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Peter Lorenzetti, a manager in the Exempt Organizations division of the IRS, was among the speakers at this week's "Nonprofit Governance: Critical risk management issues for boards and CEOs" program, sponsored by Georgetown U. Law CLE.
Lorenzetti answered two questions that were on participants' minds: "What will the IRS look at on every audit we do?" and "What is the far-and-away most common area of risk for nonprofits that we have identified?”
The answer: “Automatic excess benefits.” He said the IRS is paying a lot of attention to executive compensation, and benefits are taken into account. If a benefit wasn't reported as taxable income and should have been, that “crosses the line into automatic excess benefit - regardless of its value” or whether the sum is defensible when combined with reported income.
These are the key questions for the board to ask:
- Was the compensation decision made by independent personnel?
- Did the board obtain comparable data to support the compensation decision?
- Does the board take into account “all elements” of compensation?
- Did the board document the basis for the decision “in contemporaneous minutes”?
- Are all elements of compensation properly recorded and disclosed on the correct tax forms?
More practical hints
• Board minutes that say the compensation committee “fully reviewed compensation” isn’t sufficient. There are “no set rules, but the more disclosure the better.” It is likely sufficient to disclose that the review was based on a study; describe the study, do not attach it to the board minutes, but have it at the ready if an IRS audit ensues.
• Support for reimbursement of executive expenses is important, and should be internally audited periodically.
• A credit card statement is not adequate documentation. For instance, a hotel bill that appears on a credit card bill generated at a conference does not disclose the details of use of the minibar. The actual hotel bill is necessary.