March 06, 2003

A Guide to Creating Employment Agreements That Protect Both Leaders and Their Charities

He was an executive director who made his career by leading one nonprofit organization for the past 20 years.

The board members, however, while appreciative of his efforts, wanted a change in direction.

But their hands were tied, says Sandra Pfau Englund, a lawyer in Alexandria, Va., who specializes in nonprofit clients and represented the board in this case. With no evaluations of the executive ever completed, or job description drafted, the trustees could neither enforce performance standards nor dismiss him. Worse, the executive director was older than 50, prompting a possible age-discrimination complaint if they couldn't prove firing with cause.

The board's solution was to draft an employment contract that included a job description, performance incentives, an annual evaluation, and a termination clause. One year later, the board and executive director mutually agreed that the executive should resign.

As was the case with the nonprofit executive, employment contracts, when properly negotiated and constructed, benefit both the organization and the staff, say lawyers who help charities create those agreements. And yet, few nonprofit groups strike such deals with their leaders: According a survey released in 2000 by the American Society of Association Executives, only about half of all charity leaders work under employment contracts. A 2001 survey by the Association of Fundraising Professionals found that even fewer executive directors -- only 27 percent of those surveyed -- have employment agreements.

Employment contracts can specify compensation, health-care benefits, vacation days, even perks. But just as important are "big picture" elements -- the vision of the organization, for instance, and a system for overseeing the daily administration of the organization.

As chief counsel to the American Society of Association Executives in Washington, Jerald Jacobs says he sees a strong desire by boards to formalize the way they deal with their groups' leaders -- even though such contracts remain more popular in the business world.

"I always maintain a contract is always as valuable to the organization as to the individual," he says. "A contract promotes stability and continuity. It helps guide the staff and volunteers when the road gets rocky -- what do we do if we are even thinking of replacing the CEO? It spells it all out."

Also, he notes, employment contracts can protect the assets of an organization, such as donor lists and other information stored on the group's computers, by including noncompete and confidentiality clauses.

Michael Bisesi, director of the Center for Nonprofit and Social Enterprise Management, an academic department at Seattle University, says he's surprised at how few nonprofit organizations take advantage of employment contracts. An at-will arrangement -- in which employees work at the will of the employer, and can be fired without notice and for any legal cause -- protects neither the organization nor the executive, says Mr. Bisesi, who worked as a nonprofit executive for a decade.

"Just the other day I was talking with a board president who is having a problem with the executive director of her organization," he says. "This executive director has poisoned the well of the staff against the board, quit and then came back, and yet the board has cold feet about firing him." Mr. Bisesi says that without a letter of hire, job description, paper trail of evaluations and, especially, an employment contract for an executive director, no leader can be forced, not even by the board, to follow the group's goals.

Let's Make a Deal

Usually, says Mr. Bisesi, executive directors make the initial request for an employment contract -- which he calls a sign of strong leadership.

Last year Marty Wall, executive director of the Association of Schools and Colleges of Optometry in Rockville, Md., negotiated with his board of directors for his fourth contract, a process that took five months.

"I had been here for 11 years, so I wanted a good exit clause, and termination strategy," he says. "The key to any contract from an employee's point of view is that's not just a contract, it's a way to deal with the termination possibility. If the board terminates you one year into a five-year contract, are you going to get paid for four more years?"

Ms. Englund, who represented the board in Mr. Wall's contract negotiations, says contracts are often a guide for handling future conflicts. In Mr. Wall's case, she says, the contract looked ahead, to a time when his board's composition might be different from what it is today. "It's important to have this exit strategy to have compensation and time to look for another position," says Ms. Englund.

Employment contracts can also provide nonmonetary rewards, in an effort to inspire executive directors to improve their performances. If organizations cannot afford to pay leaders their market value in dollars, a contract can spell out such incentives as interest-free loans, free lodging, flextime, and other perks. Suggestions for such nontraditional benefits, says Ms. Englund, could come from either side of the negotiation table. However, she says, "I've found it's usually the executive who comes up with a creative solution."

