Why Aren’t Nonprofits More Regulated?

A series of scandals at Oxfam and other charitable organizations raise troubling questions.

Adolfo Valle for NPR

A group of University of Washington scholars writing at The Monkey Cage point to a series of scandals in the non-profit community that I’d missed amid all the Trump drama (“The Oxfam scandal shows that, yes, nonprofits can behave badly. So why aren’t they overseen like for-profits?“):

Last week, news media reported that Oxfam — well respected for its humanitarian work — had employed aid workers in Haiti who hired prostitutes. As the Haiti scandal has unfolded, new allegations have surfaced, including that other workers at U.K. charities had sexually abused teen volunteers, and that overseas staff traded humanitarian aid for sex. Moreover, Oxfam’s top management seems to have ignored warnings about what was going on.

Oxfam now faces an existentialist crisis. It has depleted its moral authority. Donations from individual donors have plummeted. Corporate support from Heathrow, the Co-Op Bank, Visa and M&S might be withdrawn. The U.K. government is threatening to withhold £32 million of annual support and the European Commission has made a similar threat regarding its £29m grants. Celebrity ambassadors like Minnie Driver and Archbishop Desmond Tutu have resigned.

Many other similar organizations have been accused of harboring sexual abusers as well. In 2017 alone, more than 120 workers in leading British charities including Save the Children, Christian Aid and the British Red Cross were accused of sexual abuse.

Their explanation for why this happens:

Here’s the problem: many scholars and practitioners insist that nonprofits, and civil society groups in general, are principled actors, unlike greedy and instrumental for-profit firms, because their organizational purpose has virtue. In addition, because nonprofits cannot legally distribute profits (although some, like hospitals, might generate them), they do not face shareholder pressure to increase profits.

This presumption of virtue leads regulators and stakeholders to neglect issues of nonprofit governance and accountability. Compared to firms and governments, nonprofits face less scrutiny by outside stakeholders. This leads to poor governance, accountability shortfall and mission drift.

They note that many nonprofits, and especially many of the bigger, name-brand ones, receive substantial government funding:

In part, these problems are compounded by how nonprofits raise funds. Nonprofits are supposed to be nongovernmental, a communitarian response to big government and big business. Scholars imagine them as local organizations raising funds from the community, subject to active local scrutiny. But most global nonprofits receive a significant portion of their funds from the government. Not surprisingly, nonprofits are focused on managing their political environment. Internal governance and effective service delivery become peripheral.

A large number of nonprofits are locally rooted, staffed by volunteers and provide local public goods — food banks, homeless shelters and the like. But alongside, there are visible nonprofit “brands” with a global presence and sizable budgets, staffs and bureaucracies. The global nonprofits substantially rely on funding from governments, intergovernmental organizations, private foundations and corporate sponsorshipIn 2016, UK’s top 1 percent of charities accounted for about half of the sector’s £10 billion income.

Why do governments fund any nonprofit, local or global? After all, nonprofits are supposed to be nongovernmental. At the domestic level, starting in the 1980s, many Western democracies began relying on nonprofits to deliver public services in the Reagan-Thatcher approach to shrinking government. In the 1990s, both the Clinton-Gore initiative that was called “reinventing government” and Tony Blair’s New Labour ideology encouraged governments to outsource service provision to nonprofits. Some observers wrote about a nonprofit “associational revolution,” comparing this expansion to the 19th-century emergence of the modern nation-state.

At the international level, since the 1990s, global nonprofits have become an important vehicle for delivering foreign aid. When frustrated that foreign aid hasn’t promoted economic development and democracy, donors blame recipient countries’ governmental corruption. Of course, with the dominant notion that nonprofits are virtuous and above temptations, donors saw nonprofits as the appropriate aid contractors. In any case, involving nonprofits in aid delivery was a good political defense against the criticism that foreign aid is a waste of money. Whether nonprofits are more effective and efficient than state-run development agencies remains to be seen.

They argue, not surprisingly, for more oversight:

The loose oversight over nonprofits allows even real charities to abuse public trust. Charity managers give themselves inflated salaries, use charity money for lavish lifestyles, expensive retreats and so on. One revealing example is the Wounded Warrior Project, a U.S. charity aimed at helping military veterans. Established after 9/11, this charity has raised more than a billion dollars to date. But as CBS News reported, the organization’s leaders have used charity funds for extravagant lifestyles and parties. By some accounts, the charity spends 40 to 50 percent of their resources on overhead — compared to other veterans’ charities that spend only 10 to 15 percent on overhead.

