Can A Corporate Officer / Director Loan Money To His Non Profit Organization
In many nonprofits, a time comes when the question arises: should the system have personal loans from lath members? This article does not try to reply that question. It does try to outline — very briefly — some of the choices in how such loans can be made. Utilize this article as a starting betoken for a give-and-take with the board or a word with your personal financial counselor.
Board members accept oftentimes lent crucial funds to their organizations, making information technology possible to get through a temporary cash shortage or go started on a new venture, and accept been paid back promptly. Merely there are also examples in which loans from lath members have led to resentments and accusations, and the loans are non repaid to some or all of the lath members. In curt: a loan from a board fellow member is a risky venture.
This article discusses six types of loans from board members: unsecured loans, secured loans, guaranteeing a loan or line of credit, pooled loans, floating endowments, and issuance of bonds.
For any of the types of loans discussed hither, exist certain to practise the following:
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- Accept legal documents fatigued upwards and reviewed by an attorney for the organization. In addition, each board member lending money should accept the documents reviewed by his or her ain lawyer or financial advisor.
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- The lath should formally vote to take any loans from board members and corroborate the terms of such loans, and any board members lending money should exist excused from the vote.
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- If all or the majority of board members are lending money, the loans and the legal documents should be accustomed by roll-phone call vote of the board and recorded in the minutes.
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- Make sure the lending lath members understand that in bankruptcy or liquidation, lenders who are lath members are considered "insiders" whose loans may be "subordinated" — pushed down to the last in line for payment. Among reasons for subordination: perceived lath mismanagement of the organization.
Very importantly, discussions and conclusion making are likely to exist influenced by loans from lath members. Board members who have lent more than others may experience their opinions are more of import as they are the most financially at run a risk. Others who may not have lent money tend to defer to those who accept. Disagreements that were in one case spirited can become bad-tempered and confusing.
one. Unsecured loans
In a nutshell: An individual lath member (or several lath members) lends money to the organization without collateral.
Example: Each of five lath members individually agrees to make unsecured loans of $v,000 each, at no interest, to be paid back within 120 days.
Be sure to:
Execute (draw upwardly and sign) a loan document for each loan that specifies the amount, the interest due on the loan (if any), when the loan will be paid back (in installments or all at one time), and what recourse (if any) the lender has if the loan is not paid back on time.
Comment:
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- For the organisation: unsecured loans are fast and uncomplicated, specially for small amounts of money.
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- For board members: do not lend more than you could easily afford to lose.
Risks:
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- Failure to repay the loans will likely be resented by board members who have lent money.
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- If the organisation closes and goes broke, other creditors (such as the landlord, the copier lease company) will be repaid before unsecured loans.
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- In some cases, individuals who accept made loans may experience that their opinions are weightier than those who accept not, and board controlling processes may be disrupted.
two. Secured loans
In a nutshell: An private board member (or several board members) lends funds to the organisation to be paid from a specific predictable income, or secured by specific assets of the organization.
Examples:
a. Earlier the annual luncheon fundraiser, a lath member lends $3,500 to the organization with the agreement that he volition be the first creditor repaid from the gross receipts of the luncheon.
b. Ii board members each lend the organization $25,000 with the parking lot (which is fully owned) as collateral.
Comment:
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- Because secured loans are "backed upwards," lenders may feel more than confident they will be repaid and, as a consequence, may be willing to make loans, larger loans, or loans at lower interest rates.
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- On the other hand, an system tin can lose an of import asset over a relatively minor loan.
Be sure to:
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- Act with a great bargain of caution when because secured loans.
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- Practice not use a big asset (such equally a edifice) to secure a small loan.
3. Guaranteeing a loan or line of credit
In a nutshell: The organization approaches a depository financial institution for a line of credit or a term loan, which is guaranteed by (co-signed by) a board member.
Instance: A bank gives the organization a line of credit for upward to $ten,000 and an individual board fellow member agrees to repay the loan if the organization defaults on repayment.
Annotate:
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- A line of credit allows the organization to infringe funds equally it needs them, upwards to a limit allowed by the bank. This method permits a board fellow member to help without actually laying out cash (assuming the depository financial institution loan is eventually repaid).
