Nonprofit Compensation: What is too much? …and who decides?

Are you tired of hearing, "That nonprofit pays its employees too much!" If every nonprofit board followed IRS guidance on setting the compensation of its key staff leaders, perhaps we wouldn’t hear that refrain as often. So board members, please do your part by embracing your role as defenders of the nonprofit sector’s right to pay its employees reasonably and fairly. Help us change the conversation from, "What compensation is excessive?" to "What compensation levels will help our organization build its capacity by hiring and retaining terrific staff?"

First, know the process for reviewing the annual compensation of the executive director. Second, be aware of the downside of NOT engaging in an annual compensation review. (Bad press, lack of donor confidence, and potentially IRS penalties….need we say more?)

Background: Under federal law, a charity may not pay more than "reasonable" compensation for services rendered. Although the Internal Revenue Code does not require charities to follow a particular process for determining the appropriate level of salary and benefits, it is clear that compensation for board members, officers, key employees (and others in a position to exercise substantial influence over the affairs of the nonprofit) should be determined by persons who are informed about what comparable nonprofits pay their employees, and who have no financial interest themselves in approving the compensation. (Source: IRS, Governance and Related Topics - 501(c)(3) Organizations 3-4 (2008)). These are the general guidelines offered by the IRS – but the IRS Form 990 offers specifics.

The IRS Form 990 asks nonprofits about the three-step process used to approve the compensation of the executive director/CEO (and certain other key employees): Did the process for determining compensation of the following persons include a (1) review and approval by independent persons, (2) comparability data, and (3) contemporaneous substantiation of the deliberation and decision?(See Section VI, Part B, line 15, of the Form 990.) Nonprofits that follow this three-step process are generally able to take advantage of what the IRS refers to as a "rebuttable presumption" that the compensation is reasonable, thereby protecting the nonprofit and the board members from sanctions that can be imposed by the IRS if it finds that the compensation was not reasonable.

Visit the National Council’s website for more information on how to measure comparability of compensation, and visit the IRS website for background on what can happen if a board fails to demonstrate it followed this 3-step rebuttable presumption process [hint: intermediate sanctions].

Demonstrating that your nonprofit has approved the compensation of the executive director/CEO in a thoughtful, deliberative process is a basic fiduciary responsibility of every nonprofit board. Here are some pointers:

• The process of reviewing executive compensation should recur whenever there is an adjustment to the executive director/CEO’s compensation.

• Having a written policy can help keep the process on track. ( See sample policy).

• The "executive compensation review" should be conducted by persons who are "independent" (not paid by the nonprofit). Many nonprofits use a sub-committee, such as a "compensation committee" made up of board members and volunteers, or the executive committee, to conduct the initial review and then make a recommendation to the full board.

• Having the full board approve the compensation of the executive director/CEO is consistent with being a transparent and accountable organization.

• Documentation of what the board’s decision was based on (such as comparability data) and of the fact that the board carefully deliberated and approved the CEO’s compensation is critical. Minutes of the meeting should include enough details so that if the board’s decision is questioned, the process the board used to determine that compensation is "reasonable" will be clear.

• "Compensation" means both salary and benefits, so if an executive director receives a salary but also other fringe benefits such as insurance, or a car or housing allowance, all those elements must be totaled together to determine the annual compensation.

There are many more resources on the National Council’s website, including a sample Policy for Review of Executive Compensation and a link to a virtual seminar on this topic presented at a symposium at Columbia Law School for state charity regulators by legal experts on executive compensation for tax-exempt organizations.

Read about additional governance policies that your nonprofit’s board should be aware of.

Nonprofits Discuss Collaboration

More than 140 people representing over 70 nonprofit organizations converged on Bethel Woods Center for the Arts for a watershed summit that organizers hope will translate into more efficient and less costly organizations.

The day-long schedule of panel discussions and group brainstorming sessions drew executive directors, board members and representatives from organizations providing services ranging from arts education to support for people with developmental disabilities.

If nothing else, they heard one clear message: that collaboration could help nonprofits not only survive but thrive amid a retreat in giving by private donors and governments that is likely to endure.

"If we're all going to survive, we have to find new ways to collaborate and work together," said Sullivan County Legislature Chairman Jonathan Rouis, who has been pushing for a summit since 2009.

Summit organizers hope the face time and brainstorming will eventually spur collaborations or resource-sharing that could prevent the duplication of services and save money.

"The goal really was to take nonprofits off their islands," said Amanda Speer, Cornell Cooperative Extension's family and youth development team coordinator and chair of the summit's organizing committee.

"Before any of the ships start sinking, how do we work together to keep each other afloat," she said.

Jonathan Drapkin, Pattern for Progress president and chief executive officer and former Gerry Foundation executive director, laid out the challenges facing nonprofits as private and public funding shrinks.

He cited Greene and Columbia counties, which share a community college, and the merger of three school districts into the Sullivan West School District as examples of successful collaborations.

"Either you try to be the masters of your own fate or you wake up and find that fate has taken its own course," said Drapkin.

Darrin Raynor, assistant executive director for New Hope Community Inc., said he attended in hopes of sharing ideas and finding out about different organizations. "The opportunity to see the other organizations and hear what they have to say is priceless," he said.

Elena Goyanes, a board member for Catskill Arts Society, said, as she ate lunch, that she was already thinking of ways she could work with some of the groups represented at the summit.

"It's stirring thoughts of how we can further reach out into the community," she said.

From the Times Herald-Record online.

Building Opportunities 2011: The Nonprofit Shared Space and Services Conference

Join us for three days of practical tools to create successful nonprofit shared space and services.

