Rewarding Talent How Do We Define Our Value in Today s Nonprofit Landscape?

Transcription

1 Rewarding Talent How Do We Define Our Value in Today s Nonprofit Landscape? Ken Cameron Director, Compensation and Benefits Consulting Session Objectives Learn about current trends in compensation and benefits for tax exempt organizations Highlight the areas of current interest by the IRS and other governmental entities and discuss ways of addressing tax and compliance issues Review key findings of Grant Thornton's 2013 NonProfit Compensation Report Discuss best practices in compensation and benefits design 2 A compensation and benefits perspective Do these sound vaguely familiar? Compensation transparency at an all time high New regulatory agency guidance on how to disclose granular elements of compensation Increased number of executives required to have their compensation disclosed in publicly filed documents New requirements to discuss the process for making decisions about executive compensation Moving away from perquisites and benefits that do not have an explicit business purpose Stakeholders, watchdog groups and regulators all commenting publicly on executive compensation programs that appear excessive Local law enforcement efforts directed at "reigning in" excessive executive compensation through either litigation or potential criminal sanctions As a tax exempt organization in the United States today, can you relate to these issues? 3 1

2 Defining the new era in not-for-profit executive compensation and benefits New York State Special Task Force on NFP Executive NYS Governor Executive Order Limits on State-Funded Administrative Costs & Executive Compensation "She's currently negotiating a contract for the nurses at Multicare's Mary Bridge Children's Hospital. She says she had no idea that Multicare paid country club dues for its CEO I think that's kind of ridiculous. Maybe that's where they need to do their networking. But at that salary, she should be able to pay her own country club fees. That makes me really angry, and I will use that information at negotiations." IRS Expands Examination to 501(c)(12) "Mutual" Organization Practices Executive Loans Under Investigation Colleges and Universities' Study "A nearly $1 million salary and benefit package for a nonprofit executive is not only questionable on its face but also raises questions about how the organization manages its finances in other areas." Senator Tom Coburn (R), Oklahoma New Jersey Caps Social Service Entities' CEO Compensation California Corporations Code section 5235 provides that executive compensation must be just and reasonable and prescribes liability for excessive compensation. The New Era of Executive Compensation and Benefits "Many donors feel that paying the leader of a charity a six-figure salary is outrageous." Ken Berger, President Charity Navigator 4 A compensation and benefits perspective (continued) As a tax exempt entity, the IRS provides guidance on best practices for establishing "reasonable" total compensation opportunities and for some tax exempt entities failure to adhere to the rules may result in the imposition of excise taxes, penalties and result in possible revocation of your tax exempt status 4958 of the Internal Revenue Code imposes and excise tax on Excess Benefit Transactions between a disqualified person and an applicable tax exempt organization (i.e., 501(c)(3) or (4)). The disqualified person who benefits from an excess benefit transaction is liable for an excise tax. An organization manager may also be liable for an excise tax on the excess benefit transaction In appropriate cases, the IRS may also propose revocation of tax exempt status, whether or not 4958 excise taxes are imposed 5 A compensation and benefits perspective (continued) An excise tax of 25% of the excess benefit is imposed on each excess benefit transaction on the disqualified person who received the excess benefit and failure to correct the excess benefit and pay the excise tax within the taxable period may result in the imposition of an additional penalty of 200% of the excess benefit An excise tax equal to 10% (up to $20,000) of the excess benefit may be imposed on the organization managers who knowingly participated in the excess benefit transaction An organization manager will not be considered knowing, if after full disclosure of the factual situation to appropriate professional, the manager relied on a professional's reasoned opinion on matters within the professional's expertise or if the manager relied on the fact that the requirements for the rebuttable presumption have been satisfied 6 2

