Article Archives >> Lead Stories >> February 16-28, 2006
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Board Can’t Remove Director
Without Notice Before Action
Board says notice required only for special meeting;
Court dismisses “disingenuous” position
Dr. Albert Ellis, legendary founder of The Albert Ellis Institute, a psychotherapy institute in New York based on Ellis’s concepts of rational emotional behavior therapy and cognitive behavior therapy, has temporarily survived an effort by the Board to remove him as a director.
At a regularly scheduled Board meeting in September, 2005, six members of the Board, not including Ellis, “removed themselves from the meeting room and, after discussion, proceeded to vote to remove” Ellis from the Board. One member abstained. They gave as their reason that the IRS might consider the Institute’s payment of $500,000 for Ellis’s medical bills as an “excess benefit,” which could lead to loss of tax-exempt status and taxes on the Directors. (See Ready Reference Page: “Charities Must Avoid Excess Benefit Transactions.”)
Ellis, who is 92 years of age and retains his status as an employee, sued for a declaratory judgment that his removal from the Board was illegal. He claimed he should have been given prior notice of the proposed action and an opportunity to object. A trial court in New York City has agreed. (Ellis v. Broder, Supreme Court of New York County, No. 603500/05, 1/30/06.)
The New York Not-For-Profit Corporation Law provides that a director may be removed for cause, and also provides that “a notice need not specify the purpose of any regular or special meeting of the board, unless required by the by-laws.”
The by-laws of the Institute provided that a director could be removed at a special meeting upon notice of the purpose. They said nothing about removal at a “regular” meeting. The Board argued that notice was therefore required for removal only at a special meeting and not at a regular meeting.
The Court said it was “disingenuous” to argue that if the Board wanted to remove a director at a regular meeting, no notice would be required, but to remove a director between regular meetings, notice would be required.
The Court noted that neither party had found a case specifically dealing with the Institute’s situation, but said that “absent a statutory provision to the contrary, there is a common-law right for a director whose removal is sought to have notice and an opportunity to defend against any wrongdoing asserted.”
The Court noted that “ironically” the principle was set forth in a text co-authored by Daniel Kurtz, a former Assistant Attorney General for Charities in New York, who is a member of the firm representing the Board in the case.
YOU NEED TO KNOW
This is the kind of litigation that is totally unnecessary and potentially seriously damaging to the organization. The Board argued that nullifying its decision would be “futile” because the Board will just go back and hold another meeting with notice and vote to remove Ellis again. One can only wonder why they didn’t do so between the time their action was challenged and a hearing was held in December or the opinion was rendered at the end of January. It would have effectively mooted the case.
But there were more basic failures in the governing documents. First, the bylaws failed to anticipate the situation and clarify the rules. But more fundamentally, they failed to require notice and some sort of proceeding prior to removing a director. That basic concept of due process would increase the likelihood of fairness and give the Board the opportunity to hear all sides of the issue before making such a significant decision.
Common sense suggests that any Board making such a decision should have as much relevant information as possible. A Board might just learn something that would lead to a different conclusion more beneficial to the organization.
Experience demonstrates that the failure to provide notice and a meeting leads to litigation like this, which is very often lost by the organization. If the votes are there for removal, the notice and meeting will change the ultimate outcome only if the director can make a very convincing argument. Courts are reluctant to overrule internal corporate decisions where there is a modicum of due process. They are not nearly so deferential where the action seems arbitrary.
The Directors acknowledged that removing Ellis from the Board would not cure the excess benefit problem, since a director is a disqualified person for at least five years after the end of service. But they apparently felt that cutting the benefit and removing him from the Board would put them in a better position to retain the Institute’s exempt status and avoid their own personal liability if the IRS comes looking. (See Ready Reference Page: “IRS Proposes New Regulations to Clarify Basis For Revocation of Exemption For Excess Benefits.”) By forcing unnecessary litigation and its attendant publicity, that inquiry now seems more likely.
Article Archives >> Lead Stories >> February 16-28, 2006
