Q: At the end of every year, our board discusses the salary for our ministers for the upcoming year. We would like to compensate our ministers for all they do for our church, and some have suggested we get a compensation study done on our senior pastor and others at the executive level. What is a compensation study?
A: A compensation study, when properly undertaken, is an independent report on an organization's total compensation of certain individuals, usually those at the executive level. It is performed by a compensation committee or a group of the board of directors, neither of which would include the subject of the study or members of the subject's family. This group or committee also should consist of only non-disqualified persons.
Total compensation includes both cash compensation (which is salary, bonus, and housing allowance) and non-cash compensation (which is everything else). Properly done, the compensation study should serve the organization for at least a few years, barring significant changes in the size or finances of the organization or its compensation structure. The process for determining the reasonableness of compensation is much like that of valuing an item of property.
The concept is akin to conducting an appraisal—an evaluation of factors (comparables of like size, kind, and services offered) that have a bearing on value. A compensation expert gathers data, including all sources of compensation for the individual, and compares that data both within the organization and to comparable outside organizations that are similar in size and services offered to members. Location is also a factor taken into consideration by the expert and made a part of the compensation study.
Comparable data from similar organizations in both the nonprofit and for-profit world should be used. Executives for a religious nonprofit may well be hired from the for-profit world, while a nonprofit's executive may be susceptible to being hired away into the for-profit world. In other words, nonprofits compete with the for-profit world for employees and talent.
When proper steps are taken in undertaking the setting of executive compensation, the burden of proof for proving the reasonableness of compensation for IRS purposes shifts from the nonprofit to the IRS. In other words, when done correctly, a nonprofit receives the benefit of a rebuttable presumption of reasonableness and the burden of proof shifts to the IRS to prove that the compensation is unreasonable. The proper steps in setting overall reasonable compensation in order to receive the benefits of this Safe Harbor Rule are as follows:
- Independent comparable data is gathered and used in setting total compensation. An expert in the field of nonprofit compensation can be of great assistance in making sure this element is fulfilled; and,
- if the independent compensation data or study is received and it is used by the compensation committee or board, as the case may be, and no employees, targets of the studies, family members, or other disqualified parties are allowed to participate in the process; and,
- the process is adequately documented. To "adequately document" the process for purposes of the Safe Harbor Rule, the records of the governing body must state:
- the terms of the compensation package that were approved;
- the date it was approved;
- the members of the governing body who were present during the meeting and discussion about the compensation (which should include an affirmative recitation that the subject of the compensation meeting and any other disqualified parties were physically excused from the meeting); and,
- those who voted to approve or reject it.
The documentation should also note the comparability data obtained and relied upon by the governing body, how it was obtained, and the actions taken with respect to any member of the governing body who had a conflict of interest with respect to the compensation decision.
The documentation can usually be accomplished through minutes, notes, and resolutions.
Additionally, the board or compensation committee must record the basis for its determination whenever it decides that reasonable compensation is higher or lower than the range of comparable data received.
Finally, the documentation must be made concurrently with the determination of the compensation arrangement. Records must be prepared by the next meeting or within 60 days of the meeting and must be reviewed and approved by the board or compensation committee as reasonable, accurate, and complete within a reasonable time thereafter.
Excerpted from a Q&A by David Middlebrook from the Church Law Group's The Pastor's Study.
For more help with compensation studies and salary comparisons for church pastors and staff based on geography, experience, education, and other factors, check out the 2012-2013 Compensation Handbook for Church Staff by Richard R. Hammar.
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