Most countries do not require nonprofits to file annual reports. The U.S. nonprofit sector is an exception; nonprofits are annually required to file Form 990 with details of their finances, activities and governance, which are made public. Yet very few Americans are aware of this requirement, and even fewer use it regularly to guide their charitable giving. To varying degrees, U.S. states have established their own charity regulations. Both the Federal Trade Commission and state attorneys general can investigate charity fraud, but they rarely do.

In contrast, the for-profit sector, working outside the presumption of virtue, is overseen by several layers of regulators, including private bodies such as the stock exchange. For-profit organizations are required to regularly disclose information on finances, governance and policies, information that is scrutinized by financial analysts and shared over television, blogs and newspapers.

Even beyond regulatory filings, however, shareholders can assess how firms are performing by tracking sales. If firms provide shoddy products, they will probably lose customers. Top CEOs get fired if the firm does not meet its quarterly sales targets. By contrast, nonprofits typically serve “customers” who cannot show their displeasure. Often they depend on a particular nonprofit and have no other place to turn to even if they are unhappy about the product. Donors cannot assess how well the nonprofit is doing based on customer feedback.

I’ve long found it unseemly, at best, that ostensibly charitable organizations pay lavish salaries and provide Fortune 500-type amenities to their leadership. Yet, they argue, they’re competing with the for-profit sector for talent. And, really, there’s no reason one should take a vow of poverty in order to help the poor.

Yes, charities, churches, and other non-profits ostensibly in the business of helping children sometimes harbor predators and even cover it up to protect their own reputations. That’s shameful. I don’t know that there’s any reason to believe it happens more in the non-profit sector than the for-profit world but, yes, there’s more of a breach of faith in the former. Still, I don’t see any need for different treatment here; child abuse and abetting it are criminal actions whether you’re Baylor University or the Catholic Church.

And, while farming out social welfare programs paid for by government to the private sector may create problems, there are surely times where it makes sense. I don’t know that a bureaucracy could replicate the Red Cross, for example. Churches and volunteer organizations may well be better equipped to distribute services than governments, particularly to low-trust communities such as drug addicts and illegal immigrants.

Any organization receiving a large distribution of public funds, whether they be for-profit or non-profit, ought to be audited. Otherwise, it’s not obvious to me why nonprofits ought be singled out for special scrutiny.

At the same time, it’s not obvious why organizations who claim a primary mission of charity or education ought to be given a special tax status. Huge for-profit corporations like Amazon and Walmart are able to write their charitable donations and expenses. Similarly, the issue of executive compensation largely goes away if we treat all entities as corporations; employee salaries would simply be written off on the same basis as they are at General Motors or Microsoft.

Doing away with the various 503(c) sections would also end the perennial problem not discussed in the op-ed of organizations ostensibly in the religious, educational, or charity business conducting activities that look an awful lot like lobbying government or engaging in political advocacy, including campaigning. It simply wouldn’t matter anymore: we’d tax and regulate MoveOn.org in the same way we do Hobby Lobby.

Lede updated to incorporate the original Monkey Cage headline to provide context for my own. 

FILED UNDER: Economics and Business, Government
James Joyner
About James Joyner
James Joyner is a Security Studies professor at Marine Corps University's Command and Staff College and a nonresident senior fellow at the Scowcroft Center for Strategy and Security at the Atlantic Council. He's a former Army officer and Desert Storm vet. Views expressed here are his own. Follow James on Twitter @DrJJoyner.

Comments

  1. SKI says:

    There seems to be a major gap in the logical chain in this post – the conflagration of tax status and regulatory status. Working in compliance in one of the most heavily regulated and audited not for profit sectors in the country (health care), I can assure you that the two are separate aspects. There are unregulated for profit companies and regulated non profits.

    If you eliminate the nonprofit status for charities, you eliminate their existence (to the extent they receive donations as their funding mechanism), substantially weaken their ability to provide services, or at least dramatically increase their pricing (health care).

    As the post notes, US nonprofits already file the 990. You want to increase regulations or cap executive comp? That is a debate worth having. You want to eliminate the status for political actors? Sure. But before you disrupt a major source of services in this country, you may want to think about the ramifications…

  2. SKI says:

    Oh, should we eliminate the military because of tailhook and other scandals? C’mon….