3 Defining the new era in not-for-profit executive compensation and benefits (continued) The Rebuttable Presumption Test under IRC 4958 Is this still enough? A three-pronged approach which allows an organization to shift the burden of having to prove that its compensation is reasonable to forcing the IRS to prove that the compensation is unreasonable Independent Committee Comprised of individuals: Unrelated to and not subject to the control of the disqualified person With no material financial interest in the transaction Who do not receive compensation subject to the disqualified person's approval Use of Comparable Organization Data Prior to Decision Compensation "ordinarily provided by similarly-situated organizations": Comparable in size, nature and operations Under like circumstances Adequate and Contemporaneous Documentation Terms of the transaction are in writing and agreed upon prior to the date payment is made Recording of the decision-making process and the actions of the Committee members, including those with a potential conflict of interest Basis for a decision, use of market data 7 A compensation and benefits perspective (continued) As a best practice, organizations need to wonder, what are the implications if we do not follow the outlined process for compensation decision-making? What does the IRS intend to do with this information? The IRS has stated that it takes the position that governance practices are within the purview of their responsibilities Therefore, tax exempt entities need to wonder Will failure to comply lead to an audit? Will failure to comply lead to a recommended change in procedures or the law? Will the IRS issue a report on the practices of Tax Exempt entities with the intention of having organizations move towards those practices that they decide are "best practices"? As previously indicated, the Form 990 also contains the following requirement in relation to compensation decision-making: If Yes to line 15a or 15b, describe the process in Schedule O What does your Schedule O disclosure look like? Is it long? Is it short? We would suggest that a fair approach would be to simply describe the process in simple, plain English terms, which, if accurate, directly responds to the suggested three-pronged best practices approach described earlier 8 Compensation reporting more information for more people Name Title Base Salary Bonus Other Compensation Deferred Compensation Non-taxable benefits Total Compensation Previously reported CEO "Key Ee" Ties to W-2 Box 5 As "accrued" or "earned" & includes actuarial increases in DB plan Is this an "apple to apples" comparison across different organizations? Intended Increased transparency for "stakeholders" "Mine-able" regulatory compliance data Increased data on governance practices Expose "perceived" misuse of IRC provisions Unintended Heightened competition for executive talent Internal retention issues for key leadership positions Increased demand for new compensation designs Increase fixed costs of employment 9 3

4 Best Practices Board Review Best Practices Robust Conflict of Interest Policy Meet and report that you meet the Rebuttable Presumption of Reasonableness Have an Independent Compensation Committee Have the full Board review CEO compensation, and periodically review staff compensation Review the Form 990 with your preparer Know who is a "disqualified person" at your organization any person who within a 5-year lookback could have exercised "substantial influence" over the organization's affairs a family member of a person described previously an entity in which the above persons own 35%+ of an interest 10 Employment Tax Issues 5 Things You Should Know 1. If your organization utilizes independent contractors, the IRS and state taxing authorities are aggressively challenging these relationships Proper documentation, support, policies and procedures can substantially decrease the likelihood of an audit assessment in this area The IRS also has a voluntary classification settlement program which can drastically reduce the exposure for employers who may wish to reclassify workers voluntarily to employee status 2. Employees who work in multiple states or travel frequently could give rise to state income tax withholding exposure, as states are looking to increase revenue State laws vary with respect to withholding thresholds and risks exist on both the federal and state level for employment tax for workers who travel frequently, or are on assignment for substantial periods of time in other locations 11 Employment Tax Issues 5 Things You Should Know 3. Federal and state employment tax refunds are available. Acquisitions, reorganizations, employees working in multiple states throughout the year and varying state rules on taxability of certain fringe benefits can result in substantial refund opportunities for FICA, Federal unemployment tax (FUTA) and state unemployment tax purposes This would currently apply for any above situations that occurred during Federal employment tax adjustments can be made interest and penalty free. Whether it is a taxable fringe benefit that was erroneously excluded from income, vesting/exercise of stock or options that weren t reflected in the payroll system or other adjustments to increase employee wages for prior quarters/years these adjustments may be made and taxes paid without incurring penalty or interest if certain conditions are met 12 4

