SOURCE: Flickr user jk5854
Anyone who does business with anyone will likely know the essential elements of a valid contract (I’ll give you a moment to review your notes). But we don’t often consider how many interconnecting contracts we’re a party to at any given time. There are all of our personal service contracts — mobile phone, Internet, utilities, mortgage, auto lease, and on and on. And there are bundles of contracts involved in whatever business we do — suppliers, banks, employees, and such. A ticket to a performance is a contract, as well.
Current economic theory suggests that the organizations we work in and contract with are, themselves, only bundles of contracts. Says the classic 1976 article by Michael C. Jensen and William H. Meckling:
“…most organizations are simply legal fictions which serve as a nexus for a set of contracting relationships among individuals.”
And yet there’s one essential contract we seem to forget about in the nonprofit arts — the contract that defines our relationship with the public trust. We talk about nonprofit status being ‘granted’ or ‘given’ by the Internal Revenue Service. But really, it’s a binding contract between our organizations and the public.
There’s a valid offer: Our articles of incorporation, bylaws, and financial behavior, all of which promise that we’ll do things only charitable organizations would do.
There’s a valid acceptance: The ‘letter of determination’ from the Internal Revenue Service.
There’s an intention to create legal relations: The stacks of documents and forms we shuttle back and forth with the IRS upon our formation, and in required reporting thereafter.
And, of course, there’s consideration: For the organization, there’s a bundle of fiscal benefits including contributed income free of taxation by the donor, exemption from corporate taxes, exemption from sales taxes, discount postage, and the like. For the IRS, representing the public, there’s the promise of charitable behavior as well as the promise not to do things that aren’t in line with charitable purpose.
That’s a contract. The IRS is, essentially, the trustee representing the public. The governing board is the trustee representing the organization, responsible for proper execution of the promises made.
So often, when I hear arts or service organizations talk about nonprofit corporate status, it sounds like a bundle of benefits they’ve been given because their work is special or worthy. But, really, it’s a contract. It carries consideration for both sides. And therefore, it comes at a cost to the organization (that we hope is equal to its benefits).
There’s a fair amount of discussion at the moment about what the consideration should be for nonprofit status in the arts — that they owe it to the public to be more diverse, more risk-taking, less commercial, more engaged with their communities. But the particular nature of this contractual relationship is that the organization gets to define how their work serves the public trust, and the IRS, its donors, and its supporters get to decide whether that definition is sufficient.
That said, if an organization doesn’t continually express and explain how it lives up to its part of the contract, it leaves the question open for others to interpret. And if an organization, or its board, forgets that it’s part of a binding agreement, it’s stepping dangerously toward breach of contract.
I think it’s a mistake to suggest that Art, what it does on a intrinsic level, can be accessed and evaluated on a business and political level. The IRS’s function is to make sure that tax laws are executed and followed correctly by non-profit art organizations. Their function is to not access or act as a trustee for the public as to what those organizations choose to present as art or as the function of art. The IRS doesn’t have the ability or the knowledge needed to make those type of assessments. Donors and supporters get to decide with their wallets whether an organization’s purpose and the supporters desire are met. The IRS plays no part in that role nor should it ever.
Thanks for the comment. I wasn’t suggesting that the IRS should evaluate the aesthetic quality or any other creative aspect of the organization. But the IRS is certainly a trustee to assess for the PROCESS of a nonprofit, and to ensure it describes it’s work in connection to charitable purpose, and follows the rules of a nonprofit.
I think that making great work is a benefit to the public trust. If that’s your purpose, state it clearly and proudly in your contract with the public. Audiences, donors, and other funders will decide if you should continue. The IRS will decide if you’re following the rules.
Amen, Andrew. This is important conversation that the field needs to have in earnest. And it’s a conversation that needs to include the trustees of arts & culture organizations; who better to serve as a “hinge” between the community and the organization and help to ensure that the public trust contract is fulfilled. Thanks for raising a critical issue.
I’d feel more comfortable if you had said “But the IRS is certainly a trustee to assess for the TAX PROCESS of a nonprofit…”
I understand that it would be more comfortable to say that, but it’s not the case. The IRS reviews MANY aspects of an organization’s process beyond specifically tax-related items. The Form 1023 used to apply for exempt status asks about governance structure, incorporation status, record-keeping, specific policies (conflict of interest and such), exchange with foreign countries, program activity, diversity of income sources, and more. And nonprofit status can be challenged for violating any of those ‘contractual’ agreements.
My concern is regarding the ability or inability of the IRS to challenge what is meant by “program activity”. It’s one thing for the IRS to challenge the proceeds from a NFP theatrical production going to pay for vacations for the organizations personal vacation. It’s quite another thing for them to challenge the content of a production, say one that is politically controversial or even subversive.
I discussed something similar at a conference a few years back — resulting in a bit of ballyhoo. I am in complete agreement Andrew. The NFP status is awarded as a privilege, in exchange for certain quid pro quo expectations — namely, to serve the public good (and, follow the organization’s stated mission when created). Other than the legal duty sitting with a NFP Board of Trustees to ensure mission-centric activities, there is no additional avenue for proving an organization’s ongoing NFP “worthiness”. I am not suggesting that most of our NFP arts orgs do not deserve their status — but without some type of accountability, the already blurred lines between NFP and FP arts orgs get even more out of focus.
Very interesting article, Andrew! I wonder if there is a role for a Business Plan to act as a sort of de facto contract, at least in defining the commitments of the organisation to the public and other parties?