We’ve written before about issues potential board members should consider before joining the board of a nonprofit, but we’ve never really looked at some of the broader legal issues that are unique to nonprofits.
As the nonprofit sector continues to play an ever-increasing role in communities across Illinois (think of recent developments with our own Illinois Times and Springfield Business Journal), nonprofits are tasked with navigating an increasingly complex legal environment. From regulatory compliance to risk management, nonprofits face a myriad legal considerations that can significantly impact their operations and long-term sustainability.
Many of these considerations are born of legitimate concerns, while others all too often stem from knee-jerk reactions to one-off situations or from political grandstanding. Nonetheless, all must be dealt with.
The bare minimums
Proper corporate formation and tax-exempt status are the fundamental legal requirements for any nonprofit. In Illinois, nonprofits must register with the secretary of state and obtain 501(c) designation from the Internal Revenue Service. In many situations, filings with the Office of the Illinois Attorney General are also required. The process can be nuanced, with specific documentation and filing requirements that vary depending on the nonprofit’s purpose and structure.
Beyond the initial setup, nonprofits must also maintain their tax-exempt status through annual reporting and adherence to IRS regulations. Failure to do so can result in significant penalties and the potential revocation of 501(c) designation. Likewise, once formed, all nonprofits must register with the Illinois secretary of state on an annual basis in order to preserve corporate existence.
Governance and compliance
Other critical legal considerations for nonprofits are establishing robust governance structures and ensuring ongoing compliance with state and federal regulations. This includes developing comprehensive bylaws, maintaining proper board oversight and implementing sound financial controls. If your nonprofit doesn’t have dedicated legal counsel, look into adding a lawyer to the board to assist with these issues.
Nonprofits must likewise be vigilant about governance – issues in this area can expose the organization to legal liabilities. Things such as board member conflicts of interest, improper use of funds and lack of transparency can all lead to serious problems. At a bare minimum, nonprofits should adopt a conflict-of-interest policy and have board members execute a written acknowledgment.
In addition to internal governance, nonprofits must also comply with a range of external regulations, such as employment laws, fundraising and solicitation rules (particularly at the state level) and reporting requirements. Staying up to date on these evolving regulations and adopting policies accordingly is essential for maintaining legal compliance.
Risk management and liability
As nonprofits engage in a broader variety of programs and activities, they must also be mindful of potential legal risks and liabilities. Things like volunteer management, event planning and property ownership all carry potential liabilities that must be addressed. Although we’ve touched on this topic in previous articles, it bears repeating: Nonprofits should ensure appropriate insurance coverage, implement risk management protocols and understand the scope of director and officer liability. Talk to your agent to make sure you understand the scope of your coverage and think twice about joining a board that doesn’t have directors’ coverage as part of its insurance package.
In addition, nonprofits should have clear policies and procedures in place to handle issues such as whistleblower protection, sexual harassment and data privacy. Failing to address these concerns can expose the organization to costly lawsuits and reputational damage.
Are you, as a nonprofit director or potential director, now a bit worried? It’s not all doom and gloom. The law recognizes that directors, most of whom devote part-time efforts, usually can’t research every issue themselves. For this reason, directors are generally allowed to rely on the advice of professionals such as accountants and lawyers. (Note, however, that there is no right of reliance if a director has actual or constructive knowledge of information that makes reliance unwarranted.)
As long as a director’s decision is made in good faith and with due care, directors are generally protected from claims of personal responsibility. This is commonly known as the business judgment rule. According to the rule, a board will not be held responsible for a business judgment:
•made by disinterested directors,
•within the scope of their authority,
•in good faith,
•with reasonable care and not for their own self-interests.
The best way to avoid liability is to follow three general principles. First, maintain your independence and guard against conflicts between your personal interests and those of the company. Second, hire and rely on qualified experts when analysis beyond the board’s level of experience is required for an informed decision. Third, keep copies of all board minutes and agendas, which identify attendees of meetings and topics discussed, together with all information provided by outside advisers.
Partnerships and collaborations
Many nonprofits rely on partnerships and collaborations with other organizations, businesses and government entities to achieve their goals. However, these relationships can also carry legal implications that must be carefully navigated.
Terms and conditions must be clearly defined and must protect the organization’s interests. Issues like intellectual property rights, liability allocation and termination clauses can all become points of contention if not properly addressed.
Nonprofits should work with legal counsel to review all partnership agreements and ensure they are in compliance with applicable laws and regulations. This can help mitigate risks and preserve the integrity of the collaborative relationship.
Staying ahead of the curve
As the legal landscape for nonprofits continues to evolve, nonprofits need to be proactive in staying informed and adapting their practices accordingly. This may involve regular reviews of policies and procedures, ongoing training for staff and board members, and maintaining strong relationships with legal counsel.
By prioritizing legal compliance and risk management, nonprofits can better focus on their core missions and continue to make a meaningful impact in the community. With the right strategies and support, these organizations can navigate the legal landscape with confidence and ensure their long-term sustainability.
This article appears in April SBJ 2026.