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- Information technology's easy for disputes to arise if an system has funds in other accounts but refuses to repay the line of credit or has made decisions deemed unwise by the board member making the guarantee.
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- In the event of bankruptcy, the guaranteeing board fellow member may have to honor the guarantee at a fourth dimension when there is no prospect of repayment from the organization.
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- A lath member's guarantee can be secured by a pledge of collateral, but as in a secured loan.
iv. Pooled loan
In a nutshell: A number of board members place $10,000 into a pooled bank account. Two board members lend $2,500 each (or 25 percent each of the full), and five lath members lend $1,000 each (or x percent each of the full). The organization tin can utilise funds from this business relationship, using any i of the three options listed above. If, at the time agreed upon for repayment, in that location is non plenty money to repay the board members, the amount available is repaid proportionately. In this instance, if there were simply $two,000 for repayment, each of the outset 2 board members would get $500 back (25 percentage of $2,000), and each of the five other board members would get $200 back (10 percent of $2,000).
Comment: This arrangement allows all board members to share in the take chances, rather than having to determine which board member would get repaid offset, second, and so on.
Be sure to:
Accept signed loan documents that specify:
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- whether the loaned funds will be used directly or to guarantee other loans,
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- the interest rate and involvement payment schedule (if any),
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- dates for payment(southward), and
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- recourse, if any, that board members accept in the issue of a loan default.
5. A "floating endowment"
In a nutshell: Nigh often used by private schools, lath members (or parents whose children are in the schoolhouse) make unsecured loans to the organisation for a specified period of time.
Example: At the time of a kid's enrollment in the school, his or her parents are required (or strongly encouraged) to make a loan to the school of $2,000, at no interest, which is repaid to the parents at the time the kid leaves the school. These loaned funds are held in a special business relationship and used to guarantee the line of credit obtained by the school.
Annotate:
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- In a way that parents or board members may detect relatively painless, the organization has the ability to obtain a significant line of credit.
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- Craft the organisation so that, if departing parents can't be fully repaid, all parents (non just those departing that yr) share the brunt.
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- The requirement to assist with a floating endowment can be much more than difficult to bear for some parents than for others.
half dozen. Issuing a bond
In a nutshell: A nonprofit can issue bonds to board members and members every bit a way of borrowing funds from those same people. Typically there is more risk to these bonds than those bachelor on the open market, but members, board members, and others may be willing to accept this higher level of take a chance in club to heighten funds for a large investment such as a new wing. In add-on, nonprofits tin issue revenue enhancement-exempt bonds through government entities (a urban center, for example). In such a case, the organization — let's say a local museum or YMCA — issues a revenue enhancement-exempt bail and sells the bonds to the public. (The bail is usually not worth doing unless the bond is for more than $2 meg). The bond is paid back with interest over a number of years (ten or more than) with funds earned in the future.
(Annotation: a common merely mistaken conventionalities is that bonds must be approved by elections. This is true for some bonds, but revenue-based bonds for nonprofits tin can be issued as above without a public vote.)
Comment:
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- Bonds are circuitous transactions that many people experience they cannot understand.
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- Issuing a bond requires expert legal and banking assistance. You may have a volunteer parent or board member with such expertise, but be sure to get an exterior opinion equally well.
Remember . . .
This commodity but describes some ways that loans can be made and accepted. Possibly a more important question is whether loans from board members or others are appropriate at all. If an organization is in serious financial trouble, information technology's unlikely that loaned monies will help solve the problems. (And consider how difficult it might be, in a concluding ditch endeavor, to try to heighten money to pay back board members.) On the other hand, if an organisation is waiting for a guaranteed payment in the future, or if the lath members are willing to make personal investments in the organization, loans tin can help an arrangement get through a temporary difficulty to a brighter future.
Thanks to Paul Rosenstiel of Eastward. J. De La Rosa Investment Bankers for assistance with this commodity.
January Masaoka is Editor of Blue Avocado. This commodity is based on her years of finance consulting to nonprofits, and is adjusted from a department in The Best of the Lath Cafe, which compiles dozens of Lath Cafe columns near nonprofit boards.
Source: https://blueavocado.org/board-of-directors/loans-from-nonprofit-board-members/
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