Filed under: directors, NCUA, The WWR Letter | Tags: directors, fiduciary duties, matthew young, NCUA, officers, wwr letter
The following is an article reprinted with permission from the upcoming Fall 2010 edition of The WWR Letter:
By: Matt Young, Associate
Whether an individual serves on a board of directors for a community theater group, homeowner’s association or other not-for-profit organization such as a credit union, the law in every state imposes fiduciary duties upon these board of directors in the same manner it imposes these duties on the chairman of a Fortune 500 company. Fiduciary duties more broadly refer to two duties: the duty of care and the duty of loyalty. The duty of care standard requires that directors undertake their role diligently, staying informed on the organization’s purposes, goals and activities as well as regularly attending meetings in the same manner as an “ordinarily prudent person.” The duty of loyalty requires that a director avoid conflicts of interest as well as using the officer’s position to further his/her personal interests above those of the organization.
The National Credit Union Administration (“NCUA”) has adopted a proposed rule to clarify these fiduciary duties and provide a uniform fiduciary standard for federal credit union directors. As part of this rule, directors will be required to have or obtain a basic understanding of finance and accounting principles. Moreover, under this proposal, federal credit unions would not be permitted to indemnify its directors for grossly negligent, reckless, or willful misconduct that affect the basic rights of its members. In response to the proposed additions, the Credit Union National Association (“CUNA”) called the prohibition on director indemnification unnecessary and expressed concern that such a prohibition could make it difficult for credit unions to find qualified volunteers to serve on the board. CUNA, however, supported the requirement that all board members have a basic understanding of the finances and balance sheet of the credit unions
they serve.
Despite concerns with these changes, the proposal only reinforces common law requirements that have been codified by a majority of states and offers greater clarity as to directors’ responsibilities. For example, as part of the duty of care as a member of a credit union board of directors, you must be diligent in reviewing the credit union’s affairs. As a financial institution, having a basic understanding of finance and balance sheets is a prerequisite to making sound decisions on behalf of a credit union. After all, an ordinarily prudent person would gain this basic understanding!
This requirement does not require directors to be experts. Similar to most state laws under the proposed rule, directors may rely on attorneys, accountants, financial advisors and other consultants, reasonably believed to be reliable, in analyzing and making decisions in certain matters. The prohibition of indemnification under the proposed rule does not change the landscape of serving as a member of a credit union board of directors. Importantly, this prohibition is limited to grossly negligent, reckless or willful conduct. As it stands in most states,
indemnification for such acts may be limited anyway. Grossly negligent, reckless and willful acts involves egregious actions such as terminating deposit insurance coverage or engaging in acts of self dealing. In these scenarios, the credit union would not be indemnifying its Board and typically, the credit union’s bond coverage for director and officer liability would contain exclusions for such activities. Accordingly, the NCUA’s proposed rules concerning fiduciary responsibility clarifies rather than changes or adds requirements relating to a director’s duties and responsibilities. Credit union directors should view the NCUA’s proposal as a tool to further understand their existing obligation under state law
Matthew Young is an Associate in Consumer Collections; Corporate & Financial Services and Credit Union Groups and is based in the Brooklyn Heights office. Matt can be reached at (216) 739-5726 or myoung@weltman.com.
The following is an article reprinted with permission from the upcoming Winter 2009 edition of The WWR Letter:
Code of Ethics for a Board of Directors: Why It Is Necessary and How to Create an Effective Code
By: Matthew G. Burg, Associate
As this new year brings various challenges to each and every organization, it also brings a heightened scrutiny of what organizations are doing and, more importantly, what their leaders are doing. Leaders are typically held to a higher standard, not just with business decisions but with business values; and not just with professional life, but in their personal life too. Just as a board guides, it must also be guided and held to standards in advancing the integrity of its organization. A critical tool for guiding a board of directors, as well as fostering a culture of honesty and accountability within the organization, is a code of ethics for the board of directors.
Generally, a code of ethics serves to provide guidance to directors to help them recognize and deal with ethical issues, provide mechanisms for reporting possible unethical conduct, and promote the values of the organization. Although a code of ethics ideally addresses issues that regularly arise, no code of ethics can anticipate every situation that may occur. Thus, as a matter of practice, any potential ethical issues not specifically addressed in the code of ethics should be addressed with your organization’s legal counsel.
The following steps provide a general framework for developing an effective code of ethics for your board of directors:
1. Development Team. Prior to drafting a code of ethics for your board of directors, assemble a development team. The team should not only include members of the board but also other members from all levels of your organization who can contribute different and valuable perspectives.