One reason so few charities create employment contracts is that boards often wait for an executive director to make the initial request, says Melissa Flournoy, chairwoman of the National Council of Nonprofit Associations. However, she says, trustees who wait for the executive to make the first move may be missing out on a means of quelling leadership turnover. "More and more nonprofits are taking the hint from the for-profit sector in using certain tools to retain their skilled employees," she says. "A contract can do that."

Contract Elements

When hammering out an employment agreement, say lawyers who deal with nonprofit clients, the job description should be tackled first. Constructing or updating the job description can be done in a meeting in which both the board and the senior staff members describe their annual and long-term goals for the organization.

During this early stage, trustees should be assigned to recruit outside legal help. "One of the biggest reasons why you should hire outside counsel is because we can think beyond the rosy picture," says Mr. Jacobs. A local association of grant makers may help locate a lawyer familiar with nonprofit organizations and employment law, preferably one who will work pro bono or inexpensively. Human-resources consultants and executive recruiters also may be able to offer referrals, says Ms. Flournoy.

Susan Burton, a labor lawyer at the firm Hilger and Watkins, in Austin, Tex., advises producing two documents. "Start with a formal employment agreement that addresses termination, resignation, compensation, benefits, and define each type of termination, the concept of severance pay, confidentiality, a noncompete clause," she says. "The second document addresses the performance standards, and tells the executive director, 'These are your responsibilities, these are your goals.'"

Once an organization has undertaken these planning steps, it is time to get specific. Ms. Englund, Mr. Jacobs, and other experts recommend that both parties pay attention to the following elements of a contract:

Salary. Research the pay scale, and watch those perks. A 1996 law allows the Internal Revenue Service to exert greater oversight in how nonprofit organizations compensate their executive staff members. If the IRS decrees a staff member's compensation to be excessive -- regardless of whether those salaries are decreed by contract -- the agency can levy fines on the organization, using what is known as the "intermediate sanctions law" and on board members who approved it. Although the law is rarely enforced, trustees should take care to document the industry standards for executive-director pay and how the the group's own standards were derived. "Nonprofit compensation is tricky," says Ms. Englund. "On the one hand, you have those board members who expect near-volunteer salary, and on the other end, you have the board members who think, 'If you want the best, you have to pay high.'"

Bonuses. Make sure to detail nonsalary-compensation methods. In a 2001 survey by the Association of Fundraising Professionals, 29 percent of respondents who are executive directors reported receiving a bonus the previous year. Of those, slightly more than 7 percent received a bonus that totaled 10 percent or more of their base salary. Some of the more common bonuses reward longevity and performance (bonuses tied to fund-raising goals, however, are usually considered unethical, according to the Association of Fundraising Professionals). Noncash bonuses may include tuition assistance. "In thinking about evaluation standards, I suggest thinking about incentives," says David Edell, president of DRG, a recruiter for nonprofit organizations in New York. The contract should spell out a timeline or a list of performance expectations that tie into specific incentives, he says.

Nondisclosure clauses. The worst-case scenario for any charity is not when executive directors leave, but when they take the group's clients and donors, too. Trustees should look at what proprietary information is the most valuable to their type of nonprofit organization, and prohibit that information from being used by former employees, both through a nondisclosure clause as well as a rights-and-obligation clause, which spells out requirements of confidentiality and return of the employer's property.

Terms of service. A one-year contract is standard, but boards should not be surprised if their executive directors request longer lengths of service.

Termination. The contract should spell out severance terms, as well as the three kinds of termination -- with cause, without cause, and resignation -- and the provisions for each. Mr. Jacobs stresses the importance of including the termination clause, because even in states where employees are "at-will," employment contracts take precedence.

Once the contract is approved by the executive director, make sure it is voted on by the entire board. Because an ad-hoc committee often composes the contract, many trustees forget to involve themselves in the last step. Not holding a full vote, says Ms. Englund, could nullify the contract, since it indicates a nonmajority consent.

Though Mr. Wall says the process of creating his employment contract took longer and was more complicated than he expected, he is satisfied with the result. "It's in everyone's best interest to have an agreement so there's no misunderstandings when problems, or opportunities, arise," he says. "It just clarifies everything."