Editor’s note: On January 12, 2021, the IRS released final regulations for Internal Revenue Code Sec. 4960, which provided certain nonprofit organizations with more clarity around the 21 percent excise tax on annual compensation exceeding $1 million for the five highest paid executives and certain separation pay or “golden parachute” packages paid to those employees. The final regulations will apply for tax years beginning after December 31, 2021 and define rules to determine the amount of excess compensation, calculating the tax due and decide what qualifies as a parachute payment. Click here to read the final regulations in full and contact your RKL advisor to discuss your nonprofit’s specific circumstances and applicability.
Credit unions, hospitals, higher education institutions and any nonprofit anticipating the departure of highly paid employees now have the guidance needed to correctly calculate and report a new tax on executive compensation.
In an attempt to better align nonprofit executive compensation with private sector pay practices, the Tax Cuts and Jobs Act created IRS Code Section 4960, which imposes a 21 percent excise tax on any annual compensation exceeding $1 million paid to nonprofit executives. This new excise tax may also apply to certain separation pay or “golden parachute” packages. Read our previous blog post on this topic for more specific details on this new tax provision, which took effect December 31, 2018, and some strategies to mitigate its impact. Recently, the IRS cleared up the remaining confusion around this new tax by clarifying how it should be reported.
Reporting questions answered
After the announcement of the new excise tax, many nonprofit entities wondered how liabilities should be reported. Organizations that answer Question 15 in Part V of Form 990 in the affirmative will be directed to Schedule N of Form 4720, where they will calculate and report their excessive executive compensation tax liability.
The IRS also clarified that Form 4720 is due on the same date as a nonprofit’s annual return. If a nonprofit is not required to annually file a return but does owe excise tax, it must be reported on Form 4720 by the 15th day of the 5th month after its ending tax year date. Click here for instructions on completing and filing Form 4720.
Impact on nonprofits like credit unions, hospitals and colleges
For nonprofit entities like credit unions, hospitals, colleges and universities, this new 21 percent levy may have a significant financial impact. Salary levels and separation packages are useful recruiting tools in a tight labor market and active mergers and acquisitions landscape, particularly in the financial services and healthcare industries. Please note that the excise tax applies to credit union executive compensation for both federally and state-chartered credit unions.
RKL’s team of nonprofit tax advisors is well-equipped to support nonprofits not only in calculating and reporting required excise tax, but also in identifying and implementing strategies to mitigate its impact moving forward. Contact me at firstname.lastname@example.org with any questions.