Intermediate Sanctions

Initial contracts exception

The regulations explicitly EXCLUDE from the definition of excess benefit transactions: "fixed payments made pursuant to a binding written contract with a party that was not a disqualified person immediately prior to entering into the contract."

Q: When does this rule apply?

A: This rule may apply to an employment contract between an organization and a new executive director. This rule has come to be known as the "first bite rule."

The fixed formula may not allow the organization to exercise discretion as to the amount of payment made.

Amounts contributed to pension, profit sharing, bonus plans, or employee benefit plans that satisfy other federal laws are treated as fixed payments. However, a cap on the amount of payment does not, by itself, qualify a discretionary payment as "fixed."

The exception for initial contracts doesn't apply to:

• contract subject to cancellation by the organization without requiring the consent of the other party and without substantial penalty to the organization

• contract to which the parties make a material change (e.g., the parties extend or renew the contract, or make a more than incidental change to the amount payable)

• party contracting with the organization who fails to perform its obligations under the contract