Is Your Board Exercising Its Fiduciary Duty?
In today’s challenging environment, being a director that serves on the board for a for-profit business, a nonprofit organization, or a homeowner’s association can be difficult, even for experienced leaders.
During difficult financial times, directors and officers and their actions are likely to be under increased scrutiny. Because hindsight is always 20/20, it’s important to know what that duty is and what constitutes a breach before taking any action.
What is a Fiduciary Duty?
In a nutshell, directors and officers will have fulfilled their fiduciary duties (and thus be insulated from liability) if they act in an informed manner, with requisite care, and in the best interest of the organization.
The essence of the fiduciary duty is best described in a 1988 Iowa Supreme Court decision stating it encompasses a duty of care and a duty of loyalty. Cookies Food Products, Inc. by Rowedder v. Lakes Warehouse Distrib., Inc., 430 N.W.2d 447, 451 (Iowa 1988). While each of these duties is fairly straightforward to describe, each situation requires careful analysis of the facts.
The Duty of Care
Under Iowa law, the duty of care requires each director to perform their role in good faith and in a manner that he/she believes to be in the best interest of the organization and with the same level of care and diligence that could be reasonably expected from a judicious person under similar circumstances.
The Duty of Loyalty
Unlike the duty of care, which generally concerns a board’s process for making decisions, the duty of loyalty focuses on the director and officer motives and goals. Insider self-dealing and self-interested transactions are common claims against fiduciaries. Directors and board members must refrain from personal or professional dealings that put their own self-interest or that of another person or business above the interest of the organization they represent.
Breach of Duty and the Business Judgment Rule
What happens when decisions are challenged? Directors and officers can be held personally liable for breach of their fiduciary duty, and depending on the facts, they can be sued for actual damages if it is shown a loss occurred as a result of the director’s actions. Punitive damages can be awarded if it is shown the director acted with malice or attempted to defraud the corporation.
Even if a director’s decisions seem like “bad” ones, the law affords certain protections from liability. Directors and officers can avoid being held personally liable for a breach of their fiduciary duty by acting on an informed basis, in good faith, and with the best interests of the business in mind and will often be protected by the “business judgment rule.”
While any board decision can have disastrous consequences, and should be investigated, an honest mistake made in good faith and a breach of duty are not the same thing. A board must understand its actions are likely to be second guessed from time to time and it is important to be proactive in understanding your fiduciary responsibilities.