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Controlling the risks of lawsuits.

What you can do to control the risks and costs of being sued.

You need only read the daily newspaper to realize that lawsuits are on the rise. The costs of defending and resolving them also continue to soar.

The most dramatic increase in lawsuits against nonprofit associations, their boards, and their executives in recent years has been in the employment-related area. Employment suits allege a variety of wrongs, such as sexual harassment, wrongful discharge, and discrimination - to name a few. Other significant potential exposures for nonprofit organizations include lawsuits for defamation and copyright and patent infringement.

Controlling the risk of such suits today can be a daunting task for association executives. Here are some steps an association can take to control the rising costs of litigation.

Heeding employment laws

Employment laws are explicit for all businesses, be they profit or nonprofit. Associations have to know about legal restrictions that apply to employment-related relationships.

Employment claims not only are expensive but are the most common type of management-related claim against associations. Employment claims have been increasing substantially since the Supreme Court confirmation hearings of Clarence Thomas in 1992. Since then, according to Equal Employment Opportunity Commission statistics, the number of sexual harassment charges filed has doubled and the amount paid out to settle these charges has tripled.

Examples of actual employment claims illustrate the significant exposure these claims can present:

* A former employee of an association filed suit against the association and one of its officers alleging sexual harassment, wrongful discharge, slander, and emotional distress. In settling the case, the association paid the former employee $60,000 in damages and incurred $35,000 in defense costs. The association's professional liability insurance paid $30,000 of these costs, and the association's commercial general insurance paid the remainder.

* A church was sued by one of its former missionaries, who claimed that the church wrongfully discharged her after she requested a medical furlough for injuries she suffered while working at a mission in Nigeria. The church's professional liability insurance paid $100,000 in settlement plus defense costs of $63,000, less the policy deductible.

* An employee of an association sued the association alleging racial, gender, and disability discrimination; sexual harassment; emotional distress; and assault and battery. The association's professional liability insurance paid for most of the $167,000 in settlement and defense costs, less the policy deductible.

The cost of defending and settling employment suits can be financially devastating. An association needs to protect itself with appropriate employment practices and procedures. In general, treating employees fairly and with respect may help you avoid expensive litigation. Listen carefully to and appropriately address employee complaints. Maintain appropriate documentation.

Particular areas that need to be addressed include the association's procedures for hiring, hearing grievances, evaluating and disciplining employees, and firing employees. Also keep in mind that federal, state, and local statues and state common law may bear on employment decisions. As the law in this area is changing rapidly, it's best to periodically consult with an attorney concerning the association's practices, procedures, and employment-related decisions.

However, even adherence to recognized employment practice guidelines is no guarantee that lawsuits won't be filed. Thus, liability insurance is a crucial part of an association's strategy to control the risk of employment litigation.

Other types of severe claims

Less frequent but sometimes more severe management-related claims made against associations and their staff include claims for defamation, unfair competition, intellectual property infringement, and copyright infringement. The following examples illustrate the exposure these kinds of claims present:

Defamation/unfair competition: A regional society of a national association was sued by one of its competitors for unfair competition, defamation, interference with contractual relations, and violations of the Racketeer Influenced and Corrupt Organizations Act (RICO), a federal anti-fraud act. The basis for the claim was the society's alleged attempts to convince state officials and consumers that the competitor's cleaning techniques were unsafe. Professional liability insurance paid all of the $70,000 settlement amount and reimbursed the society for all of its defense costs of $525,000, less the policy deductible.

Intellectual property infringement: A human resources company sued a personnel management society for trademark infringement, alleging that the society's acronym-styled trademark could be too easily confused with its own. The case settled, and the professional liability insurance paid the $200,000 settlement amount as well as the society's total defense costs of $217,000, less the policy deductible.

Copyright infringement: A computer software company that held a copyright for a computer program sued a hotel association, alleging that the association wrongfully released the software to parties who did not purchase it. The case settled. The association was held not liable under the settlement agreement, but incurred $38,000 defending itself. The professional liability insurance paid for all of those costs, less the policy deductible.

Responsibilities of management

The management of a nonprofit association has a legal and moral duty to discharge faithfully the three basic duties of diligence, loyalty, and obedience.

The duty of diligence requires management to act as prudent people would, using the same degree of care when making business decisions. Prior to making decisions, those in management need to make themselves aware of all the material information available to them to make an informed decision. This duty also requires reasonable inquiry and supervision of association affairs.

Claims asserting a breach of the duty of diligence may include allegations such as

* wasting the assets of the association by making poor business decisions;

* failing to follow established procedures; and

* jeopardizing the association's tax-exempt status by making a poor business decision.

The duty of loyalty prohibits management from "self-interest" activities that would injure or take advantage of the association. It also prohibits management from using the position of trust to further private interests.

Claims asserting a breach of the duty of loyalty may include allegations such as

* unfair gain through personal transactions with or on behalf of the association and

* competing with the association to its detriment.

The duty of obedience dictates that management operate the association's business affairs in accordance with the association's bylaws and the state and federal laws that regulate the business activities of nonprofit organizations. Failure to comply with these technical requirements may subject management to personal liability for the damage thereby caused to the association and, perhaps, others.

Inadequate protection

Current laws do not adequately protect nonprofit organizations against the financial devastation of a lawsuit. Many nonprofit organizations believe that they are safe from the threat of a lawsuit under volunteer immunity statutes. Adopted by nearly every state in response to the insurance crisis in the mid-1980s and increasing litigation, the statutes typically provide that volunteers shall not be liable for damages resulting from the exercise of their judgment in discharging their responsibilities, unless they acted willfully or wantonly.

