fremont-Smith's Governing Nonprofit Organizations is an impressive work of scholarship that will significantly add to the field of nonprofit literature. There is no other single volume that covers the range of the subjects dealt with in this book. There are general works about the history of philanthropy, the scope and functioning of the nonprofit sector, the economics or sociology of the nonprofit sector, and specific problems of the nonprofit sector, but there is no comprehensive volume which focuses on the history of the law of charities and of governmental regulation of the nonprofit sector, much less one that couples with that history a detailed examination of the problems inherent in the present regulatory structure.
--Joel L. Fleishman, Duke University Law School

Marion Fremont-Smith's Governing Nonprofit Organizations is an important contribution to the understanding of nonprofit organizations. Dealing with their historical setting in a mixed economy, the rationale for their extensive subsidization, and the effectiveness of their regulation and how it can be improved, it will be must reading for trustees, managers, and lawyers in the mushrooming private nonprofit sector, as well as researchers and public policymakers.
--Burton Weisbrod, Northwestern University, and author of The Nonprofit Economy

As an attorney who's spent most of his professional life representing nonprofit organizations, I can say without fear of significant contradiction that this book will be welcomed as an invaluable addition to the literature of the field.
--Robert H. M. Ferguson, Patterson, Belknap, Webb, and Tyler, LLP

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