3 New Year’s Resolutions for Manufacturing & Distribution Businesses

By Mike Metz

Should auld tax rulings be forgot, and new ones take their place, We’ll give a cup of good advice, to help our clients keep pace.

In the spirit of the New Year, here are three tax resolutions to help manufacturing and distribution (M&D) businesses enhance their performance and maximize tax savings.

Resolution #1: Comply With New Affordable Care Act Reporting Requirements and Avoid Penalties

The Affordable Care Act (ACA), also referred to as ObamaCare, mandates comprehensive health insurance reforms and has been one of the more challenging business developments impacting M&D companies in recent years. Under the Employer Shared Responsibility payment and reporting rules, businesses that fail to offer their employees coverage meeting the affordability and minimum value standards must make shared responsibility payments and may be obligated to disclose this liability on their financial statements. In order to collect the data necessary to enforce compliance, new tax information reporting is required for businesses with 50 or more full-time or full-time-equivalent employees, with reporting duties starting in early 2016 for the 2015 calendar year.

Don’t procrastinate when it comes to ACA reporting! Now is the time for businesses to determine which of the information reporting forms (Forms 1094-B, 1095-B, 1094-C and/or 1095-C) are required and get a jump start on gathering the necessary data in order to ensure accurate filing of the forms with the IRS by the February 28, 2016, deadline (or March 31, if filing electronically).

The new health insurance reporting requires businesses to provide a summary statement to their employees, in addition to sending a copy to the IRS. This reporting, similar in some ways to a W-2 or 1099, details the specific coverage periods and the amount of health insurance premiums paid on an employee’s behalf. Employees then use this information to support their individual responsibility payment claims on their personal tax returns.

Resolution #2: Review Accounting Methods for Tax Savings Opportunities and Simplification

Accounting methods affect when various items of income and expense are recognized for tax purposes. The manufacturing and distribution industry has changed significantly over the years, but some companies in the sector have been stagnant with tax accounting methods for many aspects of their evolving businesses.

To start 2016 on the right foot, take a fresh look at how your business and your accounting methods match up. Appropriate choices among permissible accounting methods can reduce current taxes and increase cash flow. Sometimes businesses are using an improper method of accounting and a voluntary change to a proper method is a better result than having the issue discovered during an IRS audit.

Ask yourself this: Is the UNICAP method we adopted many years ago still optimal? Does the calculation still reflect our current business model?

While optimal accounting methods tend to be company-specific, areas for manufacturers to consider reevaluating include revenue recognition, uniform capitalization and accounting for inventories, fixed assets and cost recovery, and the timing of tax deductions, including bad debts, prepaid expenses, repairs and software development costs.

Now is the time to kick off a phased approach to your tax accounting methods. Begin by reviewing the substantial list of opportunities endorsed by the IRS and assessing the feasibility of those possibilities to help you achieve your business objectives. Next, prepare comparisons of your current methods to the optimal methods and estimate the tax savings. Lastly, prepare the calculations and forms required for a change in accounting method and file them with the IRS.

Resolution #3: Review State and Local Tax Filing Requirements

As your business grows and expands, your tax filing requirements may likewise be expanding. A sound business practice and great resolution is to make an annual determination of the jurisdictions where you need to file tax returns for each type of tax (sales, income, franchise, etc.) With state audit activity on the rise, manufacturers would be wise to be proactive now, rather than risk facing repercussions later.

Businesses are required to file in states where they have sufficient business activity to create “nexus” with the state. States are increasingly applying an economic nexus test under the theory that the use of a state’s resources by a business creates nexus — even if the business in question doesn’t have a physical presence in the area. Manufacturers frequently trip up on nexus issues related to out-of-state inventory storage, product delivery or on-site installation and repair services.

Public Law 86-272, also known as the Federal Interstate Income Tax Law, prohibits states from levying income taxes on interstate commerce activity if companies meet certain criteria. While P.L. 86-272 provides a welcome safe harbor, it is limited in that it applies only to income tax and, more specifically, income from the sale of tangible personal property. Some states have a gross receipts tax or franchise taxes that fall outside of the safe harbor. Also, certain activities in a state beyond the narrowly protected activities, such as installation or repairs, could void the safe harbor protection.

