There’s a major money misconception or two about nonprofit organizations. While many people think that nonprofits are prohibited from deriving income outside of grants and donations, even more believe these companies pay staff less-than-fair wages, if at all. Neither is true however.
State law governs nonprofit incorporation while the IRS regulates tax-exempt status. Both entities allow nonprofits to pay reasonable salaries to officers, employees or agents for services rendered to further the nonprofit corporation’s tax-exempt purposes. In fact, in 2010 the United States’ 1.4 million registered nonprofits employed over 10% of the domestic workforce. That number increased more than 12% over a ten-year span – from 12.7 million in 2003, to 14.4 million in 2013. And, in 2014 the nonprofit share of the GDP (gross domestic product) was 5.3%, as reported by the US Bureau of Economic Analysis. If the current pace continues, those figures are projected to increase tremendously in the coming years.
In most aspects, nonprofits handle payroll the same way that a for-profit business does. But there are a few exceptions, and not knowing them can land an unsuspecting company hefty fines or even place its tax-exempt status in jeopardy. Here are three primary ways that payroll differs for nonprofits.
- Tax-Exempt Status: For-profit companies are allowed to deduct qualified business expenses from their taxes but must pay taxes on all income and on dividends paid to company shareholders. Nonprofits with tax-exempt status, usually charitable organizations, are not required to pay taxes on profits, though they still must pay state sales and use taxes. Tax-exempt nonprofits also are eligible to provide tax deductions to donors, but employees, members or stakeholders of nonprofits cannot benefit from net earnings. Any violation can cost a company its tax-exempt status.
- Payroll Taxes: Like for-profit businesses, nonprofit organizations must withhold Social Security, Medicare, state taxes and federal taxes from payroll; match Social Security and Medicare withholding; and pay federal and state unemployment insurance, including disability taxes in certain states. However, in some states including California, nonprofit entities organized under IRS 501(c)(3) tax laws have two options for paying unemployment insurance costs. They can either pay at the same rate as for-profit businesses or they can reimburse the state’s unemployment office for unemployment benefits paid out to former employees come tax filing time.
- Bonuses and Commissions: Bonuses and commissions often are offered by for-profit companies to help them recruit top talent and incentivize performance, particularly in sales. But because nonprofit funds are collected for a particular stated cause, those monies cannot be used to benefit employees, officers or others inside the organization. Thus, with few select exceptions employee bonuses and commissions are prohibited unless they fall under the reasonable compensation, which the IRS defines as the fair market value of economic benefits received by employees.
A thorough understanding of these differences can help you better position your payroll services bureau for landing potentially profitable nonprofit clients. And with Apex HCM’s full suite of payroll and HR products and services, you’ll be able to offer them peace of mind and access to the same top-line technology that for-profit companies enjoy. Call 877-750-2739 or request a demo online to learn more.