Earlier this spring, IRS Exempt Organizations issued the long-awaited final report on colleges and universities. Although the report focuses on higher education, all nonprofits should take a look at it, because the IRS states that it has identified "some significant issues ... that may well be present elsewhere across the tax-exempt sector," including unrelated-business ventures and "the importance of using appropriate comparability data when setting compensation."

The latest report on the activities and plans for the Exempt Organizations (EO) Division of the Tax Exempt and Government Entities section of the IRS sends a clear message to nonprofits, summarized succinctly on page 22:

About two years ago, Senator Chuck Grassley (R-IA), ranking member of the Senate Finance Committee, asked his staff to investigate media-based ministries and make recommendations about how to address self-dealing and questionable executive compensation levels and practices. Their recommendations were pretty dramatic: change which organizations are given nonprofit status by IRS, expand penalties on self-dealing, and establish new regulations to make sure that nonprofits, particularly religious organizations, did not reward their leaders in an extravagant and excessive manner.

In a recent speech, Lois Lerner, director of IRS Exempt Organizations (EO), shed some light on current issues for the IRS staff. Some of her comments should be of great interest to all nonprofits.

The latest report on the activities and plans for the Exempt Organizations (EO) section of the Tax Exempt and Government Entities Division of the IRS provides some insight into what's ahead for nonprofits—good to know if your organization is in a group targeted for scrutiny. EO director Lois Lerner outlines accomplishments in fiscal year (FY) 2011 and previews plans for FY 2012 in the 12-page report. It is worth reading to get an understanding of EO's priorities, but below are some highlights.

If you feel like the IRS might be watching you a little bit more closely these days, a new report from the Exempt Organizations Division (EO) of the Tax Exempt and Government Entities of the IRS provides some basis for that observation. EO Director Lois Lerner outlines accomplishments in fiscal year (FY) 2010 and previews plans for FY 2011 in the 29-page report. It is worth reading the entire report to get an understanding of EO's priorities, but below are some highlights.

For the past few years, the IRS has been researching how some of the largest and most complex organizations in the nonprofit sector comply with reporting regulations. First up were hospitals (see the 2009 study on tax-exempt hospitals and their community benefit and executive compensation) and now a report on colleges and universities.

Each year, the national taxpayer advocate submits an annual report to Congress listing the most serious problems encountered by taxpayers. This year's report, released December 31, 2009, and available on the IRS Web site, identifies, analyzes, and offers recommendations for resolving 21 problems, and only 1—listed as #20 out of the total of 21—is related to tax-exempt entities.

If you saw the announcement that the IRS had (fairly) recently released Strategic Plan 2009-2013 and thought, "Oh, no. Something else I have to make time to read," relax. You don't need to spend a lot of time studying the plan. The word charity does not appear in it at all, and nonprofit mentions are concentrated on a single page of the 36-page document. There are better places to look for IRS plans that may affect the nonprofit sector, which are mentioned below. But first, let's look at the big picture.

Setting compensation in nonprofits is tough these days. You need to attract and retain staff, managers, and executives, working within a tight—maybe even shrinking—budget and also projecting what will happen next year. Next, add more federal reporting requirements on compensation on the Form 990 this year. Finally, prepare to explain (and perhaps defend) your actions as other stakeholders—funders, donors, media, members of the public, even clients and staff members—weigh in.

When revenues are down and prospects for increasing or even continuing support from foundations, government, and individuals are not bright, nonprofits have to make some tough decisions about how to spend their scarce dollars. Typically, salaries represent well over 50 percent of an organization's budget, so compensation mistakes can be costly. In addition to the monetary consequences, nonprofits that make such errors stand to lose valuable staff, waste important resources, and, in the worst scenario, forfeit their credibility within their communities.

There are a few basic concepts to keep in mind about compensation in the nonprofit sector: