Recently,
a growing ecosystem of founders and communities seek to establish
mission-oriented organizations that pursue priorities other than mere
maximization of cash inflows or profit. To establish such organizations that
will continue the pursuit of the original mission after the departure of
founders, founding teams must take care to enshrine their original vision in an
organization’s legal structure and documents. Certainly, the survival of a
vision and mission relies on more than an organization’s legal structure and
documents.[1]
However, through what Marjorie Kelly, the Co-Founder of Business Ethics
magazine, characterizes as mission-controlled governance, an organization’s mission
must be enshrined in its governance to guard against mission drift and to
be permanent, regardless of employee departures.[2]
This blog post will explore frameworks for enshrining a socially-oriented
mission in the governance of a nonprofit corporation with 501(c)(3) federal
tax-exempt status and limited liability company (LLC).
Nonprofit
Corporations with 501(c)(3) Federal Tax-Exempt Status
At a glance, 501(c)(3) organizations
do not require stringent mission-controlled governance. To incorporate and
retain their tax-exemption, their founding purpose and continued operational
purposes must be “charitable, religious, educational, scientific, literary,
[or] . . . preventing cruelty to children or animals.”[3]
However, even with these stringent requirements, 501(c)(3) organizations face
the challenges of mission drift and disconnect between wealthy donors and the
communities with whom the organization works,[4]
as well as problems that may arise when a visionary founder departs. These
problems should be mitigated during the establishment of the 501(c)(3) organization
and in its governing documents.
The establishment of a 501(c)(3)
nonprofit organization with a specific state includes filing the articles of
incorporation; writing and submitting bylaws, which detail how the corporation
will be governed; and filing for 501(c)(3) tax-exemption with the Internal
Revenue Service (IRS). While both the articles of incorporation and bylaws
often must contain designated IRS language and language made mandatory by the
state of incorporation’s nonprofit corporation act,[5]
they offer two crucial places to instill mission-controlled governance.
Articles of incorporation request
founding teams to make important decisions that may influence their successors’
ability to later amend the articles of incorporation and to protect the corporation’s
mission and operations. In Michigan, the articles of incorporation pose unique questions to a founder
or founding team. Michigan allows nonprofit corporations to issue stock,
including varying classes of stock. While nonprofit corporations cannot issue
dividends, a founder or group of founders could choose to retain control of a
nonprofit corporation’s mission and direction by maintaining a majority of stock.
This arrangement of protecting an organization’s mission would depend on the
founder(s) and successor owners of the stock remaining loyal to the original
vision and mission. If a founder elects to not issue stock, she must still
choose between operating on a membership or directorship basis, designating
either members or directors as having the sole power to vote and decide
corporate action. Both the membership and directorship basis permit significant
flexibility in ensuring mission-controlled governance through the bylaws.
Bylaws may need to include specific
language under state law and are crucial for establishing mission-controlled governance.
Through bylaws, for example, a nonprofit
corporation may establish the conditions for receiving or forfeiting
membership, the conditions for being named or removed as a director, and voting
procedures. With nonprofit corporations governed on a membership basis, the
bylaws may protect the organization’s mission by establishing a process and
requirements to carefully vet who may become a member. For example,
corporations governed on a membership basis and established to serve a
particular community may limit membership to those who live within a certain
geographical area. Alternatively, a corporation governed on a directorship
basis and established for the same purpose may reserve a certain number of
seats on its board of directors for community members. Also, bylaws may detail
voting structures and assign certain powers; for example, to protect members
from disconnected directors, bylaws may grant members the power to remove a director.
Limited
Liability Companies (LLCs)
Limited liability companies (LLCs)
establish “a business entity separate from its members and liability is limited
to the financial contribution made by the member . . . [who] are the owners of
the company.”[6] Unlike
tax-exempt nonprofit corporations, LLCs pose unique problems and additional
demands for founders and communities seeking to establish mission-oriented
organizations. In particular, directors, managers, and officers of for-profit
enterprises have a fiduciary duty that is largely understood to require profit
maximization,[7] an
obligation that may inhibit their ability to pursue the LLC’s mission.
Mitigating this potential conflict is possible through crucial documents.
Establishing an LLC includes filing articles
of organization and writing an operating agreement. While articles of organization
ask for the LLC’s purpose, much of the opportunity for establishing mission-controlled
governance is dependent on the operating agreement. The operating agreement is
an opportunity for mission-oriented organizations to detail “the obligations,
entitlements, and responsibilities of the members of the LLC and those who
manage the business, including payments and distributions of profits, returns
to investments, and responsibility for control of entity affairs.”[8]
By investing the necessary resources
and time in writing their operating agreement with counsel, LLCs can establish a
mission-oriented framework for relationships between members, directors, and
other stakeholders. Similarly to bylaws for nonprofit corporations, operating agreements
may protect an LLC’s mission by limiting who may be a member or director, or
they may reserve seats for particular community members on the board of directors.
Also, the operating agreement may enable an organization’s stakeholders to act
in manners beyond profit maximization. For example, an operating agreement may
grant its board of directors the ability to allocate a certain portion of
profits to charitable or political purposes, as long as this allocation would
not threaten the LLC’s financial stability. Finally, to protect the original
vision and mission, founders may wish to consider requiring a certain threshold
of votes from members or directors for amending an operating agreement.
By: Stephan Llerena
[1] See Robert E. Quinn &
Anjan V. Thakor, Creating a Purpose-Driven Organization, Harvard Business Review, https://hbr.org/2018/07/creating-a-purpose-driven-organization
(last visited Nov. 16, 2020).
[2] Marjorie
Kelly, Owning Our Future: The
Emerging Ownership Revolution 181–82 (2012).
[3] I.R.C. § 501(c)(3).
[4] Jennifer Ceema Samimi, Funding
America’s Nonprofits: The Nonprofit Industrial Complex’s Hold on Social Justice,
1 Colum. Social Work Rev. 17 (2010).
[5] Alicia
Alvarez & Paul R. Tremblay, Introduction to Transactional Lawyering
Practice 366–67 (2013).
[6] Limited Liability Companies,
Department of Licensing and Regulatory
Affairs, https://www.michigan.gov/lara/0,4601,7-154-89334_61343_35413_35429---,00.html
(last visited Nov. 16, 2020).
[7] Alicia
Alvarez & Paul R. Tremblay, Introduction to Transactional Lawyering
Practice 348 (2013).
[8] Id. at 341.