High Salaries can cause tax problems.
However, different entities must be careful about paying salary and providing benefits that are considered "excessive" by the IRS because it can trigger an audit:
Not-for-profit organizations - In recent years, the tax agency has focused auditors on tax-exempt organizations that pay excessive compensation and perks to officers and other insiders.
The IRS has also revised its tax form filing procedures to ask more questions about financial arrangements with officers, directors, trustees, highly compensated employees, and highly compensated independent contractors (including certain related parties). The questions, according to the IRS, "capture information about potentially abusive transactions" and help determine whether amounts paid are appropriate and consistent with exempt status under the tax code.
When it comes to not-for-profits, the IRS can also evaluate "the independence of the governing body that approved the compensation."
C corporations - If the compensation of shareholder-employees is deemed too high -- in other words, it is not "reasonable" under the circumstances -- IRS auditors can make adjustments that result in double taxation. Why? Compensation is fully deductible if it's considered "reasonable." But if a salary is deemed too large, Uncle Sam can label part of the payments as "disguised dividends," which are taxed twice -- once at the corporate level and again at the personal level.
In the course of an audit, fringe benefits are also inspected. In guidance to its auditors, the IRS states there are income and employment tax considerations with fringe benefits such as: Is the expense deductible by the business? Is the amount excluded from the executive's gross income? Does the executive benefit personally? Do the benefits exceed tax code limitations?
Twelve benefits that IRS auditors scrutinize include:
|Wealth Management or|
retirement planning services
|Awards/ bonuses||Private Jet Use|
|Club memberships||Relocation expenses|
|Corporate Credit Cards||Spousal travel|
|Employer-paid vacations||Transportation/ chauffeurs|
|Executive dining rooms||Loans|