IRS Expands Compensation Reporting Requirements for Non-Profits

Stephen D Kirkland
December 3, 2008 — 1,377 views  
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The Internal Revenue Service has revised and expanded Form 990, the form which is completed and filed annually by tax-exempt organizations.  The expanded form must be used for calendar year 2008 reporting (to be filed in early 2009).  It requires extensive disclosure of details about management compensation that were not previously reported to the IRS.  The form also now asks for an explanation of the process by which compensation amounts were determined.   

The IRS has focused on compensation amounts paid by tax-exempt organizations for years, and these new disclosure requirements are intended to help them quickly identify organizations which may have the most potential for abuse.  

Each non-profit filing Form 990 must complete the new Part VI, which asks specific questions about the organization's governance, management policies, and disclosure practices.  Although no particular structure or policies are required, the IRS believes that the absence of appropriate structure or policies may lead to "excess benefit transactions," such as the payment of unreasonable compensation to top employees.  Therefore, many of the new questions ask about the independence of directors, documentation of meetings and actions, conflicts of interest, whistleblower policies, and compensation practices.  The new questions concerning compensation include the following:

"Did the process for determining compensation of the following persons include a review and approval by independent persons, comparability data, and contemporaneous substantiation of the deliberation and decision?

a.  The organization's CEO, Executive Director, or top management official?

b.  Other officers or key employees of the organization?

Describe the process in Schedule O (see instructions)."

According to IRS instructions, in order to answer yes to questions a. and b. above, the process for determining compensation should include each of the following elements:

  • Review and approval by a governing body or compensation committee, provided that persons with a conflict of interest with respect to the compensation arrangement at issue were not involved. For purposes of this question, use the definition of "conflict of interest" set forth in Regulations section 53.4958-6(c)(1)(iii).
  • Use of data as to comparable compensation for similarly qualified persons in functionally comparable positions at similarly situated organizations.
  • Contemporaneous documentation and recordkeeping with respect to the deliberations and decisions regarding the compensation arrangement.

Schedule O of the expanded form asks for a narrative description of the compensation-setting process which includes identifying the offices or positions for which the process was used to establish compensation of the persons who served in those offices or positions, and state the year in which this process was last undertaken for each such person.

All organizations filing Form 990 will also be required to complete the new Part VII - Compensation of Officers, Directors, Trustees, Key Employees, Highest Compensated Employees, and Independent Contractors.  Questions here ask for the names of these individuals and the number of hours each one worked.  They also ask for compensation amounts paid by the organization (and by related organizations) to each current and former officer, director, trustee, key employee and highest compensated employee.  Names and amounts of compensation paid to the five highest paid independent contractors must also be listed.

Although the IRS does not require tax-exempt organizations to follow any prescribed format in setting pay levels, charity directors wanting to avoid the 10% excise tax under Internal Revenue Code section 4958 should ensure that:

1.  Compensation amounts are reviewed and approved by the Board in advance.

2.  Appropriate comparability data is obtained and relied upon prior to making decisions.

3.  The Board adequately documents the basis for its decisions concurrently with making the decisions.  

For more information on these three IRS conditions, please see Regulations section 53.4958-6 or visit www.CompensationOpinion.com.

An officer of the organization must sign the completed Form 990 under the penalties of perjury.

As in the past, copies of the completed Form 990 must be made available for public inspection.  Therefore, details disclosed on the form will be available to the organization's employees, donors, state regulators, and the media.

Stephen D Kirkland

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Stephen D. Kirkland, CPA, CMC, CFC is a compensation consultant with Atlantic Executive Consulting Group, LLC, based in Columbia, South Carolina. He helps businesses and tax-exempt organizations structure compensation plans for their executives. He also serves as an expert witness in U.S. Tax Court cases involving the reasonableness of executive compensation across the United States. He can be reached through www.ReasonableComp.biz .