2. Statement of Values. With your newly formed development team, brainstorm and develop a statement of values. The values may be unique to your organization but should also reflect generally accepted values of every organization as well as your greater community. The values should communicate the standard for all aspects of your organization’s programs and operations. Before moving on to drafting the code of ethics, present the statement of values to your board of directors for approval.
3. Elements of a Code of Ethics. Once your statement of values is established, you are ready to draft a code of ethics, which should clearly set forth how the board will put the organization’s values into practice. In drafting the code, write simply and clearly, avoiding legal jargon and making the document as user-friendly as possible.
While the particular elements of your code of ethics may differ, the following standard elements should be included:
• Personal and professional integrity
• Exercise of loyalty, good faith, and fair dealing in all conduct
• Dedication to confidentiality of personal and/or financial information
• Avoidance of real or perceived conflicts of interest
• Adherence to governmental and industry rules and regulations, along with continued education and training to ensure knowledge of new topics
• Equal treatment of organization members, customers, and others to ensure respect, confidentiality, and fairness to all persons
• Full and fair disclosure of financial information in financial statements and public communications
• Confidence that noncompliance or violations of the code will not be tolerated and provide a process for handling such occurrences
Completing the code is only the beginning. The code of ethics will become the board’s guide going forward. It will be a living document that can be dispersed to customers, the media, and others, and may be displayed in your organization to promote the organization’s overall commitment to loyalty, obedience, due care and excellence.
Matthew G. Burg is an Associate in the Litigation & Defense department of the Cleveland office. He can be reached at (216) 685-1111 or mburg@weltman.com.
Resources consulted:
Current Issues in Credit Unions Podcast #29, August 26, 2008, http://ciicu.libsyn.com
CUNA
The Independent Sector
The Ethics Resource Center
Management Quarterly, Developing a code of ethics, by Boudreaux, Greg and Steiner, Tracey; March 22, 2005
I don’t usually talk much about the Podcast on this cite, but we had some excellent discussion yesterday on topics that I know are generating a lot of interest throughout the movement. We had Attorney Joe Melchione (who represented Wings Federal Credit Union in a recent, well publicized transaction) on as our guest and we discussed how a credit union can avoid a hostile takeover. We also talked about what directors must do in terms of discharging their fiduciary duties to their members if such an event occurs.
We also talked about a lot more so if you haven’t heard the Podcast or haven’t listened in a while, please check it out.
Filed under: bank secrecy act, compliance, contracts, credit unions, directors, disaster recovery, liability, seminars
For those of you who were wondering what Rob Rutkowski was up to on the seminar front this fall, the following information should be helpful. Rob will be presenting at the following seminars over the next several months:
September 11-12, 2007
Presentation: CUNA/OCUL Mini-Seminar Series
Topic: Lending Compliance Issues
Contact: Amy Bollman, abollman@cuna.coop
September 18-19, 2007
Presentation: Louisiana Credit Union League New Laws & Compliance Conference
Topic: “Director and Officer Liability”, “Negotiating and Reviewing Vendor Contracts”, “Legal Aspects of Credit Union Accounts”
Contact: Jennifer Green, jgreen@lcul.com
October 2-4, 2007
Presentation: Trabian/FORUM Solutions Partnership Symposium
Topic: “When Does a Credit Union Need Legal Counsel?”
Contact: Kristi Lowell, kristil@forumcu.com
October 20-22, 2007
Presentation: CUNA Volunteer Institute
Topic: “Compliance for Directors”, “Bank Secrecy Act”
Contact: Laura Vodak, lvodak@cuna.coop
November 14, 2007
Presentation: Nebraska Credit Union League
Topic: “Disaster Recovery”, “Dealing with the Death of a Member”
Contact: Amy Shaw, ashaw@nebrcul.org
Robert Rutkowski is a Partner in the Brooklyn Heights operations center of Weltman, Weinberg & Reis Co., L.P.A. He is responsible for managing the firm’s Credit Union department and Corporate & Financial Services Practice Group. He can be reached at (216) 739-5004 or rrutkowski@weltman.com.
When a director or an officer makes a decision on behalf of the credit union, there is always the chance that the decision will later be second-guessed. Suppose, for example, that the credit union decides to change data processors and the new vendor does not perform. Who gets the blame? Another example might be the decision to start a new line of business at a credit union by partnering with a vendor in the sub-prime lending arena. If the vendor and the credit union lose money together, who is blamed for the decision? What are the consequences? What defense does a director or officer have if he or she is sued as a result of a decision made?
