The devil in the detail

A review of governance standards for charities gets Steven Cole wondering whether they represent a “safe start” for the Australian Charities and Not-for-profits Commission or a lost opportunity to better achieve its goals.

The advent of the Australian Charities and Not-for-profits Commission (ACNC) and the high-level principles and objectives that support its establishment have been generally well received by the charitable and not-for-profit (NFP) sector.

The aims of the legislation creating it include: "To maintain, protect and enhance public trust and confidence in the Australian NFP sector; to support and sustain a robust, vibrant, independent and innovative Australian NFP sector; and to promote the reduction of unnecessary regulatory obligations on the Australian NFP sector."

The devil of the ACNC’s success was always going to be in the detail. Concerns have been expressed about:

• The diverse nature of the NFP sector in terms of organisation type, scope of operations and nature of activity;
• The risk of greater regulatory red tape, especially during the transition phases as federal and state or territory legislation and regulations are being aligned;
• The time frames in which the sector needs to bring itself in line with the ACNC reforms and requirements;
• The risk of prospective prudential governance standards "raising the bar" of compliance requirements beyond what might be reasonable given the committees and boards of NFPs are largely populated by volunteers; and
• The scope and nature of prospective financial accounting and reporting requirements.

The ACNC has been circumspect and measured in its approach, engaging in strong community consultation before taking each step forward. Initially, it has:

• Focused its attention primarily on only the 60,000+ entities that have charitable status under our existing laws;
• Allowed reasonable periods for the phasing in of its legislative thrust and for transitioning charitable entities to its new regime, with "velvet glove" encouragement rather than "iron fist" impositions; and
• Sought the support of the Council of Australian Governments to encourage the rationalisation and alignment of existing state and territory laws and regulations with its regime.

In March 2013, the government released proposed governance standards, under division 45 of the ACNC legislation, that are expected to formally come into effect by mid-year. The five governance standards, among other things, purport to:

• "Support registered entities in fulfilling their objectives by providing a minimum level of assurance that they meet community expectations in relation to how a registered entity should be managed."
• "Act as a mechanism that may ... help protect and sustain the NFP sector and maintain and enhance public trust and confidence."

In particular, they purport to set only base, or minimum, governance standards, rather than higher-order or more aspirational standards against which the vast majority entities in the sector already hold themselves accountable.

Standard 1 – Purposes and NFP nature of registered entity

This standard obliges a charitable entity to:

• Ensure it only acts to further its disclosed NFP or charitable purposes;
• Demonstrate that its constituent documents require this; and
• Provide information about its purposes to the public.

However, charitable entities and those who govern them are already generally bound by statute and/or common law to have their objectives and purposes stipulated in their constituent documents, and to not act in a manner that is ultra vires or beyond and contrary to those objects and purposes.

Standard 2 – Accountability to members

This standard obliges a charitable organisation to take reasonable steps to ensure it is accountable to its members and gives its members adequate opportunities to raise concerns about its governance – for example, by holding annual general meetings, providing an annual report, having elections of office bearers and allowing members to propose and vote on resolutions at members’ meetings.

Most charitable entities with a membership base, however, would generally already have embedded in their constituent documents binding provisions that, if complied with, would satisfy this standard.

Notably, this standard appears to only apply to "a registered entity that has members" – for example, an incorporated association or a company limited by a guarantee. It does not appear to apply to "trusts", which generally do not have "members".

Standard 3 – Compliance with Australian laws

This standard imposes a new statutory obligation for charitable entities to comply with more serious laws that already apply to and bind them. Despite the relatively convoluted and technical wording of the standard, it merely obliges a charitable entity to do, or not to do, that which it is already obliged by other laws binding on it.

The need for this apparently redundant requirement arises through technical Australian constitutional requirements.

Standard 4 – Suitability of responsible entities

This standard requires a charitable entity to take reasonable steps to ensure, and satisfy itself on an ongoing basis, that its board and committee members, councillors, trustees, officers and so on have not been "disqualified"*, and if they have been, to take reasonable steps to remove them from office.

