Nonprofit entities may take a variety of forms in the State of Michigan.¹ Corporations with shares and shareholders are included.² Additionally, nonprofit companies may take the form of limited liability companies formed under the Michigan Limited Liability Company Act.³ Charitable purposes may also take the form of a charitable trust pursuant to the Michigan Supervision of Trustees For Charitable Purposes Act.⁴ The business form of nonprofits is therefore not prescribed but may take a form provided by other acts so long as their requirements are not inconsistent with or repealed by provisions of the Michigan Nonprofit Corporations Act.⁵

For purposes of protecting the purposes of a for-profit corporation and its shareholders, directors and officers are subject to statutory and common law protections. Directors and officers have a statutory duty to act in good faith,⁶ with due care,⁷ and in a way reasonably believed to be in the best interests of the corporation⁸ in favor of the shareholders. These duties, ensconced in the Michigan Business Corporations Act (“MBCA”), are in addition to common law duties which were not abrogated by the MBCA.⁹ Importantly, this has been interpreted to mean that while claims brought pursuant to provisions of the MBCA may be derivative, the Legislature left untouched common law fiduciary duties that permit direct shareholder actions.¹⁰ Direct shareholder actions however must qualify for one of two specific situations: 1) where an individual has sustained a loss separate and distinct from shareholders generally; and 2) where an individual shows the violation of a duty owed directly to a shareholder which is independent of the corporation.¹¹ The MBCA also contains a shareholder-oppression provision exercisable by individual shareholders or groups of shareholders rather than only in the name of the company for illegal, fraudulent, or willfully unfair and oppressive conduct against the corporation or a shareholder.¹²

The same is true for limited liability companies, which are governed by their members or by designated,¹³ who are subject to duties similar to those of directors of for-profit corporations.¹⁴ There is also a member-oppression provision to prevent improper conduct of managers or members “in control” against the company or other members for illegal, fraudulent or willfully unfair and oppressive conduct toward the limited liability company or to an individual member or group.¹⁵ It would appear that the same requirement for a specific or individualized harm or independent right that is violated applies.¹⁶

Charitable trusts governed by the Michigan Supervision of Trustees for Charitable Purposes Act¹⁷ are subject to special registration and reporting requirements with the Attorney General.¹⁸ Because of this special layer of oversight, keeping charitable trusts on track with their founding purposes is less problematic than is the case with other nonprofit forms. It is the policy of the State:

that the people of the state are interested in the administration, operation and disposition of the assets of all charitable trusts in the state; and that the attorney general shall represent the people of the state in all courts of the state in respect to such charitable trusts. This act applies to all trusts and trustees holding property for charitable purposes over which the state or the attorney general has enforcement or supervisory powers.¹⁹

There are robust reporting requirements that include audit reports.²⁰ The Attorney General represents the people of the state which covers uncertain or indefinite beneficiaries,²¹ and is a necessary party to any litigation to terminate, liquidate, modify the purposes of or to construe provisions of a charitable trust the Attorney General is a necessary party.²² Trustees subject to this Act must notify the Attorney General and provide a copy of the trust instrument within two months of receipt of charitable trust property.²³ This is done by a probate court where a charitable trust is established by a residuary request in a last will and testament.²⁴

As noted above, in the case of for-profit organizations, there are statutory and common law protections that shareholders and members may utilize where there is harm to the entity itself or to individuals or groups being “oppressed.” For charitable trusts, there is a guardian of the public interest in the form of the Attorney General which entails protection of beneficiaries, ensured by special reporting and record-keeping requirements.²⁵ There is a gap, however, in the case of nonprofit corporations or limited liability companies where there are no real “economic” damages to shareholders or members.²⁶ While there could arguably be some damage to the nonprofit entity itself for breaches of fiduciary duty, for example to its reputation, this could prove to be particularly difficult to quantify. In the case of charitable trusts, the attorney general protects potential recipients of the trust.

However, for the other forms of nonprofit organization, potential recipients of the charitable purpose(s) are unlikely to have any legal standing where there are discretionary qualification criteria such as strong academic performance, a charitable track record, or similar.

It would be disingenuous to assert that nonprofits are founded with nefarious intent to surreptitiously seek to secure monetary benefits or even an enhanced personal reputation within a particular community, while enjoying the benefit of tax exempt status. However, and as an example, when the charitable purposes and decision-making requirements are not carefully defined in the founding documents, there is a risk of “mission drift” or “mission creep” or even of masked self-dealing. This could manifest for example after a particularly active founder exerting primary control as a director, manager or members exits such as by passing away, leaving a void sought to be filled by rival factions of directors, managers or members vying for control over charitable activities that could defy effective scrutiny. As an example, a charitable company established to help worthy students in a particular locale to pay for college could be commandeered to focus disproportionately for the benefit a favored college or university rather than to focus on the intended recipients, thereby limiting recipients in a way not contemplated by a founder or by donors. Funds could be misdirected to musical or artistic departments despite a more general educational purpose based on the whims of directors, managers, or members in control. Any such shifts in purpose should be effectuated by changes to the stated purposes of the charitable organization undertaken by proper amendment procedures.²⁷

Generally, fiduciaries of nonprofits owe duties of good faith, loyalty, and avoidance of self-dealing.²⁸ What is not clear is whether a duty to obey provisions of the articles of incorporation, by laws, or of state law falls squarely within the duty of good faith, the duty of loyalty or the duty to avoid self-dealing. While a duty of obedience was once a more robust tenet of corporate responsibility, it is not often referenced in case precedent.²⁹ Rarely addressed in Michigan case law, the duty of “obedience” was mentioned in at least one unpublished case involving a nonprofit, however that case did not identify the provenance of the duty of obedience nor did it rely on such duty for the holding.³⁰ It is argued that because the duty of obedience so accurately elucidates the risks addressed herein including weakness of enforcement of fiduciary duties on the nonprofit level,³¹ it should be distinctly enshrined in the laws governing nonprofit companies.³²

Other jurisdictions squarely recognize the fiduciary duty of obedience owed by directors, members, managers or trustees.³³ The requirement is to adhere to the charitable purposes of a nonprofit company as set out in the founding documents.³⁴ Arguably, this should include the requirement of adhering to any statutory obligations for nonprofit relating to, for example, proper corporate governance such as maintaining the requisite number of directors.³⁵ As a corollary, this would include making changes to purpose or governance only by a legally sufficient board for example.³⁶

For various reasons, mission drift in the nonprofit sector may avoid proper scrutiny for situations other than those involving charitable trusts, particularly when management decisions are subject only to duties of care, loyalty, and avoidance of self-dealing. Specific legal recognition of a duty of obedience could cause nonprofit management to more faithfully adhere to a nonprofit’s stated purposes and to ensure notification of changes to purpose by use of proper voting procedure and by amendments to founding documents notified to the Michigan Department of Licensing and Regulatory Affairs. For example, by dedicating a specific cause of action to the problem, it would be easier upon challenge (at least by certain directors, members or managers if not by potential recipients) to recognize shortcomings and to dispel with them quickly in the summary disposition phase of litigation. The exact parameters of the duty of obedience could be quickly identified once the Legislature or a court institutes the application of this duty into law.