The International Journal
of Not-for-Profit Law

Volume 1, Issue 3, March 1999

Abstract

This article attempts to describe the experiences drawn from over a hundred court cases involving applications of existing foundations needing to re-register under the new Act of Foundations, which provided a year long transition period. Based on the experiences, it was revealed that the judges of the Commercial Courts of the Czech Republic were not able to interpret the new law in a unified way, and in some cases, created serious problems for the existing foundations trying to continue the public benefit activities under the new legal framework.

Introduction

In 1994 in Sinaia, Romania and later, in 1996 in Tallin, Estonia, during a series of conferences and meetings involving issues on Regulating Civil Society, a question was raised as to what would be considered the most preferable registering agency. It was determined that such an agency should be an independent court.1 Following this recommendation, we insisted on introducing this provision into the new drafts of laws regulating the civic organizations (COs) in the Czech Republic. As a result, the commercial courts became the registering agencies for three types of COs: public benefit companies (PBCs), foundations with endowments, and [granting] funds. This happened despite strong opposition from the President of the Supreme Court, who argued that the courts are not prepared to take over additional administrative burdens. To place the burden of registration registering commercial legal bodies on the commercial courts would be a mistake.

Initial Experiences with Registering PBCs

Act No. 248/1995 on Public Benefit Corporations introduced a new type of non-membership and not-for-profit civic organization: the PBCs. The Act became effective January 1, 1996. In the first year of its existence, certain features of the law presented obstacles to simple re-registration. For example, the law did not clearly define what public benefit service is. In addition, it required a fairly rigid organizational structure whereby the board of directors, as a statutory organ of the PBC, must consist of a number of persons which must be a multiple of three, with an additional rotational principle to the membership, which requires a renewal of one-third of the members of the board every year. Moreover, there were severe limitations on the membership, which were introduced to prevent conflicts of interest. Anyone who was a relative to a person employed by the PBC could not become a member of the board of directors. In addition, members of the board could not be sentenced for any willful criminal act.

Thus, a registration case of PBCs became one of reviewing conditions implied by the law regarding the Articles of Incorporation, as well as on the people appointed by the founder(s) to serve in its first board of directors. In several cases, the judges were confronted with problems such as whether the service is a public benefit interest. As a result, only few PBCs were registered in 1996.

First Consulting PBC, which the authors founded in June 1996, has been registered since April 1997. It took about 10 months for the court to decide whether it should register First Consulting as a legal body. This delay may have been due to the lack of understanding as to what one should ask the judge and what should be added to the application besides those documents required by law.

One consequence learned from the first year of registering PBCs was that judges were not allowed to be in direct contact with the applying parties. Also, the president of the court introduced a random method of assigning cases to the judges in an attempt to minimize the possibility of corruption.

The Transition Period for Foundations

Following seven years of drafting and debating, the Parliament of the Czech Republic approved in September 1997 the new law regulating the establishment, registration, governance, economic activities and winding-up of grant giving non-membership civic organizations, foundations, and funds.

Act No. 227/1997 on Foundations and Funds became effective on January 1, 1998. It introduces two types of foundations. The term “foundation” is a legal body that represents a custodian of property endowed by its founder(s) to generate income, which in turn is used to give grants to third persons for a specific public benefit purpose or activity. The term “fund” is a legal body established with the objective to collect assets and use them for public benefit purposes.

Foundations must have a minimum endowment of $30,000 US, while funds may exist without an endowment. The income generated by the endowment, when registered, is exempt from corporate income tax. Similar to PBCs, foundations and funds are governed by collective statutory organs, the membership in which is similarly limited. In addition, foundations and funds must declare in their statute a rule that administrative expenditures must be limited for at least five consecutive years.

Foundations, which were established under the previous laws, were given one year to decide whether they would like to continue their existence as a foundation or fund, or to become a PBC. Other options include merging with another foundation or voluntarily winding-up where the liquidated balance is transferred to another foundation.

