The practice of providing loans to board members and executives, while infrequent, has created both real and perceived problems for public charities. While there may be circumstances in which a charitable organization finds it necessary to offer loans to staff members, there is no justification for making loans to board members. Federal laws prohibit private foundations, supporting organizations and donor-advised funds from making loans to substantial contributors, board members, organization managers and related parties. Many states
also forbid such loans or allow them only in very limited circumstances.
When a charitable organization deems it necessary to provide loans to an employee—for example, to enable a new employee of a charity to purchase a residence near the organization’s offices—the terms of such loans should be clearly understood and approved by the board. Such loans then must be reported on the organization’s annual information
returns (Forms 990 and 990-PF).
Federal laws prohibit private foundations, supporting organizations, and donor-advised funds
from making loans to disqualified persons.1 The Revised Model Nonprofit Corporation Act states that a nonprofit corporation “may not lend money to or guaranty the obligation of a director or officer of the corporation,”2 and most states allow such only in very limited circumstances
Charitable organizations must report any loans to current and former officers, directors, trustees, key employees, and other “disqualified persons” on their annual information returns (Form 990 and 990-PF). For public charities permitted to make such loans, the IRS generally scrutinizes the transactions to determine whether they qualify as a true loan or some other type of payment. In making its determination, the IRS examines information reported on the Form 990, including the maturity date of the loan, repayment terms, the interest rate charged, any security or collateral provided by the borrower, and the purpose of the loan. The IRS also expects that the organization maintain and be able to provide written documentation of the loan. The financial benefit of a loan that is provided at below-market interest rates must be added to the borrower’s other compensation to determine if the total qualifies as an excess benefit transaction. Any payment that is not determined to be a loan may automatically be treated as an excess benefit transaction.3
These questions – from the Principles Workbook (PDF) – are intended to prompt discussion about the principle, assess the polices and practices of your organization, and encourage your organization to take steps to identify where improvements should be made.