Legislature Sends Bill Amending Not-For-Profit Corporation Law To Governor: Part V, Related Party Transactions

This is the fifth post in our series looking at the bill, passed by the New York State Assembly and Senate on June 16, 2016, to amend the Not-For-Profit Corporation Law (“NFPCL”) [updated: the bill was signed into law by Governor Cuomo on November 29, 2016, and has an effective date of May 27, 2017].  This post looks at the provisions governing related party transactions.

As discussed in our first post, related party transactions are transactions or agreements entered into between the corporation and a “related party,” essentially a person linked to the corporation such that a conflict may exist.  Our first post also noted several exceptions to what is considered a related party transaction.  However, the recently passed bill also includes provisions clarifying how corporations should approach transactions with related parties, as well as how corporations may defend themselves against allegations of impropriety.

The key standard regarding related party transactions is that “no corporation shall enter into any related party transaction unless the transaction is determined… to be fair, reasonable and in the corporation's best interest at the time of such determination.”  This determination may be made by the Board of Directors (“Board”) or a committee authorized by the Board.  Moreover, the importance of this determination cannot be overstated due to the legal presumption it creates.

Under two new paragraphs in § 715, the determination that a related party transaction was “fair, reasonable and in the corporation's best interest at the time” is a complete defense to any action brought by a party other than the attorney general for a violation of the rules on related party transactions.  Accordingly, every decision that could potentially involve a related party should be examined under the “fair, reasonable and in the corporation's best interest” standard before the corporation decides to move forward.

In addition, for claims brought by the attorney general alleging illegal related party transactions, it is a defense that the transaction was “fair, reasonable and in the corporation's best interest at the time” and that, prior to receipt of attorney general’s request for information regarding the transaction, the Board:

(a) ratified the transaction in good faith as being “fair, reasonable and in the corporation's best interest at the time” by majority vote (and if involving a third party with a substantial financial interest, the Board considered other options to extent possible);

(b) documented in writing the nature of the violation and Board’s basis for ratifying the transaction; and

(c) put in place procedures to ensure the corporation’s future compliance with the statute.

Thus, even where the determination is not made at the time of a transaction, it is critical that the Board act to ratify such a decision as soon as possible.

*It should be noted that the attorney general provision, which was added at the attorney general’s request near the end of the bill’s consideration before passage, suffers from apparent drafting errors.  Several legislators have indicated that this provision will be subject to revision in the 2017 session.*

Our final post will focus on the remaining provisions of the new bill.  The full text of the bill is publicly available here: http://legislation.nysenate.gov/pdf/bills/2015/S7913

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