Reasonable Compensation

Note: This section doesn’t apply to the special definition of excess benefit transaction for certain transactions involving DAFs and supporting organizations. Please see sections II.C.8 and II.C.9 below for the special rules.

(1) Reasonable compensation is the amount that would ordinarily be paid for like

services by like enterprises (whether taxable or tax-exempt) under like circumstances. See Treas. Reg. 53.4958-4(b)(1)(ii)(A).

(2) The following are relevant factors to consider when determining reasonableness of

compensation.

a. Section 162 standards for reasonable compensation apply. Consider the

aggregate benefits (other than specific disregarded benefits in Treas. Reg. 53.4958-4(a)(4)) provided and the rate at which any deferred compensation accrues.

b. A compensation arrangement subject to a cap.

c. State or local legislative or agency body or court authorization or approval of

a particular compensation package is a factor but isn’t determinative of the reasonableness of compensation.

d. All economic benefits (regardless of the federal income tax treatment)

provided by an ATEO in exchange for the performance of services, except

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for disregarded economic benefits in Treas. Reg. 53.4958-4(a)(4), are included.

Note: Also see section II.D.2 below for a discussion of disregarded benefits.

(3) Treas. Reg. 53.4958-4(b)(1)(ii)(B) provides examples of economic benefits.

a. All forms of cash and non-cash compensation including:

• salary,

• fees,

• bonuses,

• severance payments, and

• deferred and non-cash compensation.

b. Unless excludable from gross income as a de minimis fringe benefit under

Section 132(a)(4), the payment of liability insurance premiums or the ATEO payment or reimbursement of the following:

• Any penalty, tax, or expense of correction owed under Section 4958,

• Any expense not reasonably incurred in a civil proceeding arising out of

the performance of services for the ATEO, or

• Any expense resulting from an act or failure to act where the person has

acted willfully and without reasonable cause.

c. All other compensatory benefits, whether or not included in gross income for

income tax purposes, including:

• Payments to welfare benefit plans such as medical, dental, and life

insurance

• Severance pay

• Disability benefits

• Taxable and nontaxable fringe benefits, except those excludable from

gross income under Section 132

• Certain expense allowances or reimbursements (other than expense

reimbursements pursuant to an accountable plan) under Treas. Reg.1.62-2(c)(3)

• The economic benefit of a below-market loan within the meaning of

Section 7872(e)(1)

Note: The economic benefit of a below-market loan is the amount deemed transferred to the disqualified person under Section 7872(a) or (b), regardless of whether Section 7872 applies to the loan.

(4) Whether an item is included in the disqualified person’s gross income for income

tax purposes is made based on the Chapter 1 provisions of the Internal Revenue

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Code. The determination is made without regard to whether the item is considered for purposes of determining the reasonableness of compensation under Section 4958. See Treas. Reg. 53.4958-4(b)(1)(ii)(C).

(5) Fixed Payment - In determining reasonableness of a fixed payment under a

contract, the facts and circumstances considered are those existing when the parties entered the contract under which the payment was made. See Treas. Reg. 53.4958-4(b)(2)(i).

a. In the event of substantial non-performance, reasonableness is determined

based on all facts and circumstances, up to and including circumstances as of the date of payment.

b. If property subject to a substantial risk of forfeiture satisfies the definition of

fixed payment within Treas. Reg. 53.4958-4(a)(3)(ii), reasonableness is determined at the time the parties entered the contract providing for the property transfer.

c. In determining reasonableness, facts and circumstances existing at the date

that the payment is questioned aren’t considered.

(6) Non-Fixed Payment - In determining reasonableness of a non-fixed payment

under a contract, all the facts and circumstances up to the date of payment are considered. See Treas. Reg.53.4958-4(b)(2)(i).

a. If property subject to a substantial risk of forfeiture isn’t a fixed payment,

reasonableness is determined based on all the facts and circumstances up to and including circumstances as of the date of payment.

b. In determining reasonableness, facts and circumstances existing at the date

that the payment is questioned aren’t considered.

(7) For several examples of the timing of the reasonableness determination, see

Treas. Reg. 53.4958-4(b)(2)(iii).