Systematic Compensation Review for Non-Profit Boards

Systematic Compensation Review for Non-Profit Boards

May 18 2012

Establishing policies and procedures which allow non-profit Boards to systematically review compensation decisions is highly recommended both as a practical matter and as a protection against the imposition of IRS penalties.  The difficulty of establishing such policies and procedures will depend on the maturity, size and mission of the organization.  Along these lines, the following is a list of the items the Board may want to consider.

Establishing a Common Understanding of Compensation within the Non-Profit

  • Draft a compensation philosophy that addresses the organization’s strategy in delivering compensation.
  • Consider establishing a Compensation Committee depending on the size and efficiency of the Board as well as the frequency of Board meetings.
  • Draft a Compensation Committee charter, if applicable, that defines the roles and responsibilities of the Committee and what compensation decisions the Committee should take to the full Board for approval.

Systematic Compensation Review
The Board and/or the Compensation Committee should systematically complete and document a step-by-step review of all executive compensation considerations and determinations:

  • Establish the reason for the change in compensation being considered
    • New hire, promotion, termination, retention, transaction-related incentive
  • Detail all elements of compensation to be considered
  • Gather any relevant facts with respect to executive in question
    • Tenure, position, expertise, effectiveness, annual performance evaluations
  • Evaluate the timing of the determination of reasonableness
    • If the compensation is a fixed payment (such as base salary or non-discretionary predetermined bonus) or a fixed formula (amount depends on future specified event but no individual has discretion when calculating the amount of the payment), the determination of reasonableness must occur at the time the amount is approved by the Board,
    • Committees should consider the impact of the initial contract exception [hyper-link to “Initial Contract Exception“] to Intermediate Sanctions, which provides that fixed compensation set out in a qualifying initial contract is not subject to Intermediate Sanctions, no matter how unreasonable the fixed payment may be.
    • If the compensation is a variable payment (such as a discretionary bonus in the future), the timing of the determination of reasonableness is based on all facts and circumstances, up to and including circumstances as to the date of payment.
  • Engage compensation consultant (or other qualified professional) to collect and analyze the comparable data
    • Comparable data should examine be compensation levels paid to similar positions, providing similar services at similar organizations (in purpose as well as characteristics).
  • Review reasoned written opinion of the compensation consultant (or other qualified professional) with respect to all elements of the decision within the consultant’s expertise
    • Address all the facts;
    • Detail the comparable data;
    • Articulate and apply the applicable standards; and
    • State and explain the determination as to reasonableness.
  • Document Board’s determination as to reasonableness of compensation
    • Detail the terms of the arrangement;
    • Describe all relevant meetings, presentations, debates in which compensation was discussed, including, if relevant, the Committee’s presentation of the compensation, written determination and all other facts and circumstances to the Board;
    • Date of approval;
    • Board members present and voting results, including any votes in abstention and reasons for abstaining;
    • Details on the comparable data and reasoned written opinion reviewed and relied upon, including why it was relied upon; and
    • Any additional reasons for the Board’s determination.

Continued Implementation and Oversight of Procedures

  • Annual review of relevance and applicability of compensation philosophy
  • Annual performance evaluations, particularly for top three executives
  • Evaluate continued appropriateness of peer group used for comparable data
  • Board review of tally sheets that summarize all components of pay to top three executives, including all benefits and reimbursed expenses
  • Board and/or Compensation Committee to specifically review and explicitly sign-off on, among other things, compensation related disclosure on Form 990