No one wants the IRS questioning whether one’s pay is too high. Yet Form 990s often report figures that look too high.
The worst examples are those who report a big retirement benefit when it vests; these figures are often in the millions, and often make total compensation two or three times higher than it was the year before, and two or three times higher than for most other executives in comparable positions and in comparable organizations.
Severance payments distort total compensation in the same way—especially since it is pay for not working. If severance is reported one year at a time, it may not make total compensation look out of line, but if an executive is terminated toward the end of a year and severance is reported in the same year as a full year’s pay, total compensation will be almost twice the usual amount and twice as high as for most other executives in comparable positions.
The big annual accruals for a defined-benefit SERP as an executive approaches retirement age distort total compensation, too. CEOs earning a million dollars a year in salary might be tagged with another million in accruals for a SERP, making their total compensation up to double what would be reported for a younger executive.
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In auditing executive compensation, why wouldn’t the IRS ask about unusually high compensation figures? They aren’t hard to find, after all—they stick out like a sore thumb.
What can you do to protect your executives from having the IRS challenge their pay, when you need to report situations like these? You can do the following three things:
- Make sure your explanation on Schedule J, Part III, of the Form 990 makes it clear why the numbers are as high as they are. Explain that the SERP that just vested was earned over many years of service, and it will provide the executive’s retirement benefit for twenty or thirty years post-retirement. Explain that the severance was “earned” over many years of service and was a contractual obligation needed to be able to recruit and retain this executive. Explain that the figures reported for the big annual accruals for the SERP include interest on all the retirement benefits earned over prior years’ service.
- Make sure the compensation committee minutes record these payments and document the reason for the payments. The meeting minutes used should come from the session in which the committee reviewed the Form 990 statement before it was filed.
- Ask your compensation consultant to provide a brief letter explaining why the numbers are as high as they are and assuring the board that the total compensation reported is reasonable. (Remember, your consultant tends to focus on the compensation opportunity for the year or the compensation earned by working over the past year, not on the unusual figures reported in the Form 990. Unless you ask the consultant to address these issues, you are not likely to get that assurance.)
Source:INTEGRATED Healthcare Strategies