Executive Compensation Compliance – Project Parts I & II

By Jennifer L. Ruck

Malin, Bergquist and Company, LLP

A recent 2007 IRS report on exempt organization executive compensation compliance has revealed that many charities are not properly disclosing executive compensation.  This study was prompted by Senator Chuck Grassley (R – IA), ranking member of the Senate Finance Committee.

Background - In 2004, the Exempt Organizations Office of the Internal Revenue Service’s Tax Exempt and Government Entities Division (EO) implemented the Executive Compensation Compliance Initiative (the Project).  The purpose of the Project was to review the compensation practices of exempt organizations in order to identify tax administration concerns and potential areas of abuse in the exempt sector.  It encompasses Forms 990 and related returns for tax year beginning in 2002. 

The Project - The project’s formal objectives include:

• Impact a broad cross-section of the Exempt Organization community through correspondence and traditional examination techniques.
• Increase the awareness of compensation as a compliance issue within the charitable sector and establish IRS enforcement presence in this area.
• Observe the practices and procedures used to determine the compensation of officers, directors, trustees, key employees and related persons.
• Assess and enhance tax law reporting and compliance.

The project was divided into three parts:

• Part I consisted of sending 1,223 compliance check letters to a sample of organizations whose Forms 990 and 990-PF indicated the need for follow up due to missing information: 1,023 public charities and 200 private foundations.
• Part II, the Examinations Phase, examined 782 organization to determinine whether the compensation of disqualified persons was reasonable and in accordance with Internal Revenue Code requirements.  A disqualified person is any person who was in a position to exercise substantial influence over the affairs of the tax exempt organization (IRC S4958(f)(1)).
• Part III was initiated based on the results of Part II and will be discussed at a subsequent date.

Key Findings - Some of the project’s key findings include:

• Significant reporting errors and omissions, specifically excess benefit transactions and transactions with disqualified persons, as well as potential compliance issues related to loans made to officers.  Over 30% of compliance check recipients amended their Forms 990.  However, the examinations closed so far have indicated that those examined were mostly compliant with section 4958 and private foundation self-dealing rules. 
• The examinations led to proposed excise taxes in excess of $21 million.  More than $4 million involved individuals associated with public charities and over $16 million related to individuals associated with private foundations.
• Additional education and guidance, as well as training for agents, are needed in areas of reporting requirements and the rebuttable presumption procedures that may be relied upon by public charities to establish appropriate compensation.
• Changes to the Form 990 series are necessary to reduce errors in reporting and provide sufficient information to enable the IRS to identify compensation issues.

Recommendations - Recommendations based on the results of Part I and II include:

• Future initiatives for assessing compensation compliance should consider breaking the project into smaller components, i.e., separating public charities from private foundations.
• Form 990 compensation reporting needs to be revised to facilitate accurate and complete reporting.
• The IRS should revisit the issues of when penalties should be assessed for filing an incomplete Form 990 or 990-PF.
• The IRS should communicate to the public the most common return preparation errors identified during the compliance checks and examinations.

For more information, please refer to www.irs.gov/pub/irs-tege/exec._comp._final.pdf or contact Malin, Bergquist & Company at 412.364.9395.

Reprinted from Duquesne University's Non-Profit Leadership Institute E-Newsletter - September 2007