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Q&A: Executive Compensation

Legal Counsel for Philanthropy and the Nonprofit Sector

Information and resources on nonprofit law & regulation

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Q&A: Executive Compensation

  1. My organization recently made a no-interest loan - a hefty one - to the executive director to enable him to refurbish his house. Something about this strikes me as fishy, if not flat-out wrong. Our donors didn't contribute their dollars to supply him with ottomans or pewter goblets. Is this practice permitted?
  2. Can an executive director who also serves on the board vote on his or her own compensation package?

  1. My organization recently made a no-interest loan - a hefty one - to the executive director to enable him to refurbish his house. Something about this strikes me as fishy, if not flat-out wrong. Our donors didn't contribute their dollars to supply him with ottomans or pewter goblets. Is this practice permitted?

    It is permitted when the executive director receives the loan as part of a reasonable compensation package. The total package should be approved by the board of directors (and/or the department responsible for setting compensation) after a full and open discussion on the rationale for providing such benefits. Perquisites, such as bonuses, relocation expenses, and housing benefits, are common. They often serve as incentive for attracting talented executives to nonprofit positions.

    It is not permitted when individuals unilaterally allocate an organization's assets, whether in the form of below-market-rate loans or outright gifts, to themselves or others. The IRS considers this a form of "private inurement", that is, funds intended to be held for public benefit used for private gain. If the IRS learns of such a practice, it may impose penalties on the executive director as well as any board members and others who acquiesced in the scheme.

  2. Can an executive director who also serves on the board vote on his or her own compensation package?

    Such a move is a conflict of interest and may constitute self-dealing and what the Internal Revenue Code terms as private inurement (charitable funds inuring to the benefit of insiders).

    The law requires that executive compensation be set in an impartial manner by a fully-informed board of directors. Legal compliance involves the following elements:

    • Abstention from voting and lobbying by individuals with a personal interest in the matter.
    • Full disclosure, discussion, and approval by the entire board.
    • Payment of reasonable compensation, as determined by reference to the salary levels of other similarly situated organizations and by the unique demands and skill requirements of the position under consideration.
    • Determination of bonuses, incentive payments, and other benefits before the compensation period commences.
    • Recording all of the above in appropriate discussion notes and board resolutions, as documented in the minutes of the meetings of the board of directors.