The common law has an answer in the Business Judgment Rule (“BJR”). Some states have codified this. In other words, in some states, it is a law on the books that a director can review. One leading case has defined the BJR as:
A presumption that in making a business decision, the directors of a corporation acted on an informed basis in good faith and in the honest belief that the action was taken in the best interests of the company. Aronson v. Lewis 473 A.2d 805, 812 (Del. 1984).
Making a decision on an informed basis means doing your homework. There is a threshold level of due diligence required. A director can rely on reports and opinions from professionals to achieve this. Going back to the vendor contract example, a Board could rely on a memorandum from the CEO describing how the CEO took bids from three vendors and how he or she came to recommend one of the three. The Board can rely on attorney opinion letters regarding the vendor contract as well as an accountant’s opinion as to the financial status of the vendor. The point is that the Board does not have to go at it alone. Indeed, reading reports and using outside opinions helps a Board show that it has made decisions on an informed basis.
Lack of self-interest is another key element. When I give presentations on director and officer liability, I cannot stress enough how bad it is to be self-serving. Let me make it clear here: if you will benefit personally by a decision that you make as a director, you will lose the protection of the Business Judgment Rule. There is a presumption that a director who acts on behalf of a credit union with his or her own interests involved does not act in good faith.
Generally speaking, when reviewing a decision made by a director or officer, the
[C]ourt will examine the decision only to the extent necessary to determine whether the plaintiff has alleged and proven facts that overcome the business judgment rule presumption that business decisions are made by disinterested and independent directors on an informed basis and with a good faith belief that the decisions will serve the best interests of the corporation. 1 Dennis J. Block, Nancy E. Barton, Stephen A. Radin, The Business Judgment Rule Fiduciary Duties of Corporate Officers at 5 (1998)
This is a good idea. We want directors and officers to be able to make decisions on an informed basis, without self-dealing, quickly and efficiently. We don’t want officers and directors to constantly second-guess decisions. Moreover, it’s only fair. As one court stated:
The contrary doctrine seems to us to suppose the possession, and require the exercise of perfect wisdom in fallible beings. No man would undertake to render a service to another on such severe conditions. Percy v. Millaudon 8 Mart. (n.s.) 68 (La. 1829).
So we protect officers and directors to an extent. Another court put it this way: “The business outcome of an investment project that is unaffected by director self-interest or bad faith cannot itself be an occasion for director liability. That is the hard core of the business judgment doctrine.” Gagliardi v. TriFoods Int’l, Inc. 683 A.2d 1049, 1051 (1996).
However, the defense is not ironclad. There have been instances where a court has allowed plaintiffs to second guess the directors. In Litwin v. Allen, 25 N.Y.S.2d 667 (Sup. Ct. 1940), a Board bought debentures for three million dollars. Unfortunately, the purchase agreement allowed the seller to buy back the debentures at their sale price within six months. Thus, if the debentures lost money, the company bore the loss. If the debentures made money, the seller would realize the gain. It really amounted to a case of negligence on the part of the Board. In Smith v. Van Gorkom, 488 A.2d 858 (Del. 1985), the directors of a company sold their company after hearing a 20-minute presentation and failed to read the merger agreement or conduct due diligence on the sale price. To the court, it was a gross example of the Board not doing its homework.
In short, a Board is entitled to rely on outside opinions: accountants, lawyers, auditors, etc. A Board is protected when it makes a decision in good faith without self-interest. If a board does its due diligence but makes a bad decision, the BJR offers the Board protection if things don’t go as planned.
Filed under: bank secrecy act, compliance, credit unions, directors, USA PATRIOT Act
I would submit to you that credit union boards today have high concentrations of credit union members who have been directors of the credit union for a long time. Turnover on a credit union’s board is not usually a problem. I’m not saying that it doesn’t happen, but generally speaking, credit union directors tend to stick with it.
In the last few years, more regulations have come into being requiring director awareness and action. The Patriot Act and the increased regulatory focus on the Bank Secrecy Act are two areas where this is prominent. As with all credit union policies, the board of directors of the credit union needs to approve the credit union’s Bank Secrecy Act Policy. Moreover, the directors need to understand what it means.
There are plenty of new concepts: know your member, member due diligence, risk assessments as to member demographic and credit union geography. You might say: “well, we’ve always known our members.” To a certain extent that’s true for SEG based CUs. However, community credit unions may not have the same closeness and most credit union employees are not used to asking members probing questions about the source of the cash that the members are depositing.
If an examiner catches a director in the hallway and asks him or her about the credit union’s BSA policy, what will the response be? What should the response be? It should probably be something along the lines of: “Yes, I’m familiar with it. I’ve read it and we reviewed it and discussed it as a board before we approved it.”