While immunity statutes appear to provide comprehensive protection, directors and officers need to recognize that they and their associations remain at risk because these statutes do not

* protect compensated officers and employees;

* protect compensated directors;

* protect the association itself;

* protect volunteers accused of acting willfully or wantonly;

* prevent volunteers from being sued and incurring substantial legal fees in establishing that they are entitled to immunity; and

* apply to claims brought under federal law such as the Civil Rights Act, the Americans With Disabilities Act, and the Age Discrimination in Employment Act. These are the most common employment-related claims.

Volunteer protection legislation is pending in Congress that would address one of the weaknesses of state legislation - claims brought under federal law. However, the Volunteer Protection Act of 1995 - if enacted - still would not protect compensated directors, officers, or employees of the association itself. In addition, it would not protect anyone accused of acting willfully or wantonly.

It's also important to note that lack of indemnification puts an individual's personal assets at risk. In many cases, indemnification is not available from an association. Applicable law and the indemnification provisions of the association's bylaws may modify, limit, or even prohibit indemnification. Even if the association is permitted to provide indemnification, it will be of little value to individuals if the association's budget does not allow it to bear substantial legal costs. All of which underscores the need for association professional liability coverage. It's important, however, to know what you are purchasing.

Understanding coverage

Some association professional liability (APL) policies do not extend coverage to the "entity," the association itself. Yet entity coverage is critically important to preserving the financial stability of the association.

Other policies only cover the directors and officers, which means that other members of management - such as senior employees - may become personally responsible to fund their own defense in the event of a lawsuit.

The following is one of the broadest definitions of insured found in an APL policy:

"The Entity, past, present & future, Directors, Officers, Employees, Committee Members, and volunteers, their estates, heirs, legal representatives or assigns."

Since personal liability does not end when the relationship with the association ends, the word past must be part of the definition. Also if an individual insured's relationship with the association begins after coverage is already in place, the word future needs to be part of the definition. Since personal liability also can attach to assets that are left to beneficiaries, it is also important that their interests be protected as well.

When comparing forms of coverage to determine what is covered, look at all the definitions as well as the exclusions. Some definitions may contain exclusionary language that might otherwise appear in the exclusion section of other forms.

Also note the type of defense coverage the insurer provides. Nonprofit directors and officers liability policies have two forms of defense coverage: duty to defend and indemnity. The duty-to-defend policy imposes on the insurer the right and duty to defend its insureds. This gives the insurer the right to appoint counsel to represent the insured and control the defense of the claim. The insurer's duty to defend the entire claim is triggered if there is any allegation in the claim that the policy potentially covers, even if the allegation is false, groundless, or fraudulent.

By contrast, most nonprofit directors and officers policies are indemnity policies and provide that the insurer will reimburse - or pay on behalf of the insured - covered defense costs. Many such policies do not require the insurer to reimburse covered defense claims until the conclusion of the claim.

It is also critically important to know how the policy language addresses coverage. Some policies are silent, which means that coverage may be left to interpretation at the time of a claim. Other policies clearly define the extent of employment coverage either by endorsement or definition.

Factors to consider

No formula exists for determining how much coverage an association will need. However, when trying to determine the best amount of coverage for your association, keep several factors in mind. First, the larger your association, the higher you may want to set your limit of liability. Larger associations appear to be more susceptible to management-related claims and more likely to have multiple claims lodged against them.

Second, consider the comfort level of your management team, as they will be concerned with protecting their personal assets. Third, evaluate your association's past claims experience. Finally, consider the premium and deductibles quoted by your insurer.

Nonprofit associations increasingly are confronting the same kind of lawsuits faced by their for-profit counterparts. In today's litigious society, the need for nonprofit associations to secure financial protection against the devastation of a lawsuit is critically important indeed.

RELATED ARTICLE: CNA's Nonprofit D&O

ASAE members can benefit from comprehensive professional liability coverage offered though an ASAE-endorsed directors and officers liability insurance program with CNA Insurance, Cranbury, New Jersey. ASAE Insurance Company reinsures a portion of the program, which covers claims such as libel and slander, wrongful termination, breach of duty, antitrust, ERISA liability, discrimination, product liability and endorsement, and so forth.

While most larger associations tend to have professional liability coverage, many smaller associations don't because they don't think they can afford it, according to Chet Merritt, vice president of ASAE Services Corp. Unfortunately, says Merritt, volunteer protection laws - which don't even exist in all states - usually don't provide protection for the types of claims most often filed. And if they are covered, says Merritt, the defense costs, which may total from 60 percent to 90 percent of the claim, aren't covered.

For more information about CNA's nonprofit directors and officers liability insurance program, contact ASAE Services Corp., 1575 I St., N.W., Washington, DC 20005-1168; or call (202) 626-2836.

Mary McMillan is assistant vice president of CNA's not-for-profit business team, Middle Markets Group, Cranbury, New Jersey.
COPYRIGHT 1996 American Society of Association Executives
No portion of this article can be reproduced without the express written permission from the copyright holder.
Copyright 1996, Gale Group. All rights reserved. Gale Group is a Thomson Corporation Company.

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Title Annotation:includes related article on CNA Insurance's services
Author:McMillan, Mary
Publication:Association Management
Date:Aug 1, 1996
Words:2107
Previous Article:Instilling ethical conduct.
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