5 Employment Tax Issues 5 Things You Should Know 5. Ongoing legislative changes and recent rulings can impact employment taxes. The recent Supreme Court ruling on the Defense of Marriage Act allows employees in same sex marriages to receive equal treatment for purposes of federal employment tax on medical benefits and other similar items In approximately 12 states, including New York (and possibly soon to include NJ), federal employment tax refunds may be available for benefits that were previously treated as taxable The IRS recently petitioned the Supreme Court to hear an employment tax case involving the FICA taxation of certain severance payments, which may ultimately impact the FICA taxation of severance pay 13 Government scrutiny New York Governor Andrew M. Cuomo announced that a number of state agencies have proposed regulations to take effect on Jan. 1, 2013, to limit compensation expenses at state-funded not-for-profit and for-profit service providers The regulations block providers from using State funds or State-authorized payments to pay a covered executive more than $199,000 for a year. If a provider chooses to pay more than $199,000 from sources other than State funds or Stateauthorized payments, compensation may not be paid in an amount greater than $199,000 per year unless the compensation: is no greater than the 75 th percentile of compensation provided to comparable executives at comparable providers, as determined by a compensation survey identified or recognized by the applicable State agency, and has been approved by the covered provider s board of directors or other equivalent governing body including at least two independent directors or voting members who have performed a review of comparability data 14 Other states are looking at not-for-profit executive pay New Jersey issued regulations in 2010 to limit salaries for executives at social-service charities limited to no more than $141,000 if they are paid exclusively with state funds. Florida Senate committee approved a measure to cap executive salaries at slightly less than $130,000 a year if a charity received more than two-thirds of its budget from the state Massachusetts plans to reintroduce legislation that would limit executive pay to $500,000 The New Hampshire attorney general has criticized high salaries earned by hospital executives and has meetings on tap for later this year to encourage a new approach to compensation Illinois is planning to introduce a measure this fall that would make it easier to spot high salaries paid to leaders of charities who earn most of their income from for-profit subsidiaries 15 5

6 What is generating lawmakers' attention? New York Governor Cuomo read a New York Times article discussing high executive pay for a social service organization New Hampshire Attorney General was reviewing a proposed hospital merger A Massachusetts senator learned of the pay package (retirement and severance) paid to the CEO of Blue Cross/Blue Shield Illinois state legislators read a Chicago Tribune article which revealed how some social-service charities are earning most of their income through salaries paid by for-profit subsidiaries 16 Understanding the total compensation package New York Museum Curator-in-Charge received a total compensation package worth $988,523 The community had an extremely negative reaction $814,000 of this compensation was a lump-sum payout of a retirement plan that he had contributed to for nearly 40 years It's critical that the Board is fully aware of Schedule J Does the organization have a compensation philosophy? Has the organization conducted a competitive market analysis? 17 Comparing salaries in the marketplace When determining the competitive market level for executive salaries, there are few key things to keep in mind: Be thoughtful and strategic in choosing peer organizations Ensure you have competent staff (internal or external) who are familiar with not-for-profit compensation, including all of the individual elements, and understand how to conduct a valid competitive market analysis Use recent, valid and respected sources for your data (e.g., 990s, published surveys and custom analyses) Develop a peer group that is reflective of your organization and contains organizations/industry sectors with whom you compete for talent 18 6

7 Keys to effectively selecting peer groups Ensure your peer groups reflect your type of organization. Different subsectors can approach pay differently for jobs with similar skills: Health care Higher education Social service Trade associations Make sure you use some type of scope measure to approximate size Operating budget Revenues Number of employees 19 Keys to effectively selecting peer groups (continued) You can use multiple peer groups and blend the data All not-for-profits Industry or subsector Targeted peer group (identify 7-10 organizations) You can use general industry/for-profit data This should be for jobs with transferable skills Finance Legal HR Marketing In most cases, this information should be blended with not-for-profit data Deciding how much to weight this data should be thought through carefully 20 IRS Higher Education Compliance Report Summary In a report on executive compensation at universities and colleges, the IRS found several items that are sure to drive governance going forward In approximately 1/3 of small to mid-size colleges, the top officer is independently setting pay for the other officers, as well as for the highest paid non-officers Only half of the colleges Have an executive compensation philosophy Hire an independent compensation consultant for Board advisory assistance Follow the three-pronged intermediate sanctions process for establishment of a rebuttable presumption 21 7

