What Is Self-Dealing?
Self-dealing is when a fiduciary acts in their own best interest in a transaction, rather than in the best interest of their clients. It represents a conflict of interest and an illegal act that can lead to litigation, penalties, and termination of employment for those who commit it. Self-dealing may take many forms but generally involves an individual benefiting — or attempting to benefit — from a transaction that is being executed on behalf of another party.
- Self-dealing is an illegal act that happens when a fiduciary acts in their own best interest in a transaction, rather than in the best interest of their clients.
- Self-dealing can consist of actions such as using company funds as a personal loan, assuming a deal or opportunity for oneself, or using insider information in a stock market transaction.
- For self-dealing transactions involving nonprofits or private foundations, the IRS is permitted to impose a 5% tax on each act of self-dealing.
How Self-Dealing Works
Self-dealing may involve many types of individuals who work under the guidelines of fiduciary responsibility. They may include trustees, attorneys, corporate officers, board members, and financial advisors, among others. Self-dealing may consist of a variety of actions seeking to inappropriately enrich oneself, such as using company funds as a personal loan, ignoring a duty of loyalty to an employer to assume a deal or opportunity for oneself, or using insider or non-public information in a stock market transaction. Self-dealing may take many forms. It does not need to always directly enrich the individual committing the act, but can be on behalf of another party.
Examples of Self-Dealing
One example of self-dealing would be if a financial advisor knowingly advised his clients to purchase financial products that were not in their best interest (such as too expensive or unsuitable) to earn a bigger commission. Some other examples include:
- If a broker received a sell order for stocks from a client but sold their shares of that same company before selling their client’s shares.
- If a partner in a business pursued an opportunity that was meant for the partnership as a whole and did not tell the other partners.
- If the officer of a company only awarded a contract to a vendor under the condition that the vendor provided an internship to the officer’s son.
- If an editor in charge of producing and managing a web site outsourced some tasks to a company they partly owned on the side at a higher-than-necessary price and did not inform management.
Self-Dealing With Nonprofits
As it relates to nonprofits, self-dealing is written into the United States Code (26 U.S.C.A. § 4941). The Internal Revenue Service (IRS) is permitted to impose a 5% tax on each act of self-dealing committed by a disqualified person with a private foundation. A disqualified person may be a trustee, director, officer, relative, or key contributor to the foundation, among others. Prohibited under the rule are transactions that include loans, leases, sales, exchanges, some types of compensation, and transfer of assets to a disqualified person. For more information, the IRS guide on self-dealing has useful information on specifics.