The “corporate status” (i.e. unincorporated or incorporated) of a charity is likely to rank as the most significant factor in determining the scope of trustee liability.
In light of the challenges many charities face as a result of Coronavirus, trustees should carefully examine what the position is with regard to extent of their potential liability. Whilst there are many benefits to unincorporated status, in periods of instability and uncertainty, incorporation serves to better protect trustees from personal liability.
How do charities’ corporate status affect trustee liability?
The extent of trustee liability to third parties is dependent upon a charity’s corporate status:
Incorporated:
If a charity has incorporated status, the liability of trustees is limited to incidents in which they are found to have acted negligently, recklessly or dishonestly and have caused loss or damage to the charity. This includes circumstances where they have breached their trustees’ duties or where, for example, they have been involved in wrongful trading.
Unincorporated:
If it is unincorporated, the charity does not exist as a legal entity. As a result, the trustees themselves will be entering into contracts and holding property/assets on behalf of the charity in their personal capacity. Responsibility for contractual performance therefore falls on the trustees; any claim made by a third party for breach of contract/default on loans etc. will be made against the trustees as private individuals. Trustees are also jointly responsible for debts incurred during their time in office as trustee; an outgoing trustee must be indemnified by the remaining trustees for any liabilities properly incurred. Nonetheless, this exposes trustees to potential claims even after retirement.
Note also that when granting loans, banks may require that the trustees’ liability is limited to the value of the assets of the trust. For more information relating to trustee liability, see a guide published by the NCVO.
We recommend that charities should have in place a trustee indemnity insurance policy. The Charities Act 2006 allows charities to pay for trustee indemnity insurance unless the governing document prevents trustees from doing so. Trustee indemnity policies usually cover omissions or negligence, breach of statutory duty, errors in investment decisions, breach of trust and wrongful trading. They do not usually cover personal liability for contractual claims, financial claims or debts which the charity cannot meet, or offer protection if the trustee has acted recklessly or in bad faith.
What are the financial issues facing charities?
The Coronavirus pandemic has hindered the capacity of many charities to retain sufficient cash flow; social-distancing policies have rendered the usual fundraising activities no longer feasible, trading subsidiaries have either ceased trading or seen their profit significantly decline and the general public are enduring a period of severe economic uncertainty and therefore, may be more reluctant to make charitable donations.
The scope of trustees’ personal liability in circumstances in which a charity is deemed to be insolvent hinge (once again) on the charity’s corporate status.
- Incorporated: the trustees (provided they have acted responsibility) have no personal liability and will only be liable up to the amount of their guarantee in the charity’s governing document (usually a nominal sum of £1 or £10).
- Unincorporated: trustees may be held personally liable for the debts of the organisation if it has insufficient money to pay them.
For further information in relation to assessing the solvency or otherwise of charities, section 4.2 of this Charity Commission note may be useful.
What are the options for incorporation?
An incorporated body has its own legal personality; the law recognises it as an entity in and of itself, separate from its members/directors/trustees. It can therefore enter into contracts, borrow money, be subject to litigation etc.
For charities, there are two primary types of incorporated bodies to choose from:
- Charitable Incorporated Organisation (CIO)
- A corporate structure designed specifically and exclusively for charities;
- Registered with and regulated solely by the Charity Commission. Subject to less regulation than a charitable company;
- The liability of its charity trustees and members is limited; and
- It can either have its members as the only trustees or have a separate voting membership i.e. members who are not also trustees.
- Charitable Company (Limited by Guarantee)
- Regulated by both company and charity law and subject to dual regulation by Companies House and the Charity Commission;
- The liability of its directors/trustees and members is limited. Members of a charitable company are liable, to the extent of their guarantees (usually a nominal sum, such as £1 or £10), only if the company is wound up and a contribution is needed to enable its debts to be paid;
- The Company’s articles must include an asset lock which requires any surplus assets on winding up or dissolution of the company to be applied for exclusively charitable purposes and preventing any surplus from being distributed to its members. This clause cannot be amended without the consent of the Charity Commission; and
- Filing obligations for both Companies House and the Charity Commission – a little more administratively onerous than a CIO.
If your charity would like clear, practical advice regarding its current and future governance arrangements including changing from an unincorporated to an incorporated legal form, please contact our specialist charity team who can provide you with advice and training tailored to meet your needs.