8 IRS Higher Education Compliance Report Summary (continued) Despite many organizations following less than optimal governance processes the IRS report noted many universities and colleges do offer pay practices that often receive significant scrutiny Bonus plans, including many discretionary plans Housing and auto allowance or use Loans with forgiveness or below market rate features Tax Gross Ups Spousal or first-class travel Split-dollar life insurance Deferred compensation programs We continue to observe a trend of organizations limiting access to these offerings and in particular, assessing these offerings against the simple barometer of does the benefit or perquisite have an explicit business purpose? 22 IRS "call out" of not-for-profit executive perquisites A senior IRS official commented that not-for-profit organizations need to pay more attention to the qualifications and administration of fringe benefit and perquisite offerings. In addition, he indicated: Organizations need to be certain that these offerings are administered consistent with IRS guidance and requirements The inappropriate design and administration of these often times small elements of the total executive compensation package can lead to a determination of an automatic excess benefit transaction under IRC 4958 (i.e., intermediate sanctions regulations) and the imposition of taxes, penalties and interest in relation to these offerings 23 Salary trends Salary increases are remaining consistent Industry Sector Actual 2012 Projected 2013 Actual 2013 Projected 2014 General Industry 3.0% 3.0% 3.0% 3.0% Health Care/SocialAssistance 2.8% 3.0% 2.6% 3.0% Educational Services 2.5% 2.5% 2.5% 2.5% Public Administration 2.0% 2.2% 2.6% 3.0% Source: WorldatWork Salary Budget Report 24 8

9 Grant Thornton 2013 Nonprofit Compensation Report Compensation data for more than 100 job titles found with significant frequency in the not-forprofit space Data provided for the full array of not-for-profit subsectors, including trade associations, human services organizations, educational and cultural institutions, public benefit organizations, health care organizations, special interest entities, and scientific and research institutes Nearly 1,000 participating organizations, with participants representing all 50 states Includes data covering all elements of total compensation: Salary comparability data, Variable pay (i.e., discretionary bonuses, annual incentives, and long-term incentives Benefits (i.e., qualified and non-qualified benefits) 25 Grant Thornton Survey Salary Budget Increases Average salary increases, regardless of position (management and non management), were 3% This appears to be the new normal, as the 3% is consistent with statistics over the last few years 26 Incentive practices in not-for-profit organizations More than 50% of not-for-profit organizations are paying some type of variable pay Annual incentives Discretionary bonuses Special or spot awards Discretionary bonuses have been the most common type of variable pay but formal plans are becoming more common Need for greater rigor in calibration and design of incentive plans/metrics Basis for determining awards Predetermined goals/objectives Discretionary Combination of above Other 27 9

10 Incentive compensation in not-for-profits Typical Annual Incentive / Bonus Payments All Orgs 20% 18% 18% 18% Trade Professional Median payment (% of Base) 16% 12% 8% 4% 10% 6% 10% 14% 11% 11% 13% Educational Health/Social Welfare 10% 10% 9% 9% 8% 6% 6% 5% 5% 5% 5% 5% 4% 4% 4% 0% Top Exec Deputy Exec Top Finance Exec Exempt Staff Non Exempt Staff Source: PRM Not For Profit Survey Report 28 Variable compensation Variable compensation in the not-for-profit marketplace Discretionary bonuses are the most common type of variable pay More than 50% of nonprofit organizations are paying some type of variable pay Concern Need for greater rigor in calibration and design of incentive plans/metrics Director compensation Non-profit organizations generally reimburse Board members for meeting expenses No cap on reasonable expenses associated with attending meetings However, no reimbursement for office, secretarial or spousal travel expenses Concern Some state attorneys general (e.g., MA and CT) have questioned the "per se" reasonableness of providing not-for-profit boards with "compensation" beyond "reimbursement" for expenses 29 Variable compensation Grant Thornton Pulse Survey Grant Thornton conducted a pulse survey on the topic of variable pay. 75% of responding organizations indicated that they have some type of variable pay for their employees

