Unlike the incorporating statutes for business corporations, there has been little statutory reform to bring the non-profit incorporating statutes into the 20th century, much less the new millennium.
The standard of care, in general, for directors of non-profit corporations is a subjective one. The common law requires the director of a non-profit corporation to exercise the degree of skill that may reasonably be expected from a person of his or her knowledge and experience. The director of a business corporation, however, is to exercise the care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances, which is an objective standard.
A number of statutes of general application have established legal obligations or liabilities for directors. Section 227.1 of the Income Tax Act, for example, makes directors of a corporation personally liable for the failure of a corporation to deduct, withhold, remit or pay the taxes due on salaries and wages of employees. Similar obligations exist in other statutes in order to protect the interests of the public in general or specific individuals, such as employees.
In a recent case, the Federal Court of Appeal reviewed the issue of the standard of care for directors under section 227.1. The case, Wheeliker v. Canada (1999), 172 D.L.R. (4th) 708 found all three judges of the Court in agreement on the standard of care that directors ought to exercise. This issue was important because a director could escape liability for the unpaid taxes if he or she could demonstrate that he or she exercised the degree of care, diligence and skill … that a reasonably prudent person would have exercised in comparable circumstances under subsection 227.1(3).
Same standard of care for nonprofits
Justice Letourneau commented that the standard of care was not less rigorous for a director of a nonprofit corporation than for a director of a corporation run for profit. He noted that although the standard of care may be inherently flexible, it is “the application of the standard that is flexible because of the varying and different skills, factors and circumstances that are to be weighed in measuring whether a director in a given situation live up to the standard of care established by the Act.” This comment is interesting because it seems to invoke the subjective standard of care (“varying and different skills”) when the statutory provision itself refers to “a reasonably prudent person”, which is more objective. He seemed to confirm that the standard of care, in its application at least, is a subjective one later in the decision when he wrote:
“All directors of all companies are liable for their failure if they do not meet the single standard of care … The flexibility is in the application of the standard since the qualifications, skills and attributes of a director will vary from case to case. So will the circumstances leading to and surrounding the failure to hold and remit the sums due.”
Positive steps to ensure payment required of the directors
The Federal Court of Appeal found that the directors were liable for the sums due. What did the Court consider in arriving at its decision? A key factor was that the directors were aware of the failure to remit the sums due to Revenue Canada, in some cases for up to one year before the corporation was put into bankruptcy. Judge Letourneau placed substantial importance on this knowledge because “This means that, as of learning of the financial difficulties of the Corporation or its failure to remit, all the respondents were under a positive duty to prevent a failure to make current and future remittances and not simply to cure default after the fact.” For directors of other nonprofits, a major lesson to be learned from the Wheeliker case is that the standard of care requires positive steps on the part of directors to ensure that the sums due are paid.
The Court looked to several other facts in making its determination. For example, although the directors were aware of the failure to remit the sums due, the directors continued to sign cheques to pay suppliers. The directors, it seems, must have been aware that the remittances were not being made to Revenue Canada and preferred to pay its suppliers. As a result, evidence that one of the directors instructed that the remittances be made was not sufficient due diligence, given that no follow up occurred.
Delegation is not a sufficient defense
The directors, said the Court, ought to have taken additional steps, such as setting up controls to account for remittances, asking for regular reports from the manager on the ongoing use of such controls and ensuring at regular intervals that the remittances have taken place. “It was not sufficient for the directors to delegate their authority, especially where there was clear evidence of repeated omissions and failures on the Manager’s part. The delegation amounted to nothing less than abdication.”
The Court noted that:
“As sad as it may be, especially with respect to respondents who acted as benevolent directors and gave their time, it is simply not possible to find that they have exercised the degree of care and diligence expected to prevent a failure to withhold and remit when such known failure was allowed to repeat itself uninterruptedly for one year. This Court would be remiss of its duty to enforce the law if it were to condone acts or omissions performed by experienced, informed and warned directors which fall below the standard of care, diligence and skill expected from them pursuant to subsection 227.1(3) of the Act.”
For directors of nonprofit corporations, the Court has issued its own warning that a failure to meet the standard of care will result in personal liability.
Don Bourgeois is an Ontario lawyer who has practiced in the charitable and non-profit area of law and is an officer and director of several organizations. He is the author of The Law of Charitable and Non-Profit Organizations and The Law of Charitable and Casino Gaming, both published by Butterworths Canada. He can be reached by e-mail at don_bourgeois@hotmail.com.
