Nonprofit Tax and Governance Duties Checklist – Part III
A Checklist of Duties with Tax and Governance Implications – Part 3
Documentation and accountability are important aspects of nonprofit operations because of the unique challenges and responsibilities these organizations face: a mission-driven nature, reliance on donors, and a commitment to serving the community.
The following information can help you stay organized and more easily track processes. For information, contact your Brady Ware nonprofit advisor.
Conduct a Compensation Review
The compensation paid by an exempt organization to its trustees, directors, officers, key employees and highly compensated employees is generally scrutinized during an IRS audit. The recipients of compensation [from Section 501(c)(3) public charities, (c)(4), and (c)(29) organizations] deemed excessive can be assessed an excise tax on the excess amount. Under certain circumstances, the organization’s managers may also be assessed an excise tax.
Employers typically bear the burden of demonstrating that compensation is reasonable. However, an organization can shift the burden to the IRS if it satisfies certain safe harbor requirements. One of these is that the governing body (or committee) that approves compensation arrangements does so while relying on appropriate data from comparable organizations.
To be considered reasonable, compensation should not exceed the amount typically paid for comparable services by similar organizations operating under similar circumstances. Comparable data sources include compensation information from similar organizations (both non-profit and for-profit), surveys of compensation practices in the relevant geographic area, and actual job offers from similar institutions seeking to hire individuals with similar qualifications and experience.
Observations
Fulfilling the comparable data requirement of the safe harbor rules can pose challenges. For instance, the College and University Project, (a study conducted by the IRS to assess the reasonableness of compensation paid by private schools) revealed that nearly 20% of schools failed to adhere to the safe harbor standard due to non-comparable data.
Examples of Problems Identified by the IRS:
- Relying on data from schools that weren’t similarly situated, because at least one of the following factors were dissimilar: location, endowment size, revenues, total net assets, number of students and selectivity;
- Using compensation studies that didn’t document the selection criteria for the other schools and not explaining why they were deemed comparable; and
- Using compensation surveys that didn’t specify whether amounts reported included salary only or also included other types of required compensation.
The IRS report is a reminder that relying on compensation data that is somewhat generic won’t satisfy the safe harbor test.
Actions to Consider:
If you plan to rely on the safe harbor rules in connection with salary reviews, you should identify specific criteria for data comparability and possible sources of comparable data.
Brady Ware Nonprofit Advisors want to help you fulfill your mission with financial health and compliance services and a network of nonprofit consultants who specialize in strategic decision-making.
Questions?
Thomas serves a wide range of clients with a special interest in nonprofit organizations. He works with his clients to address various needs, including the development and implementation of a strong internal control environment and various other accounting, tax, and system issues with the ultimate goal of helping organizations achieve their missions.