Uncertainty1

Colorado Public Benefit Corporations Part III: An Uncertain Relationship with the Charitable Solicitations Act

Over the past several weeks, we’ve been focusing on the details of Colorado’s new public benefit corporation statute and the story behind its enactment. In doing so, we have touched on some legal implications and potential confusion that can arise from hybrid entities that have a dual purpose of pursuing profits and promoting social objectives.

An  additional issue that hasn’t gotten much attention as of yet (at least that we’ve seen) is the potential applicability of the Colorado Charitable Solicitations Act to these new entities. This Act could require public benefit corporations to register and provide certain information to the Secretary of State in conjunction with their social mission—regardless of the fact that they are for-profit entities.

Today’s post is the third of a four-part series designed to inform our readers about these new hybrid entities and their potential implications for (or intersections with) the nonprofit sector:

  1. Our first post provided a brief history of the Public Benefit Corporation Act of Colorado (the “Act”), described how these new entities came to be called “public benefit corporations” rather than “benefit corporations,” and expressed our concern about potential confusion with the use of that term in the nonprofit sector.
  2. Our second post provided an overview of how public benefit corporations will be organized and operated in Colorado, starting April 1, 2014.
  3. This third post discusses the potential impact of the Colorado Charitable Solicitations Act on these new entities, and whether they will be on a level playing field with the nonprofit sector when it comes to charitable solicitations and sales promotions.
  4. The fourth post, next Wednesday, will discuss other implications for the nonprofit sector, such as whether benefit corporations qualify for program-related investments by charitable entities.

What is the Colorado Charitable Solicitations Act? For 25 years now, Colorado (like most other states) has regulated fundraising within its borders through charitable solicitations laws. Understanding that the public can be vulnerable to fraud and misrepresentation when charitable causes are invoked, these laws were designed originally to protect the public against unscrupulous charities and fundraisers. As the years have passed, these laws have evolved so that they now serve a dual purpose: to help the public make informed decisions about charitable giving—and assist regulators in sniffing out fraudulent charities and fundraisers—by requiring certain charitable organizations and fundraisers to register with the state and to make publicly available certain information about their activities, leadership and expenses.

What kinds of laws and regulations are imposed by the Charitable Solicitations Act? Briefly stated, the Colorado charitable solicitations laws impose the following requirements on charitable organizations, paid solicitors and professional fundraising consultants:

  • All charitable organizations (with limited exceptions) that solicit contributions within Colorado by any means, or that participate in charitable sales promotions within Colorado, must first register with the Colorado Secretary of State and annually renew that registration.
  • All paid solicitors must register with the Colorado Secretary of State before soliciting contributions in Colorado and annually renew that registration; provide the Colorado Secretary of State with advance notice of any solicitation campaign to be initiated by the paid solicitor and submit periodic financial reports to the Secretary and the client after the campaign has commenced; comply with a number of stringent contracting, deposit and record-keeping requirements; and make numerous disclosures to prospective contributors in connection with each solicitation.
  • All professional fundraising consultants must meet contracting and reporting requirements with respect to their clients and, if they take custody of any charitable contributions, register with the Colorado Secretary of State and comply with certain deposit requirements.
  • In certain cases, a for-profit entity that engages in a charitable sales promotion (e.g., promotes its products or services on the basis that a certain amount of the purchase price will benefit a charitable organization or purpose), must disclosure how much of the sales proceeds will actually benefit the ultimate charitable organization or purpose.

What happens if the charitable solicitations laws are violated? Violations of the charitable solicitations laws can be considered “charitable fraud” (a criminal offense) and/or a “deceptive trade practice” under the Colorado Consumer Protection Act. Both carry significant penalties and other remedies.

How is this relevant to public benefit corporations? The law’s definitions are very broad, such that a public benefit corporation could potentially be considered a “charitable organization” under the Charitable Solicitations Act, promoters could potentially be considered “paid solicitors” or “professional fundraising consultants,” and the offering or sale of securities in the corporation could potentially be considered a charitable “solicitation.” In addition, a sales or advertising campaign conducted by the public benefit corporation, which touts the fact that the purchase of its goods or services will provide an identified public benefit, is arguably a “charitable sales promotion” under the Act. As a result, failure to comply with the charitable solicitations laws in that offer or sale of securities, or in the conduct of that advertising campaign, could, in some instances, result in civil or criminal penalties for both the corporation and its promoters!

Definition of charitable organization. The term “charitable organization” is not limited, under the Charitable Solicitations Act, to a nonprofit organization or traditional 501(c)(3) charity. Rather, a charitable organization includes “any person who is or holds himself out to be established for any benevolent, educational, philanthropic, humane, scientific, patriotic, social welfare or advocacy, public health, environmental conservation, civic, or other eleemosynary purpose ….” In the right circumstances, this could include a for-profit entity like a public benefit corporation.

