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Wednesday, October 6, 2010

IRS to Increase Investigations of Nonprofit Hospitals and Other Exempt Orgs.


Employment Tax Practices Under the Microscope

Federal tax authorities in February 2010 launched an initiative to expand its scrutiny of the employment tax practices of nonprofit hospitals and other tax-exempt organizations, and Armanino experts say the initiative is only the first salvo in a campaign likely to lead to additional investigations and reviews.

“In the past, the IRS has targeted business categories for investigation, and later, after gathering information, has launched a broader program of investigations and audits,” says Armanino Consulting Partner Esther Ratterree. “This latest campaign should put the nonprofit world on high alert.”

Nonprofit organizations, while exempt from income tax, do pay numerous forms of other federal and state taxes, including employee payroll taxes. “Over time, perhaps because of their tax-exempt status, nonprofit organizations sometimes become less familiar with their tax exposures,” notes Armanino Partner Paul O’Grady, who oversees the firm’s nonprofit audit practice.

“If an organization fails to remain vigilant, highly organized and thorough, in terms of its tax liabilities, it can be subject to an IRS audit and to potential fines and penalties,” he says. “Given the latest initiative, all tax exempt organizations should be mobilizing to protect themselves against the risk of an IRS audit.”

O’Grady notes that independent contractors have been targets in recent years, but that now the IRS appears to view nonprofit organizations as a category vulnerable to problems.

The IRS has publicly stated that the audits will be comprehensive in scope and that areas of focus will include:

  • Worker Classification – Employers must properly classify their workers as either employees or independent contractors. If an employee is incorrectly classified as an independent contractor, the employer fails to collect and remit the correct amount of employment taxes to the IRS.
  • Benefits – The IRS is concerned that nonprofit employers do not properly account for taxable benefits in wages. Misclassification of wages, expense reimbursements and the ways an organization pays reimbursements to employees are expected to be areas of focus.
  • Executive Compensation – Deferred compensation for qualified and nonqualified employees is anticipated to be a particular area of focus for the IRS, making the evaluation of what constitutes reasonable compensation a key consideration for nonprofit organizations.

Play Good Defense

Tax-exempt organizations that want to minimize the risk of an IRS audit for employment tax deficiencies can take concrete actions to avoid unexpected tax liabilities. These include:

  • Be Prepared for an Investigation – Identify and compile relevant data in ways that will make it easy for your organization to produce data should it be requested by the IRS in the event of an audit.
  • Review Procedures – Review your organizations personnel procedures and data to determine whether any of your organization’s workers have been improperly classified as employees or as independent contractors. Document your policies and stick to them!
  • Review your Benefit Programs – Look into your benefit programs and reimbursement plans and policies to confirm that they are current and in compliance with IRS guidelines. Take special care to look at your organization’s policies relating to executive compensation and benefits. Consider conducting an executive compensation study to determine if your practices are consistent with your peers.
  • Address Problems – If you discover a discrepancy, an issue, an outdated policy or other problem, take immediate action to correct the problems.
  • Contact your Accountant or Engage an Accountant – If your organization has engaged an accounting firm, be sure it has competency in nonprofit accounting and in nonprofit taxation issues. If not, you may want to engage another firm to assist your organization with your tax position. Be sure the firm you choose has expertise and experience in nonprofit accounting and tax.

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