Compensation Considerations for Attracting and Retaining Not-for-Profit Executives

May 29, 2018

Recruitment efforts in the not-for-profit sector can be especially challenging in today’s near record-low unemployment economy, where professional opportunities abound for competent business executives and limited not-for-profit budgets can make it difficult to compete with the for-profit world.

It is a common misconception that not-for-profit organizations need to have the same compensation packages as for-profit organizations to attract and retain top talent. This assumption is especially untrue in smaller notfor- profits, where executives are typically driven to the position by their passion for the organization’s mission – not primarily by compensation incentives.

However, for larger not-for profits, monetary compensation may come into play more often when attracting top talent. The needs of these organizations are more complex, requiring extensive experience and business acumen in the areas of governance and fraud prevention, among others.

Fortunately, there are also non-financial elements of a compensation package that not-for-profits can take advantage of when recruiting senior-level executives.

Regardless of size, every not-for-profit should begin their recruitment efforts with a careful consideration of all compensation options available.

 

TYPES OF COMPENSATION AVAILABLE TO NOT-FOR-PROFIT ORGANIZATIONS

FINANCIAL COMPENSATION

The first and most obvious consideration is financial compensation, which can be viewed as having two component parts:

• Direct Compensation starts with equitable and fair wages and salaries, bonuses and commissions provided at regular and consistent levels. This can also include performance-based incentive compensation packages. Other factors include market-driven adjustments and/or cost-of-living increases.

• Indirect Compensation includes all financial rewards that are not included in direct compensation. This can be understood to form part of the “social contract” between the employer and employee, such as employee benefits, leaves, insurance, educational reimbursements and employee services.

Retirement savings plans may include a traditional 401(k) and/or 457(f) nonqualified deferred compensation arrangement. The latter is a nonqualified retirement plan which gives the tax-exempt employer an opportunity to supplement the retirement income of its select management group or highly compensated employees by contributing to a plan that will be paid to the executive at retirement.

Indirect compensation includes all sorts of insurance plans: health, life, dental, vision, long-term care, short-term disability (STD) and long-term disability (LTD). It also covers paid absences/paid time-off (PTO) including vacations, holidays, sick leave, educational leave, jury duty and compassion leave.

 

NON-FINANCIAL COMPENSATION

Non-financial compensation starts with the job description, which should clearly spell out interesting duties, roles and responsibilities as well as the reporting structure to the board or Chairman. It should also address organizational challenges, the authority the hired executive will hold, degree of autonomy and authority over important decisions like hiring and firing, budgetary discretion and directional latitude from a strategic standpoint.

In either a formal or informal context, the hiring not-for- profit should also spell out how it plans to create opportunities for recognition, providing a feeling of achievement for the prospective employee, and any advancement opportunities that may be available down the road.

The work environment or professional setting should also be clear – in terms of offering fair and consistent workplace practices and policies. Not-for-profits typically offer a spirited and collaborative team-based workflow. The workplace should be safe and comfortable and attempt to stay on-trend with flexible scheduling and technology-enabled remote workplace access (secure laptops, tablets and smartphones).

THE ROLE OF THE BOARD OF DIRECTORS

When searching for an executive director/CEO of a notfor- profit organization, the board of directors is responsible for approving the job description, overseeing the search process, establishing the compensation package and ultimately hiring the best candidate.

When considering both financial and non-financial compensation options, the board’s objective should be to create a compensation package that is “reasonable and not excessive” while also appealing enough to attract the best talent to lead the organization.

 The IRS recommends that not-for-profits follow a three step process to determine whether or not compensation is reasonable and not excessive: (See also Treas. Reg. § 53.4958-6(a))

1. The board should arrange for an “independent body” (i.e. the person receiving the compensation should not be part of the review process) to conduct a “comparability review.” Many not-for-profits establish a “compensation committee” or look to their executive committee (or another sub-group/task force of board members) for this purpose.

2. The independent body should refer to “comparable” salary and benefits data, such as salary and benefit surveys, to learn what not-for-profit employers with similar missions, budget sizes and geographic location pay their senior executives.

3. The board/independent body that is conducting the review should document who was involved and their “independence” (i.e. no compensation received from the not-for-profit), as well as the review process and the disposition of the full board’s decision to approve the executive director’s compensation (meeting minutes are acceptable). The documentation should demonstrate that the board took the comparable data into consideration when it approved the compensation.

GOVERNANCE CONSIDERATIONS FOR EXECUTIVE COMPENSATION

By providing this consistent, comprehensive documentation of the basis on which the compensation was deemed to be reasonable and not excessive, the not for- profit organization shifts the burden of proof to the IRS to prove the unreasonableness of the compensation package. The organization should have the documentation reviewed by legal counsel as an additional safeguard. Not-for-profit organizations should also maintain, within the employee handbook, an established written review plan for each level of employee, with consistency between like employees. This plan will help the organization confirm that compensation is equitable for employees, commensurate of the services being provided.

PITFALLS TO AVOID WHEN DEVELOPING COMPENSATION PACKAGES

 

BEWARE OF DISQUALIFIED PERSONS

If the compensation package offered by a not-for-profit to a senior executive is deemed by the IRS to be “in excess” of reasonable compensation, the agency may flag that executive as a “disqualified person” and impose “intermediate sanctions” on both the executive receiving the compensation and the organizational managers (board) who approved it.

These sanctions were put into effect by the IRS in January 2002 as an additional level of regulatory oversight that stops just short of revoking the tax-exempt status of a not-for-profit organization engaged in shady behaviors. The regulations were sparked by some high-profile cases in which not-for-profit executives and other “insiders” (e.g. major donors, family members) took liberties with their organization’s money, spending it on items like luxury travel and excessive entertainment expenses.

STEER CLEAR OF UNACCEPTABLE FORMS OF COMPENSATION

The following are examples of benefits that would be considered “excessive” for senior management of not-for-profits:

• Chefs/Domestic Employees

• Car Service

• Housing – unless it is needed to meet specific requirements, such as close proximity to the organization in order for the executive director/ CEO to carry out the exempt purpose or mission

• Luxury Travel

Not-for-profit organizations are held accountable for their executive compensation through the filing of IRS Form 990 Return of Organization Exempt from Income Tax, which provides the public with operational and organizational information about the not-for-profit. This disclosure ensures that these organizations are conducting their business in a way that is consistent with their mission and demonstrates good stewardship of their budgets. Careful planning and consideration of all compensation options will help not-for-profits not only comply with the Form 990 requirements, but also attract and retain the top talent and skills their missions deserve.


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