People often think that nonprofit organizations run off of volunteers, or if they do have employees, they are poorly paid. This isn’t always true. Many nonprofit organizations have employees and they are well compensated for their work. Nonprofits tend to attract and retain top talent by giving their employees compensation that is similar or equal to for-profit organizations.
How to pay nonprofit employees
Nonprofit employees cannot be paid with commissions. Employees should not receive any personal gain from how much the organization raises in donations as this may promote fraud.
Figuring out how much to pay a nonprofit employee can be tricky. The IRS does not provide specific compensation amounts for nonprofit employees. Instead, it requires that organizations limit employees to “reasonable compensation.”
Reasonable compensation means the amount of compensation that would be provided by a similar organization in similar circumstances. Things to consider when determining reasonable compensation are:
- The organization’s industry or purpose
- Geographical location
- The employee’s duties
- How much time the job requires
- The employee’s education, skills, and experience
- How much others with similar jobs are paid
- How much employees at the same organization receive
The total reasonable compensation includes the employee’s salary, compensatory and fringe benefits, and other cash and non-cash compensation.
Typically, an organization will form a group or use a pre-established group—like a board of directors—to research an appropriate salary range for a particular position. Members of the group should not have any conflict of interest at work, meaning they should not have any benefits or losses from the determined salary. The group should record how they reached a decision on “reasonable compensation” so it can be reported on taxes and in case they are questioned.
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Come tax time, there are special things organizations have to do with information on officers, directors, trustees, key employees, and highly compensated employees. The compensation for all of these employees must be listed on Form 990. Nonprofits will also need to include the process it went through to determine reasonable compensation for employees.
Benefits
Nonprofit employees can receive the same benefits as for-profit employees. Often, nonprofits offer large benefit packages in order to compete with positions at commercial enterprises.
Benefits that nonprofit organizations might want to consider providing include vacation and sick pay, medical and dental insurance, retirement plans, flexible work schedule, and educational assistance.
Employees typically cannot receive bonuses since they are not trying to reach sales targets.
Nonprofit employees also cannot receive stock options, since there are no shares to own in a nonprofit organization. Sometimes, nonprofits will offer plans similar to stock options plans, but they instead receive shares in a mutual fund or a stock portfolio.
Payroll taxes
Just like for-profit businesses, nonprofits must withhold from employees’ paychecks federal, state, and local taxes. The organization must also match nonprofit payroll taxes such as FICA tax payments. Organizations are responsible for federal and state unemployment taxes (FUTA and SUTA) and workers’ compensation payments.
501(c)(3) organizations
Nonprofits that have 501(c)(3) status are different. 501(c)(3) status makes an organization exempt from federal income tax (FITW). Organizations with tax-exempt status do not need to withhold FITW or FUTA taxes.
501(c)(3) organizations must still withhold Social Security and Medicare—both FICA taxes. Keep in mind that there are two ways for a nonprofit to become exempt from withholding FICA taxes:
- The employee is paid less than $100 in a calendar year
- The organization is a church or a church-controlled organization opposed to paying social security and Medicare taxes for religious reasons. For this exemption, the organization must file Form 8274.
Organizations with 501(c)(3) status must still pay state and local taxes, but they may be able to receive exemptions from those as well. Organization leaders should check with their local tax agency to find out if they can become exempt and what the process is to do so.
Do you need help running payroll for your nonprofit? Our simple, online payroll services will help you track your employees’ paychecks and we will collect, file and remit taxes for you. Try it for free today!
This article has been updated from its original publication date of August 7, 2015.
This is not intended as legal advice; for more information, please click here.