  3. James Joyner says:

    @SKI: The headline is probably misleading; it’s based on the call made by the WaPo authors. I’m arguing that, rather than cracking down on regulation, we should rethink the whole tax category.

    @SKI: I’m not arguing for eliminating charitable organizations, just the arbitrary tax status granted to many organizations that aren’t really charities. But I’m heavily influenced by the way 501(c) organizations run in DC.

  4. Slugger says:

    I have wondered how the current system serves us. The NFL jumped from nonprofit to for profit without any change in direction that I can see and without any change in the $40 million they pay their CEO. How about scrapping the current system and creating a new category for eleemosynary organizations with a cap for CEO of $600,000? If curing Ebola and getting $50,000 a month does not warm your heart, then curing Ebola is not a sincere goal for you.

  5. Gromitt Gunn says:

    Non-profits who receive a set amount of Federal government funding have been required to pay for an external auditor to conduct a Single Audit since the mid-1980s.

    https://www.councilofnonprofits.org/nonprofit-audit-guide/federal-law-audit-requirements

    Additionally, many other large donors require independent financial audits as a term and condition of additional financial support. The entire structure of governmental and not-for-profit accounting is designed around transparent recordkeeping on a per-funding-source basis.

  6. Gromitt Gunn says:

    Also the fact that the Wounded Warrior Project ended up in hot water for its practices is precisely a function of the various forms of oversight that already exist.

  7. Bob@Youngstown says:

    Not a lawyer, so take that into consideration.
    Having worked as former board member on several non-profits I can state that my reason for retiring was because I believed that the 990 that were filed were fraudulent, and documents supportive of the 990 filings were fraudulent.

  8. Bob@Youngstown says:

    @Gromitt Gunn:

    Non-profits who receive a set amount of Federal government funding…

    But not for Federal services.

  9. al-Ameda says:

    @Bob@Youngstown:

    Not a lawyer, so take that into consideration.
    Having worked as former board member on several non-profits I can state that my reason for retiring was because I believed that the 990 that were filed were fraudulent, and documents supportive of the 990 filings were fraudulent.

    I’ve worked in financial management for over 25 years, some of those years for non-profit organizations. There are plenty of laws that regulate NPOs, and yet all of this (good management) depends on the quality of the people hired by the NPO, the quality of the Board appointed and engaged to oversee operations, and the depth of the the annual audit.

    We do not live in a perfect world, nor in a risk free world.
    We don’t want bad stuff to happen, but occasionally it will.

  10. JK Brown says:

    Yet, they argue, they’re competing with the for-profit sector for talent.

    That undermines the idea that non-profits are “principled actors”. How pray tell does the fact that a CEO, earning competitive salary to that they could earn in the private sector, working for a non-profit suddenly become more “principled” than they would in the for-profit organization? And an organization is only as good as those who run it. In the case of non-profits, those who run it are not working to produce returns for shareholders, an objective outcome, but rather in non-profits they are working, ostensively, for some “good”, but in reality for senior staff status, influence and income.

    CoyoteBlog had a good take on the “Lifestyle Charities” that ensure Society has plenty of social events and provide a nice lifestyle for the senior staff. They are in essence, the modern equivalent of the 8th century monasteries, which were places for the noble family’s spare offspring.

    I call it the “lifestyle” charity or non-profit. These are charities more known for the glittering fundraisers than their actual charitable works, and are often typified by having only a tiny percentage of their total budget flowing to projects that actually help anyone except their administrators. These charities seem to be run primarily for the financial maintenance and public image enhancement of their leaders and administrators. Most of their funds flow to the salaries, first-class travel, and lifestyle maintenance of their principals.

  11. SKI says:

    @James Joyner: Like I said at the end, I can see the argument for removing tax-free status for some of the advocacy entities and have little problem with taking a closer look (though I wager it won’t be as clean or easy as some folks presume).

  12. Tyrell says:

    @al-Ameda: quality of the board”: years ago in a nearby town the board of a large, well known non profit, gave their CEO a huge pay raise. Reaction was predictable: donations dropped and many businesses pulled their support. It took years for them to recover – the people’s trust and contributions.
    There are some organizations that review and rate non-profits.
    Many school systems are top heavy with high paid administrators and “supervisors”. The result usually is that the classrooms are on the low pecking order and get what money is left over. So the students go trudging door to door selling cookie dough and magazines to raise money for copy paper and new computers. Teachers are out buying paper towels and crayons.
    And every school it seems has a fall carnival to raise money.
    There is a lesson there somewhere.

