Compensation in the not-for profit sector has been a consistent lightning rod for the IRS and other federal governing bodies, as well as for states, for many years.

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June 2014
Not-for-Profit Compensation Controversies Continue to Add Fuel to the Fire
Compensation in the not-for profit sector has been a consistent lightning rod for the IRS and other federal
governing bodies, as well as for states, for many years. Former IRS Exempt Organization Division Director
Lois Lerner stated that “amounts reported appear high but also appear supported under current law. For some,
there may be a disconnect between what, as members of the public, they might consider reasonable, and what
is permitted under the tax law.”1 Back in 2006, Sen. Chuck Grassley (R-Iowa) stated in an open editorial that
he has "identified key areas of concern, including: excessive compensation perks, pay and sweetheart deals
involving officers and directors.”2 These comments were in general reference to a small group of nonprofits,
and, taken out of context, both statements may negatively impact the missions of the remaining sector.
The reality of making general statements such as these is that it paints the entire sector with the brush of
“overcompensation.” Lerner’s statement was made in regards to the IRS Exempt Organization Division’s
Nonprofit Hospital Project Final Report, which was very limited in scope. The study took into account only 20
nonprofit hospitals in review of their executive compensation practices. In addition to her statement above,
Director Lerner stated that “nearly all the compensation amounts we reviewed were reasonable under the
current statutory standard, even though some of the amounts were quite substantial.”
The latest salvo comes from House Ways and Means Committee Chair Dave Camp's Tax Reform Act of 2014
(“the 2014 Act”). Title V contains many provisions that would affect the not-for-profit sector if enacted,
including:
1. Name and logo royalties treated as unrelated business taxable income
2. Unrelated business taxable income separately computed for each trade or business
3. Exclusion of research income from unrelated business taxable income limited to publicly available
research
4. Increase in specific deduction against unrelated business taxable income
5. Modify rules concerning qualified sponsorship payments
6. Excise tax based on investment income of private colleges and universities
7. Excise tax on executive compensation exceeding one million
8. Eliminate the rebuttable presumption of reasonableness
The last two items are of particular concern in the area of compensation.
Under current law, exempt organizations may pay compensation exceeding $1 million if it is reasonable. The
2014 Act would impose on the tax-exempt organization a 25 percent excise tax on compensation in excess of
$1 million paid to one of the top five highest paid employees. This includes deferred compensation and
parachute payments.

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Many individuals working for not-for-profit organizations forgo reasonable compensation and are not afforded
benefits similar to those of their for-profit counterparts due to financial constraints of their organizations. Many
have deferred compensation agreements which were implemented to compensate these individuals for these
compensation and benefits deficiencies. These agreements stretch back many years and are owed for their
many years of service. Similar to retirement plans, these payments would be subject to tax upon disbursement.
An “exit tax” of 25% would essentially be assessed upon retirement.
The 2014 Act also proposes that disqualified persons may no longer rely on compensation consultants to avoid
the excise tax on excess benefit transactions. This would remove the use of the rebuttable presumption of
reasonableness by organizations.
Under the intermediate sanctions regulations, an exempt organization may avail itself of a rebuttable
presumption in certain cases with respect to compensation arrangements and property transfers. Payments
under a compensation arrangement are presumed to be reasonable, and a transfer of property, or the right to
use property, is presumed to be at fair market value, if:
1. the arrangement or terms of transfer are approved in advance by an authorized body of the
organization composed entirely of individuals who do not have a conflict of interest with respect to the
arrangement or transfer;
2. the authorized body obtained and relied upon appropriate data as to comparability prior to making its
determination; and
3. the authorized body adequately documented the basis for its determination concurrently with making
that determination.
If these requirements are satisfied, the IRS may overcome the presumption of reasonableness if it develops
sufficient contrary evidence to rebut the probative value of the comparability data relied upon by the authorized
body.
How do you determine reasonableness if you remove the one method provided to the organization to
determine adequate compensation? The method was established and promoted by the IRS to clearly define a
method to provide not-for-profits a way to reasonably and adequately compensate their employees. The
rebuttable presumption of reasonableness method and the revision of Form 990 provide the transparency and
governance considerations the public and legislature both agreed were desperately needed.
State Initiatives
Many state legislatures across the country are taking a close look at not-for-profit executive pay, with some
considering implementing salary caps. States from Florida to Massachusetts are examining pay limitations for
not-for-profit leaders.
Massachusetts:
Recently, Massachusetts Attorney General Martha Coakley reviewed not-for-profit compensation in the
Commonwealth. Coakley in her report indicated that “nonprofit groups in Massachusetts are paying their chief
executives huge amounts of money and giving them lavish perks unavailable to most workers.” The study
addressed the compensation of 25 of the largest public charities in Massachusetts out of more than 23,000.