On audit, most states require prior year returns and taxes if there was nexus in those years. Often, penalties are assessed for delinquent years. While most states have a statute of limitations on prior year assessments, it doesn’t start running until a return is filed. Should you belatedly determine your company has nexus exposure, some states offer voluntary disclosure and amnesty programs that limit the number of prior year returns required and reduce penalties.

As you gear up for 2016, review your business operations and transactions to assess state tax exposure and filing requirements for recent changes to laws or business activities that might give rise to nexus. Also, if delinquent filing requirements exist, this is your opportunity to get your business back in compliance.

Failure to comply with new reporting and regulatory requirements and utilizing improper accounting methods can lead to significant monetary penalties. The start of a new year is the perfect inspiration for manufacturers to embrace tax planning resolutions-—and stick to them.

This article originally appeared in BDO USA, LLP’s “Quarterly Insight” (Winter 2016). Copyright © 2016 BDO USA, LLP. All rights reserved. www.bdo.com

IRS Extends Deadlines for ACA Reporting – Forms 1094 and 1095

The Internal Revenue Service (IRS) released Notice 2016-4 on December 28, 2015, granting an automatic extension of the due dates for the distribution and filing deadlines for the 2015 Forms 1094 and 1095 for all those required to file under the Affordable Care Act (ACA).

The extended due dates are:

  • Forms 1095-B/1095-C that must be provided to individuals is extended from February 1, 2016, to March 31, 2016
  • Forms 1094-B with copies of Forms 1095-B; and 1094-C with copies of Forms 1095-C that must be provided to the IRS is extended as follows
    • from February 29, 2016, to March 31, 2016, if not electronically filed from March 31, 2016, to June 30, 2016, if electronically filed

Notice 2016-4 also provides guidance to individuals who might not receive a Form 1095-B or Form 1095-C by the time they file their 2015 tax returns.

Extension of Reporting Requirements

Under Internal Revenue Code (IRC) Section 6055, health coverage providers are required to file with the IRS and distribute to covered individuals, forms showing the months in which the individuals were covered by “minimum essential coverage.” Under IRC Section 6056, applicable large employers (generally, those with 50 or more full-time employees and equivalents) are required to file with the IRS and distribute to employees, forms containing detailed information regarding offers of, and enrollment in, health coverage.

Further, the IRS informed that, due to the new extended deadlines, no additional automatic or permissive extensions will be granted.

While the Notice states that IRS is ready to receive the forms, IRS understands that some employers, insurers, and other providers of the minimum essential coverage will need additional time to gather, analyze and report the required information.   Employers and other coverage providers are encouraged to furnish statements and file the information returns as soon as they are ready.

Guidance to Individuals

Notice 2016-4 also provides guidance to individuals who might not receive a Form 1095-B or Form 1095-C by the time they file their 2015 tax returns.

For 2015 only, individuals who rely upon other information received from employers about their offers of coverage for purposes of determining eligibility for the premium tax credit when filing their income tax returns need not amend their returns once they receive their Forms 1095-C or any corrected Forms 1095-C. Individuals need not send this information to IRS when filing their returns but should keep it with their tax records.

Similarly, some individual taxpayers may be affected by the extension of the due date for providers of minimum essential coverage to furnish information under IRC Section 6055 on either Form 1095-B or Form 1095-C. Because, as a result of the extension, individuals may not have received this information before they file their income tax returns, for 2015 only, individuals who rely upon other information received from their coverage providers about their coverage for purposes of filing their returns need not amend their returns once they receive the Form 1095-B or Form 1095-C or any corrections. Individuals need not send this information to the Service when filing their returns but should keep it with their tax records.

The Notice also discusses the procedures that can be used by individual taxpayers who may need the information to claim certain tax credits.

