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New Rules on Executive Compensation for Nonprofits: What Organizations Must Understand
The One, Big, Beautiful Bill has altered the definition of covered employee in tax-exempt organizations — here’s what leaders need to know.
By NomadicTax Research Team • 5-8 min read • June 14, 2026
## What’s Changed Under the New Law
The One, Big, Beautiful Bill (OBBB) broadens the **definition of “covered employee”** for applicable tax-exempt organizations (ATEOs) under IRC Section 4960. Now, the excise tax on excess compensation and parachute payments may apply not just to the top five highest-paid executives, but to **any employee** earning over **$1 million** or receiving excess parachute payments.([irs.gov](https://www.irs.gov/newsroom/treasury-irs-announce-intent-to-issue-proposed-regulations-for-excise-tax-on-excess-tax-exempt-organization-executive-compensation-under-the-one-big-beautiful-bill?utm_source=openai))
These changes apply to tax years **after December 31, 2025**.([irs.gov](https://www.irs.gov/newsroom/treasury-irs-announce-intent-to-issue-proposed-regulations-for-excise-tax-on-excess-tax-exempt-organization-executive-compensation-under-the-one-big-beautiful-bill?utm_source=openai)) Notice 2026-36, released June 5, 2026, previews forthcoming regulations and clarifies that certain prior periods may carry forward under previous rules for those previously covered.([irs.gov](https://www.irs.gov/newsroom/treasury-irs-announce-intent-to-issue-proposed-regulations-for-excise-tax-on-excess-tax-exempt-organization-executive-compensation-under-the-one-big-beautiful-bill?utm_source=openai))
## Who Is Affected?
- Nonprofits, charities, foundations, universities, hospitals — any entity that qualifies as an ATEO.
- Executives, directors, or other employees who exceed **$1 million in compensation** or receive parachute payments triggered by a change in control or severance arrangement.
## Exceptions & Transitional Provisions
- Individuals who volunteered or had particular “limited hours” or “nonexempt funds” involvement may be excluded under existing or forthcoming regulations.([irs.gov](https://www.irs.gov/newsroom/treasury-irs-announce-intent-to-issue-proposed-regulations-for-excise-tax-on-excess-tax-exempt-organization-executive-compensation-under-the-one-big-beautiful-bill?utm_source=openai))
- The notice provides exceptions for years beginning **after Dec. 31, 2025**, but applications to years prior, if an employee was a covered employee under the old definition, are limited.([irs.gov](https://www.irs.gov/newsroom/treasury-irs-announce-intent-to-issue-proposed-regulations-for-excise-tax-on-excess-tax-exempt-organization-executive-compensation-under-the-one-big-beautiful-bill?utm_source=openai))
## Practical Compliance Advice for ATEOs
- **Audit all employees and compensation arrangements**: Identify who might be newly caught under the $1 million threshold.
- **Review parachute/ change-of-control agreements**: What's “excess” is likely to be defined in upcoming regulations. Be careful with severance, golden parachutes, and related payments.
- **Track volunteer service and nonexempt funds exceptions**: If individuals meet those criteria, ensure documentation is sound.
## Example Scenario
A university has 6 employees who previously were all under the “top five highest paid,” but now *all six* get over \$1 million annually. Under pre-OBBB rules, only the top five triggered Section 4960. Now, **all six** are likely covered — unless an exception applies. Similarly, someone receiving \$900,000 plus a \$200,000 parachute payment totaling \$1.1 million might also be covered.
## Action Steps for Tax-Exempt Entities
1. Inventory current compensation agreements and payment terms.
2. Develop or revise documentation for exceptions (volunteers, limited hours, nonexempt funds).
3. Prepare to implement new reporting and possibly pay excise taxes for additional covered employees.
4. Consult legal/tax advisors to ensure your organization’s governance policies align with the new definition.
## Takeaway
For tax-exempt organizations, the definition of who is “covered” under executive compensation rules has broadened significantly. Preparing now will mitigate risk and help maintain compliance as the IRS rolls out the forthcoming regulations.