Can Nonprofit Organizations Offer Bonuses and Incentives

Many people are surprised when they learn that bonuses or incentive payments are being used by tax-exempt organizations.  Often times the general thought is that these forms of “extra” compensation are not in accordance with their expectations of a charitable or tax-exempt organization.

The reality is, however, that these organizations can and do use performance-based compensations.  It’s important to outline how different types of variable pay arrangements can be used within a nonprofit organization as useful additions to their compensation program.

First, it’s important to distinguish a bonus from an incentive plan while understanding that in both cases, it’s important to clearly communicate with the recipient the terms and purpose of payment.

1. An incentive establishes the criteria for determination and the potential for award amount at the outset of a performance period before any payment is made.
2. A bonus is a discretionary award made at the end, or after the performance period, in appreciation for a particular accomplishment.

Tax-exempt organizations are able to use both types of plans; however, some special consideration is needed in addressing how the plan is structured and how much compensation is offered.

One of the most common examples of an unacceptable bonus or incentive plan is one that shares any of the organization’s revenue directly with an individual.  It is important that a tax-exempt organization base any incentive or bonus on performance factors that are related to the accomplishment of an objective or the execution of operations that have contributed to the efficiency / effectiveness of its mission. 

In addition, awarding funds that are intended for the organization’s tax-exempt accepted mission to an individual is unacceptable.

When it comes to the amount that is being awarded, it must be examined from a few perspectives.  First, the award should be large enough to have meaning or value to the recipient and should commensurate with the event / performance for which it’s being awarded.  However, it should not be excessive on its own account.  Competitive compensation information can be found through published surveys and other pay data sources to provide helpful information about the prevalence and amounts offered by other organizations.

Governance for compensation plans that offer bonuses and incentives should be assigned to the independent members of the organization’s board, if one has been established.  A formal description of the plan should be drafted to include the purpose, role in the organization’s overall compensation program, eligibility requirements, plan terms and conditions.  The details of the incentive plan should be approved by the board early in the year along with any incentive bonus awards paid under the plan.  Finally, it’s important that no plan participant is engaged in any aspect of the oversight of the plan and that it is reviewed regularly.

A well-designed, executed and reviewed bonus or incentive plan can be a valuable addition to your organization’s compensation plan but should be thoughtfully addressed to keep in mind the issues we have discussed here.  If you have questions regarding this or other issues pertaining to tax-exempt organizations, please contact Bergan Paulsen today.