This article originally appeared in BDO USA, LLP’s “Quarterly Insight” (Winter 2016). Copyright © 2016 BDO USA, LLP. All rights reserved. www.bdo.com

Research & Development Tax Credit Made Permanent

On December 18, 2015, President Obama signed the Protecting Americans from Tax Hikes (“PATH”) Act of 2015, which includes a provision making permanent the Research & Development (“R&D”) tax credit under Section 41. This is a very significant development, as the R&D credit generally has required annual legislative renewal. A permanent R&D credit will provide businesses and investors the stability needed to enhance long term planning and decision making.

Added Benefits

In addition to being made permanent, for tax years beginning after December 31, 2015, the R&D tax credit will have two added benefits. First, eligible small businesses (those that are privately held and with $50 million or less in average gross receipts for the three preceding tax years) may utilize the R&D tax credit against their Alternative Minimum Tax (“AMT”). Historically, businesses could only use the R&D tax credit to offset ordinary tax liability and only to the extent this liability exceeded their AMT, with one exception to this rule in 2010.

Additionally, startup companies (those with gross receipts of less than $5 million for the current tax year and no gross receipts for any tax year before the five tax years ending with the current tax year) may utilize the R&D tax credit against employer’s payroll tax (i.e., FICA) up to $250,000. This is an important added benefit, as startup companies investing in new technologies often do not pay income taxes.

Conclusion

With a permanent R&D tax credit, businesses now face a more reliable and predictable future. Moreover, the extension of the credit to small businesses and startups broadens its availability to taxpayers. The PATH Act now provides economic stability that can help spur long-term innovation and investment in new and improved ideas.

This article originally appeared in BDO USA, LLP’s “Quarterly Insight” (Winter 2016). Copyright © 2016 BDO USA, LLP. All rights reserved. www.bdo.com

Exempt Organizations’ IRS Priorities

By Laura Kalick, JD, LL.M. (Taxation)

Congress makes the laws, Treasury interprets the laws, and the Internal Revenue Service (IRS) enforces them and collects the revenue.

But because the IRS has a limited budget, it’s Tax Exempt and Government Entities Division (TE/GE) has set priorities for enforcement in 2016. In this article, we’ll review those priorities and discuss how tax-exempt organizations can focus their compliance efforts accordingly to avoid penalties up to and including loss of tax-exempt status.

TE/GE Priorities for FY 2016

In order to be more effective and efficient, TE/GE is taking steps to streamline processes, digitize information, and manage knowledge. Most significantly, the IRS is focusing on data-driven decision making—issues where it believes there is a greater risk of noncompliance and therefore, a greater return on its investment of time.

The IRS takes the position that tax exemption is a privilege and not a right. Therefore, the objective is to ensure that organizations that were granted tax-exempt status are in compliance with the tax laws.

With this objective in mind, their priorities list five main strategic areas of focus. In their efforts to pursue the outlined strategic areas, TE/GE will use various approaches, including:

  • Field examinations: In-person examinations.
  • Correspondence audits: This is where the IRS sends a letter to the organization asking the organization to send documents to the IRS by mail and to have phone conversations. These audits are usually more limited in scope but can become extensive and ultimately turn into field examinations.
  • Compliance checks: This is not an examination, but rather a check by the IRS to see if the organization has been properly reporting an item.
  • Compliance reviews: This is where the IRS follows up to see if certain actions, outlined by an organization, have been taken.

Even if your organization receives a notice that it is part of a compliance check, it is important to respond to all IRS correspondence, because the IRS could turn a compliance check into a full-blown field examination.

The highlights of the five strategic areas of focus are:

  1. Exemption: Issues include non-exempt purpose activity and private inurement, enforced primarily through field examinations.

Your organization filled out an application for exemption (either Form 1023 or 1024). If your organization is conducting activities other than those indicated on the form, ask yourself if they are related to exempt purposes. If the activity is unrelated to exempt purposes, is the income being reported as unrelated business income? Most importantly, does the activity constitute more than an insubstantial amount of the organization’s activities? The term insubstantial is not defined, so the facts and circumstances must be reviewed. More than an insubstantial amount of unrelated activity can cost an organization its exemption.

