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Community association directors beware! Practical and legal issues regarding director compensation

By

Corporate accounting scandals involving large public corporations periodically shock the nation.  As a result of these scandals, citizens have questioned the roles of corporate board members, officers, and directors.  While most of the concerns have focused on large national publicly-traded corporations, the reverberations go much further.  They even extend to community associations here in Minnesota. 

Many lessons can be learned from some of the issues that have arisen in the wake of major corporate scandals. One such lesson is that there are often restrictions on and/or the outright prohibition of paying compensation to community association directors.

Compensation Prohibited

A reverberating concern is whether board members can be compensated for services that they provide to their community association.  Most community association governing documents strictly prohibit payment of any compensation to board members for their service on the board.  Although compensation is usually prohibited, governing documents do allow reimbursement of actual out-of-pocket expenses advanced by board members.

Surprisingly, Minnesota law does not prohibit paying community association board members.  Minnesota community associations are typically organized as nonprofit corporations under Minnesota Statutes Chapter 317A, the Minnesota Nonprofit Corporation Act. The Minnesota Common Interest Ownership Act, Minnesota Statutes Chapter 515B, requires community associations to be organized as nonprofit corporations. 

Neither Chapter 317A nor Chapter 515B prohibits the compensation of community association directors.  In fact, neither of these laws contain any provisions concerning the payment of compensation to board members. However, most community association governing documents prohibit the compensation of their directors. In fact, most community association bylaws specifically prohibit the compensation of directors.

Despite specific prohibitions against paying compensation to directors, there have been a number of specific situations in which directors have been illegally compensated.  Some examples are as follows:

  • The waiver of assessments in exchange for serving on the board;
  • Paying directors for services that they provide to the association (e.g., paying the treasurer for bookkeeping services);
  • Nonmonetary compensation, including preferential treatment of directors; and
  • Direct compensation simply for serving on the board.

In these situations—and others like them—the board typically attempts to allege a rationale basis supporting the illicit payments or compensation.  For example, boards often claim that “this is the way that we have always done it . . . so it must be legal.”  Other boards have attempted to argue that a waiver of assessments is technically not compensation. 

Clearly, it is compensation if board members receive benefits in exchange for their service as a board member (and which are not available to nonboard members). These arguments will generally fail where the governing documents specifically preclude compensation.  Community association board members should generally not be compensated unless the governing documents specifically allow for compensation or if the governing documents are silent as to the issue of compensation. 

Risks Reversed

In situations in which community association directors may be compensated for their efforts, the broader question is should they be paid?

If directors are compensated, there are risks that must be reviewed, which are not applicable if they are not compensated.  First, directors who receive compensation in excess of $500 per year lose certain protections under federal law.  The Volunteer Protection Act, 42 U.S.C. 14501, does not apply to paid directors.  The Volunteer Protection Act provides broad liability protection to volunteers who serve nonprofit organizations. 

Second, compensated directors lose certain protections under state law.  Specifically, Section 317A.257 of the Minnesota Nonprofit Corporation Act provides, in part, that volunteer directors are not “civilly liable for an act or omission by that person if the act or omission was in good faith, was within the scope of the person’s responsibilities as a director or officer . . . and did not constitute willful or reckless misconduct.” 

Compensation that directors receive for service on an association’s board will likely pale in comparison to the potential liability they may encounter if they relinquish the statutory protections that accompany voluntary service on the board.

These wide-ranging considerations should be viewed through a legal lens and a pragmatic assessment as concerned associations establish, maintain, or modify their relationships with their boards of directors and individual directors.

*Originally published in Hennepin Lawyer