Nonprofit Not Liable for Unauthorized Promissory Notes

Treasurer responsible instead, court ruled.

Church Law and Tax 1996-05-01

Officers, Directors, and Trustees

Key point. An officer of a nonprofit organization, rather than the organization itself, may be personally liable for a legal document he or she signs without authority.

A New York court ruled that an unincorporated nonprofit organization was not bound by three promissory notes executed by its treasurer without authorization. The treasurer executed three promissory notes totalling $260,000 to a creditor who later sued the organization and its treasurer for nonpayment. A trial court ruled in favor of the creditor and found both the organization and its treasurer liable. The organization appealed, and a state appeals court ruled that the nonprofit organization could not be liable for payment of the notes since it had not authorized the treasurer to issue them. The court observed:

EXT [S]ince a voluntary, unincorporated association has no existence separate and apart from its members, an association is not liable on the contracts of its officers, agents, or individual members in the absence of prior authorization or ratification with full knowledge of the facts by its members. The authority of a member or officer of an unincorporated association to bind the association will not be presumed or implied from the existence of a general power to attend to or transact the business, or promote the objects for which the association was formed, except where the debt contracted is necessary for its preservation. Once the authority of an agent is put in issue, it must be shown that the purported agent of the association had authority to incur any obligation on the association’s behalf.

EXT [T]here are no records or minutes of an Executive or Finance Committee meeting authorizing the Committee to obtain a loan from [the creditor], and the custom and practice of the Committee in entering into a loan of the magnitude of $260,000 would fall within the jurisdiction of the … Executive Committee or Finance Committee. Such assertions are undisputed by [the creditor] who offered no evidence that [the treasurer] was authorized by the Committee to execute the promissory notes on its behalf.

The court acknowledged that the creditor served as Chairman of the organization’s Executive Committee, and in that capacity directed the treasurer to execute the promissory notes. However, this did not make the organization liable on the notes since the creditor “failed to show that [the treasurer] was authorized to execute the promissory notes, and that the debt was necessary for the [organization’s] preservation.”

Further, there was no evidence that the organization ratified the notes. The court observed: “[R]atification relates back [to the agent’s act] and is equivalent to some prior authority, and when the adoption of some form or procedure is necessary to confer the authority in the first instance, there can be no valid ratification except in the same manner. [The creditor] failed to present proof that the [organization] ratified [the treasurer’s] execution of the promissory notes in the same manner that was necessary to authorize the loan originally.”

This case is important for the following reasons: First, it demonstrates that churches may not be liable on notes, contracts, or other legal documents executed by officers or directors without authorization. Second, it demonstrates that officers or directors who legal transactions without authority on behalf of the organization may be personally liable for those transactions. Third, officers or directors are not “authorized” to enter into a legal transaction on behalf of a church because another officer told them to do so—unless the other officer had the authority to enter into or authorize the transaction. And fourth, “ratification” of the unauthorized transaction must be “in the same manner that was necessary to authorize the loan originally.” This is a restrictive definition of ratification that will be difficult to prove in some cases. Barrett v. Republican State Committee, 625 N.Y.S.2d 769 (A.D. 4 Dept. 1995). [ Church Officers, Directors, and Trustees—Authority, Personal Liability of Church Officers, Directors, and Trustees]

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