Nonprofit Variable Pay

Nonprofits and Variable Pay

Variable pay can be divided into four separate categories:

• Short-Term Incentives – up to 1 year performance period
• Long-Term Incentives – 2- to 5-year performance period
• Bonuses – one-time awards
• Recognition Awards – one-time awards

Although these different kinds of variable pay plans will be covered in this course, the emphasis will be on short-term incentives, which are commonly used by nonprofit organizations.

Nonprofit organizations may be designated as tax-exempt when certain conditions are met as defined by the U.S. Internal Revenue Service.

The applicable tax-exempt organizations discussed in this course are:

• Public Charities: those exempt under section 501(c)(3) and classified under section 509(a), including Section 509(a)(3) supporting organizations
• Social Welfare Organizations: those exempt under Section 501(c)(4)

Tax-Exempt Organization Executive Compensation

Many nonprofits use some form of variable pay. But while variable pay has spread to lower levels of employees in for-profit companies, it is still used almost exclusively for top management in nonprofits.

A 2023 survey of 500 nonprofit organizations by BDO found that 42% of nonprofit organizations include annual incentives or bonuses as part of their Executive Director’s compensation package. Unlike in for-profit organizations where incentive pay is often much more than base pay, in nonprofits bonuses and incentives comprise a small part of the overall compensation package. According to the survey, deferred compensation plans are also becoming more common.

Do nonprofits need variable pay?

Nonprofits can benefit from the use of variable pay in the same way for-profit organizations do. It gives organizations the ability to pay competitively in the marketplace but can reduce payroll expenditures without reducing staff when revenues decline, or expenses increase. Variable pay can also influence employee productivity and motivation.

Another important reason is that nonprofits may compete with for-profit organizations for talent but pay for executives in nonprofits is much less than pay for executives in for-profit organizations. A variable pay plan may make a nonprofit organization more competitive and help to recruit and retain its executives.

Expenses, revenue, mission (industry), and location will all influence how a CEO is paid. Multiple sources of external market data will increase the validity of the data when pricing a job.

Here's an example from the ERI Economic Research Institute’s Nonprofit Comparables Assessor. Let's assume a nonprofit adoption center in Chicago, Illinois, with annual revenues of $10 million, is seeking a new executive director, the top paid position in the organization. The Nonprofit Comparables Assessor reports the following reportable compensation for the Chief Executive Officer in the marketplace:

Nonprofit Comparables Assessor: Reportable Compensation for Adoption Center CEO in Illinois

Revenue	25th Percentile	Mean	75th Percentile
$15,000,000	$129,001	$153,295	$199,143
$10,000,000	$126,890	$150,787	$195,885
$5,000,000	$123,362	$146,594	$190,438

Nonprofit organizations may also find it necessary to stay abreast of compensation practices between nonprofit and for-profit organizations. If the competition for talent between nonprofit and for-profit organizations is significant, a nonprofit organization may need to adjust its compensation practices to a more competitive position. It is important for it to maintain an awareness of its ability to pay competitively to the defined labor market.