  1. Protection of Assets: Issues include self-dealing, excess benefit transactions, and loans to disqualified persons, and are enforced primarily through correspondence audits and field examinations.

Are transactions at arms-length and for fair-market value? Private foundations have strict rules as to what constitutes self-dealing, and it can be direct or indirect. Public charities and social welfare organizations can establish the rebuttable presumption of reasonableness so that transactions with disqualified persons can be vetted by independent persons and decisions can be made based on comparable data. If the decision-making process is contemporaneously recorded, the rebuttable presumption can be established, which would shift the burden of proof to the IRS to show that the transactions were unreasonable.

  1. Tax Gap: Issues include employment tax and Unrelated Business Income Tax (UBIT) liability, enforced through compliance checks, correspondence audits and field examinations.

These are the two biggest revenue generators for the IRS with respect to exempt organization compliance. The major issue for employment taxes is whether individuals have been properly classified as independent contractors as opposed to employees, and in any event, whether the proper forms were filed. The IRS, more often than not, prevails on these issues.

Regarding unrelated business income (UBI), the typical tactic that the IRS takes is to disallow losses from one activity to offset income from another activity if the loss activity has lost money for several years. In this instance, the IRS will take the position that there is no profit motive, which is a requirement for a trade or business. If there is no trade or business, then there cannot be an unrelated trade or business and therefore, those losses cannot be used to offset UBI.

  1. International: Issues include oversight on funds spent outside the U.S., including funds spent on potential terrorist activities, exempt organizations operating as foreign conduits and Report of Foreign Bank and Financial Accounts (FBAR) requirements. These are enforced through compliance reviews, compliance checks, correspondence audits and field examinations.

If a private foundation makes a grant to a foreign organization, it must either exercise expenditure responsibility over the grant or have an opinion from a qualified person that the foreign organization is the equivalent of a U.S. public charity (see related article on page 7).

Another concern regarding foreign organizations is that of a U.S. charity merely being a conduit to receive tax-deductible contributions that are going straight to the foreign charity without the board of the U.S. charity having discretion over the use of the funds. The potential abuse here is that only contributions to U.S. charities are tax-deductible for income tax purposes. Of course, the IRS is also concerned that charitable donations are being used to fund foreign terrorist organizations. The Office of Foreign Assets Control (OFAC) releases a List of Specially Designated Nationals and Blocked Persons with names of individuals and entities that may be engaged in terrorist activities. Organizations should check the lists prior to making grants and engage in procedures to ensure that foreign expenditures or grants are not diverted to support terrorism or other non-charitable activities. In addition, organizations should comply with all U.S. laws and orders that restrict activities with certain countries or individuals because of economic sanctions.

  1. Emerging issues: Issues include non-exempt charitable trusts and the Internal Revenue Code (IRC) section 501(r), enforced through compliance reviews, correspondence audits and field examinations.

Tax-exempt hospitals now have to be in compliance with Final Regulations under IRC section 501(r) for tax years beginning after Dec. 29, 2015. Congress has mandated that every tax-exempt hospital will be reviewed at least every three years to see if it is in compliance with the rules.

Also, the IRS will be looking at charitable trusts that are not exempt from tax to make sure that they are not violating rules, particularly since they are subject to some of the same requirements and restrictions that apply to private foundations.

In addition to the priorities of TE/GE, the Treasury listed 13 areas where it will provide priority guidance for exempt organizations, including allocation of expenses for dual-use facilities and a new method for charities to provide contemporaneous written acknowledgements (CWAs) for gifts greater than $250, according to the Federal Register. In this instance, the charity would have to collect Social Security numbers from donors in order to comply. Such a proposal could raise a number of concerns pertaining to cyber security risks.

