Payroll for nonprofits adheres to principles that apply to employees and executives. First, nonprofits must consider payroll classifications. Do you hire direct employees or independent contractors? Ninety-five percent of the time, organizations hire employees. Second, nonprofits also should consider how much savings they will experience if they don’t have to cover payroll taxes. This, however, is not solely the organization’s choice. Even if a staffer agrees to be treated as a contractor, this status may not conform to IRS and state regulations. Third, nonprofits must consider the type of payment. Will you pay a straight salary or wages or will you provide bonuses and commission? According to the IRS, bonuses and commission are considered to be nonlinear compensation, and the IRS frowns on this arrangement for nonprofits as it may open the door to unreasonable compensation.
Consider the following example: Charity, Inc. hires two employees to manage fundraisers. They’ll be paid a small base salary, plus a percentage of the money raised at the event. That’s an IRS red flag. Employees should be paid according to the job description of the position. The IRS is worried about potential fraud or improper conduct if employees take advantage of fundraising for personal gain.
Establish the Going Rate
Even nonprofits compete with the for-profit workforce for talent, so setting the right level of compensation is necessary to attract and retain qualified employees. All organizations want to avoid high-turnover and headaches from failing to attract and retain high-caliber employees. To establish the going rate when you’re hiring new staff members, review comparability data, including salary and benefits from other nonprofits in like geographic areas that have similar budgets and missions. Many state nonprofit associations collect salary and benefit information by conducting regular surveys and producing state-specific reports.
Understand Overtime Compensation and Bonuses
For employees who work more than 40 hours a weeks, nonprofits must be apprised of the latest requirements governing overtime compensation. A best practice is for the entire board of directors to annually approve the executive director’s or the CEO’s compensation.
Although you can pay nonprofit employees bonuses, they are considered to be part of overall compensation. The IRS will scrutinize this compensation to ensure that no prohibited private benefit resulted from receipt of a bonus. Nonprofits must manage employees’ expectations so that they understand that bonuses are discretionary and contingent on budget limitations. Bonuses often are provided in recognition of an employee’s extra efforts or exceptional performance and are not automatic.
Note that the IRS considers compensation to include all income received (e.g., contributions to retirement accounts, housing, and car allowances) and any insurance premiums paid by your organization. Even club memberships are scrutinized, so ensure that they benefit the nonprofit and not the individual employee. Nonprofits must justify all compensation as reasonable and not excessive and must report compensation so that it is easy for others to see how staff members are paid.
Several national survey reports are available to help you evaluate your payroll practices and see how they align with others. Contact us for help setting up and fine-tuning your compensation practices.
To learn more about how our firm can serve your nonprofit organization, don’t hesitate to contact Kathy Corcoran at (302) 254-8240.
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