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If you survey large organizations, you naturally have large compensation packages. Attorney General Martha
Coakley confirmed as much with her conclusion, “At the same time, the largest public charities are complex
organizations in their own right, and demand a level of executive ability that is at least commensurate with that
complexity.”
Coakley’s report looked at top salaries at 25 large organizations, including insurance providers, higher
educational institutions, and hospitals. The study found that the largest not-for-profits with the highest paid
executives were typically in the health care and education realms. Compensation for these CEOs ranged from
$487,000 to $8.8 million per year (including all forms of compensation).
According to an Associated Press analysis, median total compensation in 2011 for Standard & Poor’s 500 (for-
profit) CEOs was $9.6 million. According to a Charity Navigator analysis conducted around the same time, the
median compensation package, which included salary, cash bonuses and expense accounts, but not
contributions to benefit plans or deferred compensation, for an executive at a mid-size to large not-for-profit
was around $145,000 to $244,000, and pay for executives at the largest charities around $423,000. This would
indicate that if the population of Coakley’s report sample was expanded, the sector would produce more
accurate and fair results.
So, should not-for-profit CEOs receive compensation at a level on par with their for-profit counterparts? This is
the classic argument that working for a “charity” should mean a donation of a portion of that individual’s
compensation via a salary discount.
Many in the not-for-profit arena argue that not-for-profit executives should be paid just like their for-profit
counterparts, and that the organization’s not-for-profit status should not enter into the compensation
discussion. Reaching parity could be a very expensive proposition for some organizations in the not-for-profit
world, particularly those that pay around the median salary level.
New York:
Recent regulations implemented Governor Andrew Cuomo's Executive Order No. 38 which placed limitations
on executive compensation and administrative expenses for covered providers, as defined in the regulations.
The Governor set a limit of $199,000 on the amount of state money that contractors can put toward paying
their executives, both non-profit and commercial. Non-profits that refuse to reduce executive pay could lose
their entire grant or contract.
The revised regulations clarify that a “covered provider” is an organization that (i) received New York State
funds in excess of $500,000 in an average annual amount over the prior two years and (ii) at least 30% of its
prior year funding came from in-state revenues.

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A “covered executive” is:
1. Any director, trustee, managing partner, or officer of a covered provider
2. Any employee if his or her compensation is equal to or exceeds $199,000 during a reporting period; or
3. The executive of a related organization that the non-profit contracts with for administrative or program
services.
The “total compensation” is any reportable payments (salary, bonus, etc.) or benefits (direct or indirect) to a
covered executive.
The regulations were published as final in the May 29, 2013 New York State Register, with an effective date of
July 1, 2013.
Florida:
Not all lawmakers have met with success. The State Senate Committee in Florida approved a bill to cap
salaries at state-funded non-profits at a rate no higher than the salary of Florida’s highest-paid elected official.
Lawmakers introduced that bill after discovering that compensation at the state’s 20 leading community-based
care organizations exceeded $350,000 in salary and bonuses in some cases. However, the bill died in the
Florida’s Governmental Oversight and Accountability Committee.
Amendment #407 was killed in committee when the amendment was reduced to a “report on the feasibility of
setting limits on the annual compensation of the executive staff of a non-profit corporation” to be performed by
the Inspector General.
Conclusions
The discrepancy between not-for-profit and for-profit compensation packages has charities, donors and
watchdog groups keeping a close eye on public opinion. According to Charity Navigator, not-for-profits need to
ensure that the pay structure they adopt – whatever that might be – is easily defensible.
With this increased scrutiny comes increased due diligence in implementing policies and procedures to protect
your organization from actual and perceived notions of overcompensation. Executive compensation
arrangements should be monitored and reviewed by the appropriate board committee for variety of reasons,
both internal and external.
CBIZ MHM is keeping a close watch on the compensation discussion and will provide updates as new
developments arise. If you have any questions or comments, please contact your local CBIZ MHM tax
professional.
1 IRS Exempt Organizations Hospital Study Executive Summary of Final Report (February 2009)
2 Sen. Chuck Grassley (R-Iowa), Strengthening the Nonprofit Sector, The Hill, July 12, 2006

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