Notebook with "Tax Law" on a desk

Tax Cuts & Jobs Act (PL115-97) changed IRS rules on excess tax-exempt organization executive compensation.

Before the new Jobs Act, the IRS had reasonableness requirements and a prohibition against private inurement with respect to executive compensation, but no excise tax tied to the amount of compensation paid.

Starting in 2018, nonprofits are subject to a 21% excise tax on an organization’s “covered employees” who receive excess compensation or parachute payments. The tax is imposed at the corporate tax rate on the sum of: (1) the remuneration (other than an excess parachute payment) in excess of $1 million paid to a covered employee for a tax year; and (2) any excess parachute payment (defined below) paid to a covered employee.

Covered employee means any employee (including any former employee) of an applicable tax-exempt organization if the employee: (A) is one of the 5 highest compensated employees of the organization for the taxable year, or (B) was a covered employee of the organization (or any predecessor) for any preceding taxable year beginning after December 31, 2016. (IRC 4960).

Excess parachute payment means an amount equal to the excess of any parachute payment over the portion of the base amount allocated to such payment, if (i) such payment is contingent on such employee’s separation from employment with the employer, and (ii) the aggregate present value of the payments in the nature of compensation to (or for the benefit of) such individual which are contingent on such separation equals or exceeds an amount equal to 3 times the base amount.

Exception. An excess parachute payment does not include any payment (i) to a qualified retirement plan described in section 280G(b)(6), (ii) to an annuity contract described in section 403(b) or section 457(b), (iii) to a licensed medical professional (including a veterinarian) to the extent that such payment is for the performance of medical or veterinary services by such professional, or (iv) to an individual who is not a highly compensated employee as defined in section 414(q).

Base amount. Rules similar to the rules of 280G(b)(3) shall apply for purposes of determining the base amount.

Property transfers; present value. Rules similar to the rules of paragraphs (3) and (4) of section 280G(d) shall apply.

Although the new law is already in effect, the AICPA Exempt Org Technical Resource Panel (EO-TRP) has raised a number of compliance concerns with the IRS and has requested delayed implementation or timely guidance. We will keep you informed as more guidance becomes available.