Conclusion

The IRS has become much more efficient and effective in its examination activities related to exempt organizations. Although the examination rate is lower for exempt organizations than for other taxpayers, TE/GE is attempting to better target its examinations for improved results. One final note: the IRS still relies on trustworthy outside data and public information, so it’s important to make sure that your organization is accurately portrayed in the media and on its Form 990, which is a public document available on http://www.guidestar.org.

This article originally appeared in BDO USA, LLP’s “Nonprofit Standard” newsletter (Winter 2015). Copyright © 2015 BDO USA, LLP. All rights reserved. www.bdo.com

Tax-Exempt Bond Compliance

By Marc Berger, CPA, JD, LLM

One of the benefits of tax exemption under Internal Revenue Code (IRC) Section 501(c)(3) is the ability to use tax-exempt financing. Tax-exempt bonds generally carry a lower interest rate than taxable bonds and the interest received by the bondholders is excludable from income for federal income tax purposes.

Because of these advantages, tax-exempt bonds are subject to strict federal tax requirements both at the time of issue and for as long as the bonds remain outstanding. The Internal Revenue Service (IRS) recognizes that all requirements are closely monitored and complied with at the time bonds are issued. Bond counsels for the organization, the issuing authority and the underwriter are all keenly focused on closing a clean transaction. However, problems can arise after closing, when all of the outside professionals have moved on to the next transaction.

In order to keep their tax-exempt bonds in compliance, organizations must actively monitor the use of proceeds and bond-financed property throughout the entire period that bonds remain outstanding. The IRS encourages organizations to adopt written procedures which go beyond reliance on the tax certificates included in bond documents. Written procedures should contain certain key characteristics, including:

  • Due diligence review at regular intervals;
  • Identifying the official or employee responsible for review;
  • Training of the responsible official/employee;
  • Retention of adequate records to substantiate compliance (e.g., records relating to expenditure of proceeds and use of facilities);
  • Procedures reasonably expected to identify noncompliance in a timely manner; and
  • Procedures ensuring that the issuer will take steps to correct noncompliance in a timely manner.

The goal of establishing and following written procedures is to identify and resolve noncompliance on a timely basis in order to preserve the preferential status of the bonds.

Ownership and Use of Property

All property financed with 501(c)(3) bonds must be owned by a 501(c)(3) organization or a governmental entity. For this purpose, a “governmental entity” includes a state or local governmental entity, but not a federal entity. In addition, use of bond-financed property in an unrelated trade or business or use by parties other than 501(c)(3) organizations is limited. This type of nonqualified use is known as private business use, or private use. In order to maintain its tax-exempt status, a 501(c)(3) bond issue may not have more than 5 percent private use over its lifetime. The 5 percent limit applies to a bond issue as a whole as opposed to each underlying project being financed. Additionally, the costs associated with a bond issue (e.g., counsel fees, underwriters’ discounts, financial advisory fees, accounting fees, rating agency fees) count toward the 5 percent private use limit. Depending on the size of a bond issue, costs of issuance may range from .5 to 2 percent of the bond issue. As a result, tracking private use becomes very important. The situations that can generate private use fall into the following categories:

  • Property sold or leased;
  • Property subject to management and service contracts;
  • Property involved in research activities; and
  • Property used in unrelated business activities.

While each of these situations results in private use, there is some potential relief from private use treatment. Bond-financed property that is sold to a non-501(c)(3) organization or governmental entity can be “remediated.” For example, if an organization’s sales proceeds are used to make qualifying capital expenditures, private use treatment can be avoided. In addition, there are safe harbors for certain management and services contracts as well as for certain research activities. If these safe harbors are met, then no private use will result. Proper planning in each of these situations can avoid exceeding the private use limit.

Section 501(c)(3) organizations with tax-exempt bonds should be tracking private use at regular intervals. This may involve working with an organization’s legal, facilities, contracting, real estate and finance departments. Schedule K of the Form 990, which must be completed by organizations with outstanding tax-exempt bonds, asks whether the organization has established written procedures to track compliance with all of the tax requirements – a question to which all organizations should be answering “yes.” The ability to issue tax-exempt bonds is a benefit that should not be taken for granted, and consistent post-issuance compliance will allow an organization to realize this benefit over many years.