Building Opportunities 2011 is the largest event in North America dedicated to creating and managing shared nonprofit workspace, administrative services, technology, and programs. Learn from The NonprofitCenters Network's ten years of collected best practices. Join leaders from the nonprofit, philanthropic, business, and public sectors as we discuss WHAT WORKS in shared space and services.

Gather comprehensive information on:

• Nuts and bolts of creating and operating multi-tenant nonprofit facilities
• Proven models of success for sharing administrative services, technology, and programs
• Commercial and nonprofit financing options
• Cost-saving solutions for quality, efficient operations
• Tools to evaluate and amplify the impact of your collaborative space project
• Successful strategies for community-building, ownership and governance, and cross-sector partnerships

View the Conference Agenda

What to expect:

• Significant networking opportunities
• Over 20 new workshops and discussions covering diverse topics, incuding community-building and facility operations
• Dynamic speakers from across the design, real estate, and financial sectors, as well as nonprofit sector leaders
• New conference ambassador program to foster peer-to-peer learning
• Thought-provoking plenaries exploring proven impact and future directions for the shared space and services movement
• Tours of nonprofit center facilities in the Los Angeles area
• Valuable resource materials to take home

Learn more and register today.

DATES:
May 9 - 11, 2011

LOCATION:
Center for Healthy Communities at
The California Endowment
1000 North Alameda Street
Los Angeles, CA 90012

COST:
Early Bird through April 1
NCN Members: $295
Non-Members: $495

After April 1
NCN Members: $375
Non-Members: $575

Group Discount:
10% off total amount with 2+ registrants from an organization

Fiscal Sponsorship = Sharing Tax-Exempt Status

How can a nonprofit raise money if it is not tax-exempt?

An organization that is not tax-exempt (either because it has not yet been recognized as tax-exempt by the IRS or has had its exemption revoked) can arrange with another organization that is tax-exempt to serve as its "fiscal sponsor." The role of the fiscal sponsor typically includes handling the administrative responsibilities of receiving and administering charitable contributions on behalf of the sponsored organization. (The fiscal sponsor may be paid a reasonable fee for this administrative service.)

In essence, fiscal sponsorship is a relationship in which the tax-exempt status of one organization is effectively shared with a sponsored organization/program. The sponsored organization benefits because contributions are made to the fiscal sponsor (which is tax-exempt). This allows donors to receive a deduction for their contribution, which generally smooths the way for financial support.

• Because of the administrative responsibilities involved, it is best to memorialize fiscal sponsorship arrangements in a formal written agreement.
• There are other reasons to consider a fiscal sponsorship relationship in addition to fundraising. Many organizations rely on their fiscal sponsor for other functions, such as bookkeeping, human resources, and various administrative roles.

Did you know?
The IRS will soon release a list of nonprofits that have had their tax-exempt status automatically revoked for failure to file 990s with the IRS for three consecutive years. If a nonprofit loses its tax-exempt status but still wants to fund its operations on a temporary basis while it reapplies for tax-exempt status with the IRS, it will need a way to continue to attract deductible contributions in order to deliver its mission in the community. Fiscal sponsorship may be one answer.

Read all about fiscal sponsorships from the Resources section on the National Council’s website: what they are, why an organization might consider using a fiscal sponsor, and what risks and advantages they provide to the nonprofit serving as a fiscal sponsor.

• Looking for a fiscal sponsor or willing to serve as one? Search or sign up using the Fiscal Sponsor Directory. Local community foundations and State Associations may also be helpful resources for finding fiscal sponsors. Some organizations that serve as incubators/fiscal sponsors are listed on our website.
• Stay out of trouble with this post by NonprofitLaw Blog author Gene Tagaki, Esq., that offers advice about what to avoid when engaging in fiscal sponsor relationships: Fiscal Sponsorship – Six Ways to Do it Wrong.
• If your organization is considering becoming a fiscal sponsor, or using one, read about recommended best practices for fiscal sponsors developed by the National Network of Fiscal Sponsors.
• Put it in writing! Suggestions for what to include in a written agreement or memorandum of understanding between a fiscal sponsor and the sponsored organization are set forth on page 5 of this monograph: On Comprehensive Fiscal Sponsorship, by Joshua Sattely, Third Sector New England (2009).
• Debunk the myths and learn about the untapped potential of fiscal sponsorships from this report, More than Money- Fiscal Sponsorship’s Unrealized Potential, BTW Consultants, (May 2007).
• Before you take the plunge, learn from others: The experiences of 200 fiscal sponsors are described in the Fiscal Sponsorship Field Scan, a report based on the first-ever survey of fiscal sponsors conducted by the Tides Foundation (2006).
• More fiscal sponsorship resources from CompassPoint.

How could a nonprofit lose its tax-exempt status?

A nonprofit could lose its tax-exempt status in a number of ways.

• Read about risky activities that – when engaged in by a nonprofit – could jeopardize tax-exemption.
• Most tax-exempt organizations, other than churches, must file an annual return (Form 990) with the IRS – if they do not, they face automatic revocation if they fail to file annual reports for three consecutive years.
• Check the at-risk list. The IRS website provides a state-by-state list of organizations at-risk of losing their tax-exempt status. In some states there are over 12,000 organizations (just in that state) listed!

Guidance for donors to section 501(c)(3) organizations: You may rely on the organization’s determination letter or listing in Publication 78 to deduct contributions until the IRS publishes a notice on IRS.gov that the organization’s 501(c)(3) exempt status has been automatically revoked.