  13. MarkedMan says:

    James, thanks for a thought provoking post.

    FWIW, I suspect revoking non-profit status may hurt organizations like the Red Cross or similar groups who attempt to build up surpluses for when emergencies strike. Having this surplus taxed would change the dynamics substantially.

    There is one change I would support in a heartbeat: removing tax breaks and other special privileges based solely on religious or artistic affiliations. We Americans pat ourselves on the back to no end about our high rate of charitable giving, but the truth is that a very large percentage goes to support our own “clubs”. Giving money to put a nicer kitchen in your church meeting facility, or to reroof the temple may make you feel good, but it isn’t charity as most people think about it. And while specifically targeting your donation to the local orchestra to be used for extending outreach to poorer children would qualify, donating the same amount so you can have nicer seats to put your but in at $100/ticket is not. I wish we would stop treating these things as a public good. I’ve been in some incredible beautiful Roman Catholic and Russian Orthodox churches, as well as Jewish temples in various American cities. I’m happy for the members to have a inspirational place to worship. But I resent that the government took money out of everyone else’s pockets in order to subsidize that effort in the form of tax breaks for the parishioners who donated.

  14. DrDaveT says:

    Oxfam now faces an existentialist crisis.

    Nah, that was Sartre. Oxfam faces an existential crisis.

    As another poster upthread noted, I think you’re conflating different forms of oversight and/or preferential treatment. How various nonprofits get taxed is utterly unrelated to what kind of oversight they are subject to with respect to (say) criminal and/or immoral behavior by their employees.

    Turn it around — suppose that the organization working in Haiti had been a for-profit corporation — perhaps a real-estate developer. What additional oversight would their employees have been subject to that Oxfam’s were not? What additional legal penalties would apply? I (also) am not a lawyer, but I don’t know of any. The problem here wasn’t lack of external oversight; it was poor/corrupt management.

    So, the question is, why would anyone think that nonprofits would be less prone to poor/corrupt management than other companies? I agree completely with JK Brown that you can’t have it both ways — either your employees aren’t in it for the cash and perqs (and thus you don’t have to compete with the for-profit sector for ‘top’ management talent), or they are (and should be assumed to be just as venal and selfish as any other management, until proven otherwise).

  15. al-Ameda says:

    @JK Brown:

    That undermines the idea that non-profits are “principled actors”. How pray tell does the fact that a CEO, earning competitive salary to that they could earn in the private sector, working for a non-profit suddenly become more “principled” than they would in the for-profit organization?

    I can tell you this, it is different for NPOs, there is a ‘self select’ component to hiring – that is, people interested in working for an NPO often do so for reasons very different than those who are looking to work for a start-up, an investment banking firm, or an M & A group, not the least of which is compensation and the potential for future wealth.

    A few years ago I worked at an NPO with a very talented person who managed billions of dollars in international banking, made millions of dollars, and retired for a few years. He finally decided that he wanted to be involved with an NPO whose mission was important to the community – he wanted to go back to work. We hired him to take on CFO and fundraising & development responsibilities. He was a great resource, and he was probably paid at 5% to 10% of the rate he would have back in senior executive level management in banking. We were fortunate to have him.

    Finally. I remember one time we were talking about a scandal at a local non-profit, and he remarked that you’ve got to have good management, good controls and oversight, but ultimately what it comes down to is that you have to hire good people, and even then, sometimes …. there are no guarantees.

  16. Lounsbury says:

    It seems rather odd to be discussing American Non Profit structures in reaction to a UK registered, regulated and based charity. Not particularly a fan of OxFam – preachy bit of self-congratulatory hard-Left snots. But this scandal has pretty much f-all to do with the issues in the post and more about the screwing around that occurs in the field in ‘recovery / disaster relief’ operations – as People are People and Young Idealistic Men (& Women) remain young primates with inconvenient urges under stress….

    However, don’t particularly mind OxFam getting beaten on a bit given their snotty preachiness.

    The sole form of reform in oversight that may be lacking is with respect to Board independence. Board capture is a problem.