This article originally appeared in BDO USA, LLP’s “Nonprofit Standard” newsletter (Fall 2015). Copyright © 2015 BDO USA, LLP. All rights reserved. www.bdo.com

Templeton & Company, LLP Ranks among the Top 300 Accounting Firms in North America

ipa top 300West Palm Beach, Fla. – September 22, 2015 – Templeton & Company, LLP has been ranked among the top 300 accounting firms in North America by INSIDE Public Accounting (IPA). This is the first year IPA has published a Top 300 list and Templeton & Company is one of only three Florida firms to be included.

More than 500 firms participated in IPA’s 2015 Survey and Analysis of firms. To be considered firms submitted accurate, in-depth financial standings to IPA. This data was used to compile the annual ranking of the largest accounting firms nationwide.

Templeton & Company has been dedicated to providing the highest quality audit, tax and consulting services to the South Florida region for more than 25 years. The firm has grown to include more than 60 employees and three South Florida offices. The firm consistently ranks as one of South Florida’s largest CPA firms and continues to expand its client base, industry knowledge and overall presence in the accounting industry.

“It is a privilege to have such terrific clients and enjoy the company of wonderful colleagues.” said Steven Templeton, Managing Partner of Templeton & Company. “We plan to continue to grow by providing the best services possible to our clients while maintaining our unique culture.”

About Templeton & Company

Founded in 1990, Templeton & Company, LLP is a professional services firm providing comprehensive business solutions to help its clients discover and realize their vision for success. Located in Fort Lauderdale, West Palm Beach, and Wellington, Fla., the firm provides consulting services to businesses in multiple industries with a focus on audit, tax, technology, accounting, succession strategy, and business valuations. Templeton & Company is also an independent member of the BDO Alliance USA, a national network of leading CPA firms. For more information about Templeton, its people, services, experience, and alliances, visit www.templetonco.com.

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Millennial Shopping Habits and What They Mean For Retail Building Owners

By Stuart Eisenberg

Millennials – those born roughly between 1980 and 2000 – are changing the face of retail. They have a combined purchasing power of $2.45 trillion worldwide – $600 billion in the U.S. – and they account for almost a third of all retail sales.

Their influence is only going to grow – by 2025, they will comprise 75 percent of the workforce. Millennials are now major consumers, but they differ from previous generations in the following ways:

Millennials know what they want.

Thrifty: Having come of age during the Great Recession, many are either underemployed or unemployed, and many have crippling student debts. They are keen bargain hunters and big users of discounts and coupons.

“NOwners”: Prizing experience over ownership, they love shopping, but see it as a form of entertainment and are often inclined to browse, but not buy. Smart retailers are turning this to their advantage and offering shoppers a fun experience. For example, H&M’s store in midtown Manhattan has a runway shoppers can walk down wearing their new clothes – they are filmed and the best videos are displayed on storefront screens.

Tech-savvy: Millennials are glued to their mobile devices and have a strong preference for brands that offer seamless integration between online and offline sales. Technology also enables retailers to engage shoppers with discounts and special offers.

Impatient: With all the world’s stores at their fingertips, millennials do not like to stand in line or wait for purchases to be delivered. This desire for instant gratification was behind an uptick in so-called click-and-collect purchases during the UK’s holiday shopping period – customers make purchases online and receive a discount when they pick up their purchase at a designated store. Some see retail stores eventually becoming more like distribution hubs, with qualified experts on hand to offer advice.

Multichannel shoppers: Millennials do more shopping online than other generations, but they also still like going to the mall. According to OpinionLab, 37 percent of millennials prefer mall shopping while only 27 percent would rather shop online. They use their phones to browse and compare prices online, but online purchases can take too long to deliver and they do still enjoy the instant gratification of purchasing in-store.

