ECFA Sets Higher Standards for Compensation, Transactions

We live during a time when it is more important than ever for churches and their leaders to demonstrate integrity, as admonished by the Apostle Paul on several occasions.

Moral compromise and financial mismanagement—only amplified in the media—have caused many people to lose trust in some of our nation's most respected institutions, the church included. This in turn leads to additional barriers to carrying out the Great Commission.

When ECFA (Evangelical Council for Financial Accountability) was founded in 1979, its visionary leaders realized that enhancing trust in churches and other Christ-centered organizations would be essential to an effective witness and greater Kingdom impact. ECFA has accomplished this mission of enhancing trust by requiring its accredited members to follow its Seven Standards of Responsible Stewardship, which are drawn from Scripture related to governance, finances, and stewardship.

In recent years, there has been increased scrutiny on churches regarding their processes for setting compensation and handling related-party transactions. Some of these concerns were the impetus for a 2007 Senate Finance Committee inquiry, led by Senator Charles Grassley (R-Iowa), into the financial practices of several media-based ministries. Each of these ministries organized as churches.

After announcing the end to this inquiry in January 2011, Senator Grassley turned to ECFA to provide non-legislative solutions in addressing a number of the important tax, accountability, and policy issues raised by his staff. ECFA in turn formed the Commission on Accountability and Policy for Religious Organizations (the Commission), comprised of legal experts, nonprofit sector representatives, and religious leaders representing every major faith group in America.

In its December 2012 report, the commission recognized that the vast majority of church leaders are already committed to high levels of integrity and to following all laws and regulations concerning compensation-setting and related-party transactions. However, given the increasing number of high-profile financial abuses and perceived abuses, the commission concluded that churches must set a high bar of excellence in these areas as part of demonstrating their commitment to integrity to their financial supporters and a watching world.

Consistent with the commission's recommendations, the ECFA board announced a revision to the ECFA standards, providing guidance in the areas of compensation-setting and related-party transactions. ECFA's new "Policy for Excellence in Compensation-Setting and Related-Party Transactions" under the revised Standard 6 will become effective January 1, 2014. The change was announced in January 2013, giving ECFA-accredited organizations a full year to make any necessary adjustments to come into compliance. Non-ECFA accredited churches would be well served to voluntarily adopt the practices outlined in this policy as well.

The full text of the revised Standard 6 and related commentary can be accessed at ECFA.org. We've highlighted below the primary issues for churches to consider in meeting the new requirements.

Setting Compensation

First, the revised Standard 6 requires the full governing board of a church to annually approve the total compensation package of the church's senior pastor or comparable position and to be notified annually of the total compensation package of any member of the senior pastor's family who is employed by the church (or related organizations). This approval and notification must be documented in the church's board meeting minutes.

dditional steps are required under the standard for establishing the compensation of the senior pastor if his or her total compensation is $150,000 or more (these same steps are also recommended for senior pastors compensated below that level): This requirement will ensure that the governing body (elder board or similar body) of the church is appropriately engaged in the compensation-setting process for the senior pastor and to help apprise the board of situations where a senior pastor's family member is being compensated unreasonably because of a close relationship with the leader.

Each year, governing body members without a conflict of interest must determine the total compensation package of the church's senior pastor if the pastor is compensated at $150,000 or more (including salary, wages, other payments for services, and benefits of all types, whether taxable or non-taxable, and whether paid directly or indirectly by the church or one or more of its subsidiaries or affiliates).

The independent governing body members must rely on comparability data (comparable positions at similar churches) while taking into account the specific skills, talents, education, experience, performance, and knowledge of the church's leader.

Finally, the governing body must contemporaneously document the steps it took to comply with these requirements, and, if applicable, its rationale for setting compensation above a level supported by the comparable data.

Visit our sister-site ChurchSalary, for compensation guidelines based on education, experience, church income, church setting, and more.

These compensation-setting practices are not required by law, but they are similar to the IRS's recommended "rebuttable presumption of reasonableness," which is intended to create a safe harbor for churches and their governing body members in avoiding severe tax penalties associated with unreasonable compensation or excessive private benefit. In other words, the enhanced Standard 6 will require ECFA members to follow a similar approach to what the IRS has already recommended as a best practice.

Related-Party Transactions

ECFA Standard 6 was also enhanced to provide greater guidance for churches in the area of related-party transactions.

Within the ECFA context, a "related-party transaction" occurs when there is a financial transfer that takes place between a church and someone in a position of substantial influence at the church, including those in leadership or governance. Under the ECFA standards, "related parties" include the church's staff; its board members; family members of staff and governing body members; and entities controlled by staff, governing body members, or their families.

Underlying every related-party transaction is an inherent conflict of interest. Although there is potential for things to go wrong in a related-party transaction due to conflicts of interest, there is also the potential for churches to benefit from their relationship with related parties if transactions are handled with integrity and propriety.

A summary of the rules for related-party transactions under the revised Standard 6 are outlined below:

The governing body of every church must address related-party transactions pursuant to a sound conflicts-of-interest policy. (Sample policies are available online in the Knowledge Center at ECFA.org).

Before an ECFA-accredited church enters into a related-party transaction, it must take affirmative steps to ensure that the following is true with respect to the transaction:

All parties with a conflict of interest (direct or indirect) are excluded from the discussion and vote related to approval of the transaction;

The church obtains reliable comparability information regarding the terms of the transaction from appropriate independent sources, such as completive bids, independent appraisals, or independent expert opinions;

The church's governing body has affirmatively determined that entering into the transaction is in the best interests of the organization; and

The church contemporaneously documents the elements described above, as well as the board's approval of the transaction.

Conclusion. Executive compensation and related-party transactions are two areas of major concern often cited by financial supporters and government officials concerning churches. Believers want to know that their gifts are being stewarded biblically and effectively to accomplish the greatest good. Meanwhile, government officials want to ensure that organizations receiving favorable tax treatment like churches are not abusing this status for private benefit.

ECFA recognizes that excessive compensation and improper related-party transactions are not the norm in the vast majority of churches, yet these additions to the ECFA standards will help further enhance the level of trust on these issues within ECFA's accredited churches and other religious organizations.

Dan Busby is the former president of ECFA. John Van Drunen is the former vice president and general counsel for ECFA.