Personal liability of directors of non-profit organisations

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I am a director of an NPO. Can I be held liable in my personal capacity for damages caused by or debt incurred by the organisation? I thought that I was doing something good. What does it mean to carry on business recklessly? Can I be held accountable if I knew about dodgy transactions but it was not my signature on the documentation?

In South Africa non-profit organisation (NPO) can be registered in one of three ways:

  • a voluntary association;
  • trust; or
  • company.

If the NPO is registered as a non-profit company, it will be regulated in terms of the Companies Act 71 of 2008 (the Act). In this article, the focus will be on the personal liability of directors of a non-profit company registered in terms of the Act, with specific focus on gross negligence and fraud.

Despite the fact that NPO’s generally operate to do good, there is always the off-chance of persons acting contrary to the purpose and goals of the NPO and/or contrary to the law.

According to section 77(3)(b), of the Act, a director of a company is liable for any loss, damages or costs sustained by the company as a direct or indirect consequence of the director, having acquiesced in the carrying on of the company’s business despite knowing that such business was conducted in a manner prohibited by section 22(1).

What is prohibited by the Act?

Section 22(1)(a) of the Act states that: A company must not-

  1. carry on its business recklessly, with gross negligence, with intent to defraud any person or for any fraudulent purpose; or
  2. trade under insolvent circumstances.

In other words, a director of a company can be held liable in his or her personal capacity for damages or costs of the NPO in certain instances. These instances include reckless and/or fraudulent operating or trading (hereinafter, referred to as “misconduct”). Said misconduct need not necessarily be executed by the director personally. Liability may arise from direct or indirect misconduct when it is allowed by the director(s), despite knowing that misconduct is taking place.

In which instances did a director “know”?

The Act specifies what is meant by “knowing” in section 1 of the Act.

A director “knows” about the misconduct if:

  • He/she had actual knowledge thereof;
  • Was in a position to reasonably ought to have actual knowledge;
  • Investigated the misconduct to an extent that would have provided the director with actual knowledge; or
  • If the director has taken such measures that would allow a reasonable person to have actual knowledge.

Recklessness

There are two ways in which a company can carry on business in a reckless manner, namely, by way of gross negligence or fraudulence.

Negligence:

For a director to act recklessly, a more severe form of negligence is required, namely gross negligence. A director acts with gross negligence if he/she carries on business and knows that non-fulfilment of obligations of the business agreement would be a “virtual certainty”. The Supreme Court of Appeal (SCA) also held that knowing there is a “strong chance” that duties could not be fulfilled, would also amount to gross negligence.

Intent to defraud or fraudulent purpose:

An NPO also acts recklessly if it acts with intent to defraud any person or for any fraudulent purpose.

Fraud is defined as unlawful and intentional misrepresentation that causes actual or potential prejudice to another.  Whether an NPO acts fraudulently is determined on a case-by-case basis depending on the facts of each case. Misrepresentation, on the other hand, refers to the implied or expressed distortion of the truth and can occur in various forms.

In determining whether an NPO acted fraudulently there are various factors to consider. It must be determined whether the person making misrepresentations were in fact a party to the carrying of business in respect of the NPO and did so fraudulently or with intention to defraud.

Intent is a requirement and therefore actual dishonesty is necessary for there to be fraudulent conduct. The party must have no honest belief that the misrepresentation is true and must be aware that it will be prejudicial to the other contracting party. Such conduct may be classified as fraud. The same can be said when there is a duty to disclose information, in which case non-disclosure may amount to fraud.

An example would be when a person issues a cheque knowing that they do not have the funds, nor do they foresee that funds will become available at the time the cheque is cashed.

When a person honestly believed that they were not making any misrepresentations, or had no intention to defraud, they may escape liability depending on the facts of the case.

In summary, if a director of an NPO acts recklessly by carrying on business inter alia in a grossly negligent and/or fraudulent manner, he/she can be held personally liable. There need not be a positive negligent or fraudulent act to incur liability. The mere knowledge of reckless continuation of business is enough to incur personal liability.

Reference List:

  • C.R. Snyman Criminal Law 6th ed (2014)
  • Companies Act 71 of 2008
  • Philotex (Pty) Ltd and Others v Snyman and Others; Braitex (Pty) Ltd. and Others v Snyman and Others (334/93) [1997] ZASCA 92; 1998 (2) SA 138 (SCA)

This article is a general information sheet and should not be used or relied upon as professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your financial adviser for specific and detailed advice. Errors and omissions excepted (E&OE)

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