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May we pay founder royalty and percentage of funds raised?

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May we pay founder royalty and percentage of funds raised?

The founder of our 501(c)(3) nonprofit is active in the field of health and wellness and has licensed one of his wellness programs to us for use in under served populations. We currently pay him an annual royalty based on a percentage of the program income. The founder now wants the fee to be based on a percentage of ALL income of the organization, including all donations. Many of the board are resistant to this. The founder does about 65% of the fund raising. He also uses this same program in his for-profit enterprise and charges much higher prices. I am the executive director attempting to resolve this dilemma in a legal and fair way. The founder says he has consulted attorneys who say this is legal and OK to do. Is it?

Since the founder is a “disqualified person” for excess benefits tax purposes, the strict legal question is whether the total compensation is reasonable for the value of the goods and services that he is providing. If he licenses his program to others in his business at a much higher price, the royalty is presumptively reasonable. If he merely charges individual participants in the program a higher fee than he charges you, but either he or his employees actually run the program, the comparison may not be apples to apples if your employees do the work in the licensed situation. You need to be sure that the license fee is reasonable. (See Ready Reference Page: “Charities Must Avoid Excess Benefits Transactions”)
But he is also asking for more money based on a percentage of total income generated, effectively asking for a commission on his fundraising. It is not illegal to pay a percentage fee on fundraising, but it is considered unethical by professional fundraising organizations. It sounds particularly unethical when based on the 35% of the funds that he does not raise himself. Ultimately, however, the legal question is whether the total compensation is reasonable for the value of the goods or services, and an independent group of your board should make that determination for whatever compensation he receives.
Even if it is not an excess benefit legally, however, it clearly a conflict of interest situation if he is still an officer or director of the corporation and it sounds like he is trying to take advantage of a situation. The board members seem to be justified in being resistant. This is an issue for the board and not for an executive director caught in the middle. The hesitant on the board should talk to him and try to negotiate a fair arrangement. (I am assuming that he is not the sole member of the corporation with the power to remove the directors, which would make the negotiation harder.) They should consider what would happen to your organization if you stopped using his licensed program and went with a different approach. Can you survive without his fundraising efforts? If he has all of the leverage at the moment, they may be willing to pay higher, but still reasonable, compensation now. But they ought to start working to change the situation going forward so that they aren’t so dependent on the work of a single individual.
Tuesday, July 15, 2014


Great Q&A.

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