11 Variable compensation Grant Thornton Pulse Survey Variable pay programs are not just for executives with half of responding organizations providing this pay component to employees across the organization 31 Variable compensation best practices An emerging trend is outcome oriented annual incentives, with objective criteria as follows: Financial performance No money, no mission Resource/expense/financial management: Efficiency management is critical in this day and era getting more out of less "Stakeholder" satisfaction (member, student, faculty, patient satisfaction) Efficiency and financial performance must coincide with tax-exempt mission Quality Outcome, experience (critical for health care providers in the era of health reform) Growth (specialty market share, program participation) Strategic growth, based on core services and/or emerging service lines 32 Variable compensation Long-term incentives have increased in prevalence, with generally 5% to 15% of large complex not-for-profit organizations offering incentives based on multi-year performance with even lower prevalence in the higher education community These plans are not for everyone, but certainly something to consider given: Mantra of the day is executives should be paid for sustained long-term performance Multi-year performance periods assist in retention, as an executive forfeits amounts if termination occurs prior to completion of performance period Provides a basis for an organization to work with the Board to establish long-term strategic objectives and criteria to measure success Executive perquisites and benefits are of particular interest to regulators and are the focus of more board discussions then ever before Do they have a business purpose? Are they administered correctly? Increased granular disclosure of total compensation values on publicly available federal reporting documents (i.e., Form 990) of a much broader array of executives and employees from across an entire organization will have both intended and unintended consequences 33 11

12 Executive benefits "Common" features or elements of an executive benefit plan offering may include one or more of the following: 457(f): Nonqualified deferred compensation arrangements Retention incentive programs Additional performance criteria being added Supplemental Executive Retirement Plan Varies in design from "additional" restoration to "target replacement ratio" Trending down in the for-profit market 457(b) Qualified restoration plan Supplemental life or disability insurance Employment contracts with severance and CIC provisions 409A Compliant Administration of effective and compliant programs is critical 34 Retirement Plans 2/3 of Organizations Offer a Retirement Plan 35 Variable compensation Grant Thornton Pulse Survey From a governance perspective, not-for-profit Boards are responsible for reviewing the compensation of CEOs/Executive Directors while 36% review the entire C-suite's compensation 36 12

13 Total Rewards Model Pay & Benefits PROSPER Base Pay (Tied to Performance) Competitive Healthcare Plan Wellness & Preventive Care Retirement Plan Competitive Paid Time Off ACHIEVE Recognition & Engagement Engagement Action Planning Focus on innovation Individual Recognition High Performance Team Clear Two-Way Communication GROW Learning & Development Local & National Opportunities Learning Framework Performance Development Review Tuition Reimbursement Numerous Development Tools CONNECT Work Environment Work/Life Flexibility Team Concept Mission & Values Culture Challenging Work Meaningful Impact 37 Grant Thornton's perspective on the road ahead Increased IRS Scrutiny Additional rules and regulations implemented and burden of administration/costs increase 38 Grant Thornton perspective for best practices Form 990 Disclosures Keep the Supplemental disclosure about the compensation decision-making process, accurate, clear and succinct Formal Compensation Committee Consistent the protocols currently in place for most Audit Committees, formal charters, guidelines and practices should be established for Compensation Committees of the Board and training should be provided to Committee members on the issues they need to consider Business Purpose Rule Compensation Committees need to consider more than just the "how much" but also the link between total compensation and a business/mission purpose Satisfy the Rebuttable Presumption of Reasonableness The amounts and design of total compensation opportunities provided to a broad constituency of leadership individuals (e.g., disqualified persons, key employees, others, etc ) need to be reflected upon by appropriate decision-makers, with external comparable market data available and a formalized process for recording the final decisions 39 13

14 Grant Thornton perspective for best practices (continued) Stakeholder Optics Considered The potential implications for the disclosure of compensation elements to various stakeholders through sample or projected Form 990 disclosures should be reviewed at the time compensation decisions are made so that the Compensation Committee and Board can prepare potential responses when inquiries arrive Leadership Collaboration An effective partnership between Finance and HR will go a long way to deepening an organization's understanding of how compensation and benefits programs can change an organization, deliver on results and lead to overall operational success Pay-for-performance NOT "for pulse" Develop integrated pay-for-performance features through different elements of the compensation program with measurable goals consistent with the strategic objectives and mission of the organization 40 Questions? 14