Exempt Organization Executive Compensation: Compliance is Critical as Curiosity Abounds
All types of exempt organizations struggle with how much to compensate their insiders, that is, their top management, financial executives and key employees. The stakes are high just from the financial and retention perspectives, but exempt organization boards also must ensure compliance with the maze of complicated IRS regulations and reporting requirements regarding executive pay. Excessive insider compensation can result in severe consequences for exempt organizations. They could lose their tax-exempt status or be required to pay hefty fines.
Compliance is critical given the IRS's focus on executive compensation arrangements. And the topic was further thrust into the glare of the spotlight with the enactment of the 2017 Tax Cuts and Jobs Act, which imposes a 21% excise tax on certain exempt organizations that provide their executives with more than $1 million in annual compensation. Below are a few ways in which the IRS—and the public—are watching exempt organizations in this area.
IRS Form 1023
Charitable organizations initially seeking recognition of exempt status by filing IRS Form 1023 must provide numerous disclosures regarding executive compensation. For example, Part V of Form 1023 is focused on compensation and other financial arrangements with insiders. For those meeting the definition as an insider; for each of the five highest compensated employees (who receive $50,000 or more a year); and for each of the five highest compensated independent contractors; names, titles, mailing addresses, and total compensation (actual or estimated) must be disclosed. In addition, Part V of Form 1023 requires the following disclosures for that same group:
- Family and business relationships among them
- Their receipt of compensation from other organizations related to the filing entity through common control
- The exempt organization’s compensation setting practices
- Conflict of interest policies as well as the handling of conflicts that could influence compensation
- Non-fixed payment arrangements for compensation
The disclosures made in Part V of Form 1023 may trigger additional inquiries from the IRS to process the Tax Exemption Application.
IRS Form 990
In addition to the Form 1023 disclosures, Form 990 contains a bundle of questions regarding executive compensation. For example, Form 990 Part VI requires disclosure of family and business relationships among the organization’s executives as well as conflict of interest policies and information about compensation-setting processes. Form 990 Part VII, Section A focuses on compensation disclosures for insiders (both current and former). Form 990 Part VII requires disclosure of insiders’ names, titles, hours per week, position, and Form W-2/1099-MISC and other compensation received from the organization itself as well as related organizations.
Aggregate compensation from all sources listed on Form 990 Part VII, Section A can trigger additional compensation disclosures on Schedule J. In addition, Part VII, Section B requires disclosure of the five highest compensated independent contractors receiving more than $100,000 from the filing organization.
Compliance with the compensation disclosures of Form 990 requires careful adherence to the applicable Instructions and knowledge of the many definitions of terms within them.
For a deeper dive into compensation reporting compliance and compensation-setting best practices for exempt organizations, AICPA Not-for-Profit Section members can view the archived webcast on Executive Compensation (search for date, February 28, 2018).