The OpinionLab survey is good news for brick-and-mortar retailers, provided they have a strong and easy-to-use website, and attractive store interiors.

In order to attract them as customers and tenants, retail building owners should consider the following options:

Interiors: Renovate and retrofit interiors to make them bright, attractive, aesthetically pleasing places to be. Install power points / charging stations in common areas, with comfortable seating and WiFi, so mall shoppers can recharge their mobile devices on the go. Rotate signage frequently to keep the center looking fresh, and include self-service kiosks to reduce line waiting times.

Tenant mix: Have a wide variety of tenants including fitness and entertainment providers so that shoppers can also work out, relax and socialize. Include value-oriented retailers such as dollar stores, thrift stores, and drug stores. Pet stores are also a draw for millennials, who have tended to put off marriage and children, but do have a fondness for pets and pet accessories.

Co-locate: Millennials like to live in dense, mixed use, walkable urban neighborhoods close to offices, shops and entertainment. Malls in downtown neighborhoods that offer a range of shopping and entertainment options will be a sure draw for the millennial customer.

PopUps. Once an oddity, PopUp stores are becoming more common. Short-term leases – often lasting just a couple of weeks – are a way to increase mall occupancy, provide new and online stores with a temporary storefront to increase their brand awareness, and provide shoppers with a new and different experience each time they visit.

This article first appeared in Real Estate Weekly.

This article originally appeared in BDO USA, LLP’s Quarterly Client Newsletter (Summer 2015). Copyright © 2015 BDO USA, LLP. All rights reserved. www.bdo.com

Compensation Committee – Do We Really Need One?

By Michael Conover

In the Fall 2013 issue of the Nonprofit Standard, I contributed a similarly titled article, “Compensation Consultant… Do We Really Need One? Really?”. Nearly a year and a half later, it is important to note that for many organizations, the need still exists. But along with compensation consultants, organizations looking to maintain compliance—and their tax-exempt status—are well-advised to also establish compensation committees.

Adoption of final regulations for the Internal Revenue Service (IRS) Intermediate Sanctions (Internal Revenue Code (IRC) 4958) in 2002 prompted many 501 (c)(3) and (c)(4) organizations to formally designate a board-level committee with specific responsibility for oversight of the compensation of their most senior-level executive position(s). This governance structure was a practice adopted long ago by most for-profit and publicly-held organizations. This structure also satisfied one of three criteria stipulated by the IRS for affording a nonprofit organization the ‘Presumption of Reasonableness’ for its pay practices. The Form 990 and requested information in Schedule J provides still more evidence of an expectation of formal governance and oversight of executive pay.

While not every organization has a need for a compensation committee specifically dedicated to this subject, the need for independent board members and the proper process to govern pay is nearly universal for any tax-exempt organization that pays its senior-most executive(s). It is not unusual to find an executive committee of the board or some similar subset of the board fulfilling this role. This arrangement may have been in place for many years prior to the Intermediate Sanctions, revised Form 990 and the increased scrutiny toward executive pay practices of nonprofit and for-profit organizations alike.

In some of these organizations without a committee dedicated to compensation, longstanding methods of ‘handling’ executive pay may have failed to keep pace with the growth in size and complexity of the organization and/or IRS requirements. Generally, these organizations are categorized as having no compensation committee. The symptoms are often fairly obvious: There is little or no evidence of any policy or process for executive compensation decision-making; there are no external sources of compensation practices for comparable organizations; and there are no meaningful minutes of board discussions and decisions about pay. The oversight of executive compensation is simply a part of the annual chorus of required board votes: “Do I hear a motion? A second? All those in favor.”

Almost as troubling is another scenario in which a board compensation committee has been created, but the commitment of the organization or individual members to the committee’s role is inadequate. Admittedly, many board members assigned to the committee are often volunteers and they are frequently selected for their interest in the organization’s mission—not for their expertise in executive compensation. Nonetheless, two different causes create what can be considered as, “a compensation committee in name only.”

