Nonprofit employment law carries the same baseline obligations as any employer, plus a layer specific to tax-exempt organizations: reasonable compensation rules, intermediate sanctions, and the scrutiny that comes with operating on charitable and grant funding. This post covers what nonprofit employers should have in place.
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What makes executive compensation different at a nonprofit?
The IRS requires that compensation paid to a nonprofit’s executives and other “disqualified persons” be reasonable, meaning comparable to what similar organizations pay for similar roles. Compensation that’s found to be excessive can trigger intermediate sanctions, excise taxes imposed on both the individual who received the excess benefit and, in some cases, the board members who approved it.
Organizations protect themselves by following a documented process: comparing compensation against data from similar organizations, having the decision made and approved by disinterested board members, and contemporaneously documenting the decision. Following this process creates a rebuttable presumption of reasonableness that offers real protection if compensation is ever questioned.
What employment documents should a nonprofit have in place?
At minimum, most organizations need an employee handbook covering policies and expectations, clear employment classification practices distinguishing employees from independent contractors, and, for senior roles, individual employment agreements addressing compensation, termination terms, and any severance provisions.
Misclassifying workers as independent contractors when they function as employees is one of the more common and costly mistakes we see, since it can trigger back taxes, penalties, and benefits liability going back years once discovered.
How should executive employment agreements be structured?
Executive compensation agreements should clearly define compensation (including any bonus or incentive structure), the process for annual review, termination provisions covering both for-cause and without-cause scenarios, and any post-employment obligations such as confidentiality or non-solicitation terms where appropriate. For organizations that anticipate leadership transitions, addressing succession planning considerations within or alongside the agreement is worth the additional effort.
Because executive compensation decisions face more scrutiny at a nonprofit than in the private sector, the agreement itself should reflect and reinforce the reasonable-compensation process the board followed in reaching it. Reasonable compensation is best documented through a compensation study that analyzes compensation and benefits paid to executives in the same or similar role at organizations consistent in size, revenue, and location. A best practice is to conduct a compensation study every three years.
What employment law risks are specific to nonprofits?
Beyond standard wage and hour compliance, nonprofits should pay particular attention to how volunteer relationships are structured versus paid roles, since blurring that line can create unexpected wage obligations. Organizations relying heavily on a small staff should also confirm they’re meeting state-specific requirements around meal breaks, overtime, and leave policies, which vary considerably and don’t necessarily scale down simply because an organization is small or mission-driven.
Jova Law advises nonprofit boards and executives on compensation structuring, employment agreements, and compliance documentation. Learn more about our Employment & Executive Compensation practice.