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I see many cases where staff at a nonprofit doesn't work very hard, is not organized well, or otherwise appears to be what we would call "classic under-performers" in the for-profit business world.  Is there anything to legally prevent a charitable organization from basing part of employee compensation (bonuses) on the nonprofit’s success or the success of an individual’s role within the organization?

Nonprofits don’t have a monopoly on under-performers.  They exist in all fields, including the for-profit business world. And more money does not necessarily generate better performance. A number of very prominent under-performing business CEOs have walked away with multi-million dollar bonuses.

But to answer your specific question, the IRS permits reasonable bonuses to employees of charitable organizations but not if they are based on net earnings or profits.  The IRS does not believe that it is consistent with providing the broadest charitable service to encourage employees to cut costs (and possibly service) for personal gain.  Reasonable bonuses based on gross revenue or total activity are permissible, but those based on net revenue are not.

Schedule J of the Form 990 tax information return asks for a description of any compensation based on revenues or profits, or of any other “non-fixed” payments.  Charities seldom award such bonuses, at least not on any broad basis.  If they have the funds to afford it, they tend to want to use the money to provide more services.

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Comments from our Readers

Pay for performance is very common in the not-for-profit sector, although, as was said, not for net earnings.  If you are a board member I would encourage your board to set up performance goals with your CEO based on achievement of the strategic plan or movement toward it.  Then ask the CEO to set up similar performance goals with employees. 

As a not-for-profit executive, I take great offense at the assertion made by the poster, which makes me question the actual experience of this person in the not-for-profit sector.  Many not-for-profit employees do amazing things with little resources, low pay and no benefits.  However, I am happy that this person seems to want to establish a reasonable and fair way to compensate the employees with whom he or she works. --D.S. via e-mail

Revised: 4/25/2012

Article Archives >> To the Point

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