The first cause is a committee with members having little to no understanding of executive compensation in the nonprofit sector and little or no interest in learning any more about it. These individuals often fail to engage in the discussions and decisions that directly impact the leadership of the organization. Careful consideration of competitive pay practices, thoughtful discussions about the organization’s beliefs about pay, effective evaluation of executive performance and related pay actions are not present. Compensation decision-making is often reduced to predictable, annual upticks in executive salary with sporadic attention to other components of pay (e.g., retirement benefits, life insurance, etc.), often without regard to the executive’s total compensation program.

The second cause is membership turnover. Significant changes in the makeup of the committee on a year-to-year basis can severely reduce its ability to be effective. Without the benefit of any compensation subject matter previously given to former committee members or continuity with past discussions or decisions, new members are a compensation committee in name only. This new group of committee members is essentially starting all over again. If past committees have left no policies or processes in place, the new members will potentially need to create a compensation strategy for their tenure.

Organizations without compensation committees, or where the committee is not properly performing the role—or performing it in name only—are at risk. Inattentive or even well-intentioned decision-making without the benefit of effective policies and processes for managing executive pay may have negative consequences. At a minimum, an opportunity for an objective assessment of the executive’s performance and the reasonableness of compensation in light of competitive practices by comparable organizations may be lost. In more serious cases, an organization may be startled by the realization that executive pay has become the focal point of embarrassment and adversity.

Above all, organizations that pay their senior executive(s) would be well-advised to consider the following recommendations:

  • Formally assign responsibility for oversight of executive pay to a committee of independent board members. It may be a committee already in existence, or a new compensation committee may need to be established.
  • Draft a charter describing the role and accountability of the committee. In addition to monitoring competitive pay practices for comparable organizations, consider the role the committee could play in managing the performance/evaluating the effectiveness of the executive(s) for which it is responsible.
  • Establish membership guidelines for the committee. Ideally, a member should serve through two or more annual cycles of the process. In addition, committee membership and committee chair terms should be staggered to ensure adequate continuity on a year-to-year basis, but also allow the introduction of new members in the process.

This article originally appeared in BDO USA, LLP’s “Nonprofit Standard” newsletter (Spring 2015). Copyright © 2014 BDO USA, LLP. All rights reserved. www.bdo.com

 

Does Your Organization’s Development Plan Need Refreshing?

In an era where nonprofits can be sharply criticized by donors and watchdog organizations for spending too much on fundraising, some nonprofits shy away from making critical investments in their development efforts—investments which, in the long run, could substantially impact their financial stability.

We’ve created a checklist below with questions that organizations should consider when determining whether their overall development plan needs refreshing. While not all of the questions can be weighed equally, if you answer “No” to more than five, it may be a sign that your organization needs to strategically reassess its plan.

Y  N Is fundraising seen as the lifeblood of your organization?
 Y  N Is your development department stable and able to achieve key fundraising objectives?
 Y  N Does your organization regularly review its development plan?
 Y  N Does your organization annually consider how effectively it’s achieving its mission?
 Y  N When reviewing your plan, are you considering the changing demographics of your organization’s donor base and proactively addressing these changes?
 Y  N Have you discussed new ways to reach potential donors and advocates in the last two years?
 Y  N Are your fundraising materials current?
 Y  N Have your recently introduced a new fundraising campaign?
 Y  N Do you have an online giving program?
 Y  N Do you have a mobile giving platform?
 Y  N Have you planned or conducted a social media fundraising campaign?
 Y  N Do you offer opportunities for potential donors and advocates to get involved in activities that directly fulfill your mission?
 Y  N Is your organization flexible and responsive to new fundraising trends and tactics?
 Y  N If your organization is experiencing declining donations, does it have a strategic plan in place for increasing contributions?

If you need assistance evaluating your development plan, please contact a Templeton Advisor.

This article originally appeared in BDO USA, LLP’s “Nonprofit Standard” newsletter (Spring 2015). Copyright © 2014 BDO USA, LLP. All rights reserved. www.bdo.com