When your donations fund insider perks

Charity watchdogs have a new warning for donors: Your favorite philanthropy may be loaning your money to its own executives. It happens at thousands of charities, big and small. And it poses a dilemma for the philanthropic community. Do these perks, used to attract top leaders, ultimately make the charity stronger, better run, and thus more effective? Or do they drain away money that would be better used on the charity's core mission?

The debate over nonprofit benefits is heating up, as some donors and even members of Congress express outrage that charitable funds are being siphoned off. Tuesday, the Senate Finance Committee is scheduled to hold hearings on insider loans and other controversial practices of charities.

"It's appalling that nonprofits are using tax incentives and donor dollars as a personal piggy bank," says Rick Cowen, executive director of the National Committee for Responsive Philanthropy in Washington.

In recent years, more than 10,700 nonprofits have given zero- or low-interest loans to their executives, according to a recent report commissioned by the Chronicle of Philanthropy, a trade publication.

The loans are perfectly legal in most states and the federal government outlaws only foundations - not charities - from making them. According to the Chronicle, 19 states and the District of Columbia prohibit loans to executives at nonprofits, yet the publication found that 221 charities within those jurisdictions loaned $10,000 or more to officials.

State attorneys general are generally responsible for overseeing nonprofits but often say they lack the resources to investigate. Some charity watchdogs are now calling for greater disclosure or an outright ban on the practice.

Charities of all sizes are making such loans. In 2001, Catholic Healthcare West (CHW), a California nonprofit that operates 43 hospitals in three states, paid its chief executive $1.2 million and gave him a $2 million no-interest home loan. If he stays five years, all but $250,000 of that loan will be forgiven.

The much smaller Jewish Community Center of San Francisco (JCCSF), which pays its executive director Nate Levine $215,000 a year, financed his $670,000 home in August 2000.

Some nonprofits say loans are beneficial. CHW, with annual revenues of $4.9 billion, says it was losing $300 million a year and needed to attract the best CEO to turn the situation around. So far the gamble has paid off. The nonprofit is now turning a surplus that has helped fund charitable programs that would otherwise not have been possible, says Mark Klein, a CHW spokesman in San Francisco. "It's important to note that no donor dollar was used to finance the loan - it all came from operating revenues," he adds.

Other nonprofits won't discuss executive compensation. The JCCSF wouldn't answer questions related to the loan and calls to several of its board members responsible for authorizing the loan weren't returned.

Such loans should be made only in extreme cases, argues Peter Manzo, executive director of the Center for Nonprofit Management in Los Angeles. "It's the rare exception that a nonprofit should make a loan to an executive, and [it] should feel comfortable explaining or justifying its decision to anyone," he says.

Still, certain nonprofits, especially universities, have given low-interest home loans to executives for decades. "Loans are very common at universities because they help attract top talent to the campus," says Mr. Manzo. Executive loans are also most likely to occur at healthcare and some arts organizations, experts say. Social-service charities rarely have the assets to loan or offer large compensation packages.

The idea of using loans to lure executives was imported from the business world as a way to stay competitive without paying high salaries, says Arthur Brooks, professor of public administration at Syracuse University. But now is not the time for nonprofits to be doling out costly executive compensation packages, he warns. Giving loans "is the kiss of death for nonprofits. Nobody gets away with it forever."

Nonprofits should be subject to a higher degree of accountability, Professor Brooks adds. "The public has a right to be uneasy when nonprofits are largely unregulated and they sense that nonprofits are compensating [executives] too highly or are giving hidden perks like these loans."

Charities are required to make their tax returns public, but filings are notoriously late and often difficult to read. Of the 10,700 loans examined by the Chronicle, nearly half failed to accurately report the information on their tax returns. That's where regulators and Congress should step in, says Brooks. "Regulators need to focus on making the information transparent and easily available to donors." he says. "Transparency will have a chilling effect on how frequently loans are given."

IRS officials say the agency lacks the staff to keep up with the estimated 850,000 charities nationwide. Each week, 59 staff members review an average of 6,000 nonprofit tax returns, making oversight difficult.

Sen. Charles Grassley (R) of Iowa, chair of the Senate committee investigating nonprofit finances, wants to ban nonprofit loans altogether. Congress is also debating whether the recently enacted Sarbanes-Oxley Act, which added new disclosure requirements for corporations, should be expanded to cover nonprofits.

Experts say the industry is trying to regulate itself, and Brooks expresses concern about overregulation. "If nonprofits are burdened with excessive reporting, some charities might never get started and that [would have] significant implications for society," he says.

Meanwhile, experts warn donors to closely examine federal filings by nonprofits. The online database GuideStar (www.guidestar.org) carries tax documents and loan information for most nonprofits.