As discussed in last week’s post, a public benefit corporation must identify one or more public benefits it will serve in its articles of incorporation, and balance the pecuniary interests of shareholders, the best interests of those materially affected by the corporation’s conduct and that public benefit in its business. “Public benefit” is defined as “one or more positive effects or reduction of negative effects on one or more categories of persons, entities, communities or interest other than shareholders in their capacities as shareholders, including effects of an artistic, charitable, cultural, economic, educational, environmental, literary, medical, religious, scientific, or technological nature.” There is some overlap here with the purposes outlined under the Colorado Charitable Solicitations Act.

Definition of contribution and charitable solicitation. Likewise, under the Charitable Solicitations Act, the term “contribution” is not limited to donations, gifts and grants. Rather, a contribution is any “grant, promise, or pledge of money, credit, property, financial assistance, or any other thing of value in response to a solicitation.” A “solicitation” is defined as any “request for, directly or indirectly, money, credit, property, financial assistance, or any other thing of value on the plea or representation that such [contribution] will be used for a charitable purpose or will benefit a charitable organization.” A “solicitation campaign” is defined as a “series of solicitations which are made by the same person and which are similar in content or are based on a similar pitch or sales approach, which series … lasts or is intended to last for a definite period of time.” All of these definitions could encompass the offer and sale of securities in a public benefit corporation that is considered a charitable organization.

Definition of paid solicitor and professional fundraising consultant. Similarly, term “paid solicitor” refers to any person who, “for monetary compensation, performs any service in which contributions will be solicited in [Colorado] by such compensated person.” The term “professional fundraising consultant” encompasses any person who “is retained by a charitable organization for a fixed fee or rate … to plan, manage, advise, consult, or prepare material for or with respect to the solicitation in [Colorado] of contributions for a charitable organization but who does not solicit contributions.” Though certain categories of people are excluded from these definitions (e.g., directors, officers and employees of the organization; lawyers, investment counselors and bankers performing professional services for the organization), the terms are broad enough to capture many of the individuals and firms involved in the offer and sale of securities in a public benefit corporation.

Definition of charitable sales promotion. A “charitable sales promotion” is defined as an advertising or sales campaign that is conducted by a for-profit entity that regularly and primarily engages in trade or commerce (a “commercial co-venturer”), representing that the purchase or use of that entity’s goods or services will benefit a charitable organization or purpose. As mentioned above, a plausible argument could be made that a public benefit corporation, which promotes the fact that the purchase of its goods or services will support its identified public benefit, is engaging in a charitable sales promotion.

How should public benefit corporations proceed given the lack of clarity? Unfortunately, Colorado’s new law on public benefit corporations does not address the extent to which these entities are subject to the Charitable Solicitations Act. Earlier versions of benefit corporation legislation introduced in 2012 were clear that the offer or sale of a security in a benefit corporation that complied with the Colorado Securities Act was not a solicitation for purposes of the charitable solicitation laws (though it recognized that these entities could potentially make other solicitations that would be subject to these laws). However, that provision didn’t make it in to House Bill 13-1138.

It is possible that future legislation or regulations may address these open issues, prior to April 1, 2014, when public benefit corporations will come online in Colorado. However, in the interim (and certainly before any offers of securities are made), public benefit corporations and their promoters should confer with their legal counsel on how to ensure they do not run afoul of the charitable solicitations laws. For the reasons indicated below, we believe many of the policy concerns addressed by the Charitable Solicitations Act apply to offerings by public benefit corporations, so people should err on the side of caution.

Does the nonprofit sector have an interest in the outcome? Absolutely! First and foremost, the Charitable Solicitations Act was designed to protect the public against charitable fraud, and to ensure transparency and accountability, when charitable causes are invoked to raise money in Colorado. Those concerns apply equally to public benefit corporations that are looking to attract investment or sales by virtue of their social mission, at least to the extent that mission would be covered under the law’s definition of charitable purpose. The nonprofit sector should be concerned with protecting the public’s trust in organizations that are looking to accomplish social good or mission and attract money to support that mission—whether or not they are nonprofits—because violation of that trust can negatively affect them and their own fundraising efforts.

Additionally, the nonprofit sector has every reason to insist on a level playing field when it comes to competition for “social investment.” With the increasing trend toward social enterprise (by nonprofits and for-profits alike), the traditional roles of nonprofits and for-profits have become blurred. The advent of benefit corporations (and other hybrid entities) have further blurred these traditional roles. The cold, hard reality is that nonprofits may be competing for the same dollars as public benefit corporations in many cases, and have a legitimate interest in ensuring that the same (or similar) registration and reporting standards will apply to public benefit corporations in their solicitation and promotion activity.

Check back next week for Part IV in our series on Colorado public benefit corporations.

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