Although this governance standard is relatively benign, it will require the charitable entity to introduce some procedural steps to ensure compliance, such as:

• At the time of appointing an office bearer, obtaining a declaration of compliance from this person and an undertaking to inform the entity should he or she ever become "disqualified", as well as searching the records of the Australian Securities and Investments Commission (ASIC) and ACNC to ensure the person is not "disqualified";
• Perhaps on an annual basis, repeating this procedure for all relevant office‑bearers; and
• If a relevant office bearer becomes "disqualified" and does not retire from office on the person’s own volition (which would be the expected norm), taking steps within the ambit of its constituent documents to seek to remove him or her. (A charitable entity might amend its constituent documents now to provide for automatic retirement from office in such a case).

Despite the laudable objective of the standard "to maintain, protect and enhance public trust and confidence in the governance and operation of a registered entity", it remains an open question as to whether the benefit of the outcome (the rooting out of the minuscule percentage of office bearers of entities who are "disqualified" and who have not stepped down from office of their own volition) warrants the procedural inconvenience and cost to all charitable entities of complying with the standard.

Standard 5 – Duties of responsible entities

This standard reiterates the full scope of the usual statutory and fiduciary duties and responsibilities, associated defences and "safe harbours" of directors and officers of corporations. (Protections 1 to 4 of the standard encapsulate, among other matters, the business judgment rule and reasonable reliance defences).

The standard then imposes an obligation on the charitable entity to take reasonable steps to ensure its board and committee members, councillors, trustees, officers and so on meet those duties and responsibilities.

It also requires the charitable entity itself to take reasonable steps to ensure its responsible entities make certain its financial affairs are managed in a responsible manner and do not allow it to operate while insolvent.

Of all five standards, this is perhaps the most controversial, not only due to its subject matter (directors and officers duties and responsibilities) and the sensitivity of that subject matter, but also due to the manner in which it deals with this subject matter.

The standard poses somewhat of an intellectual conundrum. Traditional governance legal logic imposes primary duties and responsibilities on board and committee members, trustees and officers because they are the ones who make and execute decisions on behalf of charitable entities. This logic recognises such entities are usually "virtual creations" with their "hearts and minds" being their board and committee members, or trustees, and their "arms and legs" being their executive officers.

The standard, however, now seeks to impose obligations on the "virtual entity" itself to monitor and ensure compliance of those people who meet to make decisions on how the entity should "think" and "act". If those doing the "thinking" and "acting" on behalf of the entity are not acting in a manner compliant with the duties and responsibilities imposed on them, then it challenges logic to see how the entity itself might "ensure" that they do.

Perhaps it does give the majority of "good" office bearers of the charitable entity extra armoury to root out a member in their ranks who is recalcitrant, but in practice that would usually occur in any event.

Perhaps it also raises new and additional compliance obligations on these other "good" office bearers: to monitor and police the performance of their fellow office bearers and to act in concert with other "good" office bearers on behalf of the charitable entity to root out offending office bearers. If so, then this is a most circuitous route to achieve such an outcome.

Further, the obligations relating to the organisation’s financial affairs being "managed in a responsible manner" and to not allowing the organisation "to operate while insolvent" (as compared with "incur a debt" while insolvent as under section 588G of the Corporations Act 2001) are sure to fuel the fire of pedantic jurists and plaintiff litigants.

The bottom line

Although the "soft entry" approach of the ACNC to its governance standards is respected, the question remains open as to what outcomes the standards really achieve in practice that are not already reasonably achieved through existing legal requirements.

Certainly, the first three governance standards are relatively benign and should not concern most NFP sector participants. However, Standard 4 will impose some additional administrative and cost burdens on charitable entities and Standard 5 does pose an intellectual conundrum that may be difficult to reconcile. It may also create new material risks and uncertainty depending on the legal interpretation of "responsible manner" (in the context of the charitable entity’s financial affairs) and "operate" (in the context of the charitable entity’s solvency status).

All of this leaves one questioning whether the governance standards are a "safe start" by the ACNC or a lost opportunity to better achieve the stated objectives, and a "bridge too near".

*Refers to being disqualified under the Corporations Act 2001 from managing a corporation, or being disqualified within the last 12 months by the ACNC from entitlement to hold office of an ACNC-regulated entity.