How does a director help the credit union assess risk? The answer really is just in understanding what constitutes heightened risk. If the credit union has “a large and growing [member] base in a wide and diverse geographic area”, this indicates heightened risk, at least according to the FFIEC. Having “a large number of high-risk [members] and businesses” is high risk too. This includes “check cashers, convenience stores, money transmitters, casas de cambio, import or export companies, offshore corporations, PEPs, NRAs, and foreign individuals.” More obviously, a “large number of international accounts with unexplained currency activity” is going to show heightened risk. See generally: Bank Secrecy Act/Anti-money Laundering Examination Manual Appendix J. FFIEC.
The point is that in the past, a director never had to worry about such things. Hopefully, most directors today are aware of the move toward a risk-based model as to the degree that a credit union has to react in terms of policy to The Bank Secrecy Act and The Patriot Act.
Filed under: directors
Imagine having a job that involves setting the course of a financial institution, supervising a manager, and understanding and approving financial reports, policies and other business. Add in the responsibilities of developing an understanding of regulatory compliance as well as vendor contracts and it’s almost overwhelming. While meetings for this job are generally only monthly, there is plenty of homework in between. What does the job pay? Why nothing of course!
It’s a challenging job, but someone has to do it.
Keeping up on what’s happening in the credit union movement can help a director succeed. Because credit union directors are volunteers, most of them don’t come from the Credit Union Movement. A director might not be aware of the credit union news available to him or her. I would recommend subscribing to Credit Union Times to any director or at least reading the web page and the other sources of news in the Credit Union Movement.
Otherwise, a director might not even hear about things such as the Wings Financial FCU attempted takeover of Continental Federal Credit Union. Credit union nerds like you and me might wonder how that could be and I’m sure that some directors have heard about it. However, directors often have day jobs. It’s hard to keep up.
It’s important then for managers to include credit union news in the information distributed in the board packet. These are, for better or worse, exciting times to be a credit union director. What with the challenges of conversions, purchases, mergers and now hostile takeovers, it’s a unique time in credit union history. Directors, as much as anyone involved in the movement, need to keep abreast of what’s going on in this dynamic era.
Understanding the realities of the Board of Directors’ role within today’s credit union movement & being able to blend their resources with career personnel is vital for a credit union’s success. Boards are accountable for a credit union regardless of how well directors understand their role or responsibility. Next week, Rob will be teaming up with CUNA and the Maryland/DC Credit Union Association to present a seminar on “Board of Director Duties & Responsibilities” on March 21 in Columbia, MD and on March 22 in Washington, DC. The seminar will focus strictly on defining what a Board should be doing and will cover Board of Director’s duties and responsibilities, Board structure, the Director’s job description, working with Credit and Supervisory committees, Board/CEO partnership and Board training. If you’re in the Columbia, MD/Washington, DC areas, you should consider joining us! For more information visit: http://tinyurl.com/243br9.
I first found out about credit unions in 1986. My mother taught high school and she had joined the Lake County Educational Federal Credit Union. The credit union tried to involve young people in learning about money and it was the first financial institution to give me a credit card.
I used the credit union to get car loans and various other types of loans throughout law school and college. Around 1993, I became more interested in how credit unions work internally and I ran for the Board of Directors in 1994. I was elected and served for 4 ½ years, ultimately becoming Board President. When I joined WWR, I had to leave my position, as it would have been a conflict of interest to continue.
When I first joined the Board, I felt that I quickly grasped governance aspects of what we were doing. The financials, however, eluded me. I am far from being a math genius and I had not really read balance sheets before. However, our Treasurer spent a lot of time with me explaining what everything meant and I read a great deal on my own to get to the point where I could read and understand the reports. This hurdle, I believe, is common among directors. It may not always be financial reports. Everyone on a board of a credit union brings his or her own knowledge to the table. However, no one knows everything. There are bound to be gaps.
This is why it is important for a credit union director to realize this as soon as possible and then work to understand whatever it is that is a mystery. If there’s something that a director does not understand, he or she should take the time to learn. To do otherwise presents problems. If a director does not understand a fundamental part of the job, relying on others to cover for him or her, then he or she is doing a disservice to the credit union. Moreover, he or she is doing a disservice to himself or herself and perhaps unwittingly opening up potential personal liability. CUNA’s Volunteer Achievement Program goes a long way to help with this, but a director should also take advantage of seminars in areas where they need help. There are many programs available out there from excellent providers such as leagues, CUNA, CUES and NAFCU to name a few.
