IRS Hot Button Issues Put Exempt Organizations at Risk for Penalties

May 9, 2011

The biggest area of IRS audit concentration regarding noncompliance related to governance issues for tax-exempt groups is executive compensation, according to IRS Director of Exempt Organizations Lois Lerner. If an executive is paid too much, the organization, the executive, and the board members who made the decision to pay the unjustifiable salary risk paying penalties. The IRS is also imposing intermediate sanctions against exempt organizations not treating fringe benefits as income.

Executive Compensation

“It is the board’s ultimate responsibility to set executive compensation, and that function should not be delegated to a consultant, specialist, or one individual. A committee of the board can be delegated to do that work, but the full board should be asking many questions when that information is presented,” Lerner noted. If an executive is paid too much, not only the organization and the employee, but also the board members who made the decision to pay the unjustifiable salary risk paying a penalty on the amount that is deemed excessive.

Furthermore, “the intermediate sanction rules that apply to tax-exempt organizations also create a category of automatic excess benefit transactions,” Lerner said. These are transactions where the compensation paid to an individual is reasonable, but in the process of using the IRS “rebuttable presumption of reasonableness,” the organization leaves a certain piece of the compensation out of its documentation, which will then trigger an automatic imposition of some taxes.

Fringe Benefits

Fringe benefits are probably the most common area where the IRS is imposing intermediate sanctions against exempt organizations under Section 4958 of IRC. Charity executives may be receiving fringe benefits as part of their compensation package, but some tax-exempt organizations are failing to include the value of those benefits when calculating the total compensation paid to executives.

The IRS is conducting the National Research Program, a three-year study focusing on uncollected taxes in the area of employment, for taxable and nontaxable entities. If an organization does not treat fringe benefits provided its chief executives as income, it will be considered an automatic excess benefit, according to IRS officials.

 

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