Excise Tax on Excessive Executive Compensation

In the draft tax reform plan released by Dave Camp, there is a provision (Section 3803) that would impose an excise tax on excessive compensation of tax exempt organization's executives.

Under current law, the deduction allowed to publicly traded C corporations for compensation paid with respect to chief executive officers and certain highly paid officers is limited to no more than $1 million per year. Similarly, current law limits the deductibility of certain severance-pay arrangements (“parachute payments”). No parallel limitation applies to tax-exempt organizations with respect to executive compensation and severance payments.

Under the proposed provision, a tax-exempt organization would be subject to a 25-percent excise tax on compensation in excess of $1 million paid to any of its five highest paid employees for the tax year. The excise tax would apply to all remuneration paid to a covered person for services, except for payments to a tax-qualified retirement plan.

The excise tax would also apply to excess parachute payments paid by the organization to such individuals. Under the provision, an excess parachute payment generally would be a payment contingent on the employee’s separation from employment with an aggregate present value of three times the employee’s base compensation or more.

The committee gave several reasons for the imposition of an excise tax on executive compensation.

• Current law generally has no limit on excessive compensation paid by a tax-exempt organization to its senior management other than the limitation on private inurement, the consequence of which can be revocation of the organization’s exemption.
• The provision is consistent with the limitation on the deductibility of executive compensation by taxable publicly traded corporations.
• The tax exemption represents a significant benefit to tax-exempt organizations from the Federal government and excessive compensation would divert resources from the organizations exempt purpose.

This would suggest to me that all credit unions, not just state-chartered credit unions, would have to file a Form 990 to ensure compliance with this provision when it becomes law. If my suspicion is correct, this provision, when enacted, would improve corporate governance at federal credit unions and would provide federal credit union members with their first glimpse into the compensation practices of federal credit unions.