What’s Changing and Why
The One, Big, Beautiful Bill Act (OBBBA) expanded excise tax rules under IRC Section 4960—traditionally targeting the five highest compensated employees of an Applicable Tax-Exempt Organization (ATEO). Under changes taking effect for tax years beginning after December 31, 2025, any employee earning over $1,000,000 or making an excess parachute payment could become a “covered employee.” This change drastically widens the scope of Section 4960. (irs.gov)
Notice 2026-36 & Proposed Regulations
Published on June 5, 2026, Notice 2026-36 signals the Treasury and IRS intent to issue formal proposed regulations that:
- Clarify the expanded definition of “covered employee” post-OBBBA.
- Include exceptions such as limited hours and nonexempt funds—similar to those in prior regulations—for certain employees.
- Are intended to be prospective only; they will not apply to taxable years before final regulations are issued. (irs.gov)
Comments on the notice were requested by August 4, 2026. (irs.gov)
Who Needs To Worry?
Any tax-exempt organization paying executive compensation over $1 million or making parachute payments should be closely reviewing its payroll, governance, and compensation structures. For example:
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If you’re currently paying multiple executives just under the top five benchmark but over $1M, those individuals may now be in scope.
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Even employees who were previously excluded (non-officers) may now be considered covered employees if their compensation exceeds $1M.
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Pay close attention to parachute payments (golden parachutes, etc.), which often trigger additional excise tax liabilities.
Practical Steps to Take
- Run internal audits of current and planned executive pay: Include salaries, bonuses, deferred compensation, severance or parachute payments—all count toward determining who is subject.
- Consult with HR and legal to assess whether you can classify employees under exceptions such as limited hours or nonexempt funds once proposed regulations finalize.
- Document roles and hours clearly for employees who may fall under “limited hours” thresholds.
- Forecast excise tax exposure under worst case, to understand financial impact and perhaps consider altering compensation design.
Example Scenario
XYZ Charitable Org has seven employees. Under prior law, only the top five compensated were subject to Section 4960. Under the new rule, the sixth-highest now earns $1.2 million, above the $1 million threshold—even though they weren’t in the top five. Without an exception under proposed regs, that employee is now a covered employee for tax years starting after December 31, 2025. XYZ must prepare for excise tax on that compensation.
Key Dates & Deadlines
- Effective for taxable years beginning after December 31, 2025. So starts with many organizations using calendar‐year fiscal years in 2026.
- Proposed regulations expected after the comment period closing August 4, 2026.
- Transition relief offered under certain exceptions while guidance is ahead.
Bottom Line
These changes represent one of the most significant expansions in nonprofit executive compensation tax rules in recent years. If you're a tax-exempt organization, now’s not the time to assume you’re unaffected—run your numbers, consult advisors, and be ready for stricter rules.