On Aug. 9, 2013, the Internal Revenue Service published a notice in the Federal Register seeking comments on the recordkeeping burden placed on public charities and social welfare organizations (as well as qualified nonprofit health insurance issuers) subject to the excess benefit transaction rules. Specifically, the IRS is seeking comments on the burden associated with obtaining comparability data and documenting decisions as part of the process of establishing the rebuttable presumption of reasonableness. This notice may be indicative of the continued interest of the IRS in the executive compensation practices of organizations subject to the excess benefit transaction rules. While it is unclear what the specific concerns of the IRS are on these matters, public charities and social welfare organizations should monitor future developments because of the importance of the rebuttable presumption of reasonableness in protecting the organization’s governing body from excise taxes and in minimizing the risk to its executives for excise tax liability.
Public charities and social welfare organizations (as well as qualified nonprofit health insurance issuers) wanting to avoid or minimize the risk of excise tax liability under the excess benefit transaction rules will take steps to raise the rebuttable presumption of reasonableness when setting the compensation of its executives. If an organization raises the rebuttable presumption of reasonableness, the executive’s compensation is presumed to be reasonable. This presumption shifts the burden of proof to the IRS, offers some protection against tax to the executive, and should fully protect the directors involved in setting the executive’s compensation from tax liability. Rather than the organization having to prove that compensation was reasonable, the burden shifts to the IRS to prove that the compensation was excessive.
One requirement that must be met in order to establish the rebuttable presumption of reasonableness is for the organization to obtain and rely upon appropriate comparability data. In addition, the organization must adequately and timely document the basis for its determination of reasonableness concurrently with making that determination. A small organization, meaning one with annual gross receipts of less than $1 million, is considered to have appropriate data as to comparability if it has data on compensation paid by three comparable organizations in the same or similar communities for similar services.
Under the notice, the IRS is seeking written comments on:
- Whether the collection of information is necessary for the proper performance of the functions of the agency, including whether the information has practical utility;
- The accuracy of the agency’s estimate of the burden of the collection of information (the IRS estimated the number of respondents using the rebuttable presumption of reasonableness to be 150,427 and the estimated time per respondent to be 6 hours, 3 minutes);
- Ways to enhance the quality, utility, and clarity of the information to be collected;
- Ways to minimize the burden of the collection of information on respondents, including through the use of automated collection techniques or other forms of information technology;
- Estimates of capital or startup costs and costs of operation, maintenance, and purchase of services to provide information.
Comments will become a matter of public record. Comments should be received on or before Oct. 8, 2013, and directed to Yvette Lawrence, Internal Revenue Service, Room 6129, 1111 Constitution Avenue NW, Washington, D.C. 20224. Requests for additional information or copies of the regulations should be directed to Kerry Dennis, Internal Revenue Service, Room 6129, 1111 Constitution Avenue NW, Washington, D.C. 20224, or Kerry.Dennis@irs.gov.
This notice does not affect or alter the final regulations regarding the rebuttable presumption of reasonableness under the excess benefit transaction rules, but it may indicate the continued interest of the IRS (as well as Congress) in the use of and reliance on the rebuttable presumption of reasonableness when setting executive compensation. This continued interest was also reflected in the final report on the tax-exempt colleges and universities compliance project, which the IRS released on April 25, 2013. In that final report, the IRS stated that it plans to use examinations and educational resources to make organizations aware of the proper use of comparability data when setting executive compensation.
Nonprofit and Tax-Exempt Organizations Group
Our nonprofit and tax-exempt organizations group provides advice and guidance that enable charities and other nonprofits to operate more efficiently and effectively in today’s increasingly complicated, regulated, and competitive environment.
Our education attorneys represent public and private colleges and universities. This representation includes statutory and regulatory compliance and investigation work relating to the Higher Education Act of 1965 and federal student aid programs. It also includes issues relating to NCAA investigations, faculty tenure, financing expansion, low-income housing, 501(c)(3) and other tax issues, student lending compliance and investigations, intellectual property, students and academics, housing, governance, endowment management, and construction.