In the case of PBCs, the registering agencies for foundations and funds are Regional Commercial Courts. To these courts, the existing foundations had to submit a Proposal for Registration accompanied by an updated Statute and documents proving the existence of the endowment (in the case of a “foundation”) or assets (in the case of a “fund”). These foundations and funds, which decided to continue as a PBC, are required to provide a decision of the existent statutory organ together with a Founding Document (Articles of Incorporation) of the newly created PBC. The PBCs created by the existing foundations and funds became legal successors at the moment of registration.

It was discovered that the courts were unprepared to take over the new responsibilities without experiencing problems. Instead of making the transition to th new legal framework easy, the courts applied the new law very strictly, but they did not interpret it in the same way.

First Consulting PBC has about 100 clients – existing foundations – for whom it has been preparing the documents for re-registration. In the course of our work, we observed that the often requested the following:

• proof of the existence of an endowment in the case of a fund (the law explicitly does not require it)
• a fixed number of members on the board (some judges register boards with the number of members defined from a minimum to a maximum)
• names of chairpersons to the board, who shall assume their offices only after re-registration (in many cases, the existing foundations have only one executive officer – the custodian of the endowment – while according to the new law, after re-registration, there must be a board of directors)
• signatures of all the board members from the existing foundation (even if there was no such board)
• the annual balance sheet (not required by law)
• precisely defined granting rules instead of a general framework for granting, as required by the law
• a signature of an attorney at law empowered to represent the foundation before the court (thereby rejecting the set of signatures from the members of the statutory organ, or rejecting the document signed by the chairperson of the statutory organ)

We also observed that the court makes subjective judgments on the acceptability of a percentage limiting administrative costs. There was a case where a foundation that received funding from abroad and distributed substantial amounts of money to Czech COs, was told by the judge that the percentage limit was immorally high and thus, rejected the foundation’s proposal for registration on this ground.

In cases of registering a PBC as a successor to an existing foundation, the courts in many instances accepted the situation where the founders of the PBC were not identical to those of the former foundation; while in other cases, such a situation was found to contradict the law. In this respect, it should be reiterated that the law does require the statutory organ of the foundation to decide on its transformation into a PBC, and nothing is said about continuity of the founders. In another case, the original founder died, so the implication of continuity would not be possible at all. Besides that, the founders of a PBC have continuous responsibility to appoint the members of the board of directors to the PBC, while no such requirement applies to the founders of a foundation or a fund. It is hard to believe it, but we have documented even the decision of the Prague Commercial Court, made on December 26th, just five days before the end of the transitory period set up by the law, that it will reject an application if its founders are not identical to those of the original foundation.

When approached for its strange or clearly inconsistent decision making, some judges answered rather arrogantly that this is simply proof of the low quality of work by the Parliament.

The right of appeal will be applied in most of the above-mentioned cases. Some of the judgments of the Court of Appeals will have, hopefully, a regulating effect on the future decision making by lower level courts. Unfortunately, in several instances the present judgment caused serious damage to the existing foundations (loss of donations, trust, persons willing to work, time and money). Several negative or unduly hard decisions of the court has already caused a damage to the whole CO community in the Czech Republic, because a few extremely important foreign independent foundations are not willing to continue their support of Czech organizations under such unfavorable conditions created by the false or misinterpreted application of the new laws.

Conclusions

What are the lessons from the experience described above?

1. The courts and the judges should have been instructed on the intended use of the law to avoid contradictory decision making in identical cases.
2. The right to appeal must be made available to remedy the situations and to provide for more consistent court decision making. If necessary, the cases on appeal should be raised to the level of the Supreme Court of the Czech Republic, whose ruling is binding on all lower level courts.
3. The CO community should request that amendments be made to the laws.
4. Any future or amended law should explicitly require that the registering agent allow for corrections of any faults found in the documents submitted for registration before making its final review.
5. The Parliament and the Government of the Czech Republic must be informed about the situation and asked to take measures to prevent such future developments in this case, as well as in implementing other laws.

Note

1 See in Preamble, The working group on issues relating to formation, registration and dissolution of NGOs: Conference “Regulating Civic Society” 12-15 May 1994, Sinaia, Romania: point 4 and point 13 under Topic #2