New Tax Could Hit Many Nonprofits Paying $1 Million-Plus Employees

A Chronicle analysis has identified 226 nonprofits that paid one or more employees compensation in excess of $1 million a year in 2016 or 2017, mostly major hospitals, medical centers, and universities and their affiliated foundations.

Those organizations likely will have to pay a new 21 percent excise tax on many of those executive compensation packages, thanks to the tax law passed in December 2017.

The charities, or whichever related organization is paying the executive’s salary, have to pay that excise tax, not the employee.

The Chronicle analysis draws from the most recently available electronically filed tax disclosures from nonprofits with annual support of $35 million or more.

Although there are some exemptions to the tax, the Chronicle identified several nonprofits that could be hit with a very big tax bill under the new law if they continue to pay people that much. Among them:

• UPMC Group, a medical health-plan provider: 33 employees
• Kaiser Foundation Hospitals: 28 employees
• Dignity Health: 26 employees
• University of Pennsylvania: 17 employees the most of any organization not listed as a medical center or hospital
• Los Angeles Philharmonic Association: 2 employees

“We have to include this new element in our budgeting, and it’s an unexpected expense that will affect us and all of our colleagues in the orchestral world,” said Sophie Jefferies, spokeswoman for the Los Angeles Philharmonic.

Representatives from UPMC Group, Kaiser Foundation Hospitals, and Dignity Health did not respond to requests for comment on this article.

The law exempts from the tax medical and veterinary personnel, but only if they are directly involved in providing medical treatment, so it’s unclear in the examples above how many of those employees might actually trigger the tax.

Struggle to Comply

Nonprofits are struggling to figure out how the tax law applies to them, said Spencer Walters, a nonprofit tax lawyer. The latest guidance from the Internal Revenue Service was issued last December.

In particular, Walters is concerned that the law appears to apply the tax to nonprofits with employees who draw large salaries from outside sources related to the organization.

“If I start a company — you know, a successful company that takes over the world — I pay myself a salary as its CEO,” said Walters. “Then I decide to start a foundation. I don’t pay myself any money from the foundation, but I keep receiving the pay from my company. The way the IRS has written the rules, the tax would apply to my pay.”

Walters said he fears the rules could have a chilling effect on the creation of new charitable foundations. He doesn’t oppose the idea of trying to discourage tax-advantaged nonprofits from paying huge salaries, but, he added, “the disconnect is that in implementing it here, the IRS rules apply the tax even when some other entity is paying the amount, even when that other entity is taxable.”

Losing Talent

David Thompson, vice president for public policy at the National Council of Nonprofits, said he feared the new rules could have a chilling effect on nonprofit mergers and discourage talented workers from jumping into the nonprofit world.

“It could discourage consolidations,” said Thompson. “It could also affect where people go to work. We could have a talented nonprofit person shift over to the for-profit side to get the higher salaries that are now arbitrarily restricted.”

However, there could be a workaround for some nonprofits, said Marc Owens, a nonprofit tax lawyer and former director of the IRS’s exempt-organizations division. The new excise tax does not treat board members as employees but as independent contractors not subject to the excise tax. So in theory, a nonprofit could put a highly compensated employee on the board and avoid the excise tax by allocating a large portion of that employee’s pay to his or her service as a trustee, Owens said.

Owens said there is much confusion about this and other provisions of the law, and more guidance is needed from the IRS. “The charitable world is very eager to hear the details, and the IRS has been trying to produce guidance, but with limited success,” said Owens. “It’s not an easy task, by any means. Treasury tries to do the best job possible, but sometimes it’s difficult because of the provisions Congress crafts.”