What Changed Under the One, Big, Beautiful Bill (OBBBA)
Notice 2026-36 (IRS/Treasury, June 5, 2026) clarifies that the excise tax under section 4960 now has a broader reach: any employee earning above $1 million or receiving excess parachute payments may be considered a “covered employee,” not just the top 5 highest-paid—effective for tax years after December 31, 2025. (irs.gov)
OBBBA also kept exceptions in place temporarily: organizations can rely on limited hours and nonexempt funds exceptions in determining whether someone is a covered employee until further guidance issues. (irs.gov)
What Section 4960 Means in Practice
Who Might Be Impacted
- Individuals past the $1 million compensation threshold, even if not among top 5 earners.
- Employees with excess parachute payments (e.g. large severance or buyout amounts).
- Tax-exempt entities like large charities, hospitals, universities, and their related organizations. Smaller nonprofits less likely unless highly compensated staff.
Penalties and Compliance Burdens
- Section 4960 imposes a 2-percent excise tax on remuneration exceeding $1 million paid to a covered employee, plus any excess parachute payments.
- Extended definitions mean more employees must be monitored and tracked. Public disclosure obligations, reporting duties increase.
Examples & Strategic Planning
Example: Nonprofit hospital has 20 employees. Under prior law, only their top 5 earners were “covered employees”. Now, if multiple other employees make over $1 million, each qualifies as a covered employee and their excess pay over $1 million becomes subject to section 4960 tax.
Example: Charity grants a large severance package to a senior executive. This pay might be treated as a parachute payment—reportable and taxable under section 4960. Proper documentation and structuring matters.
What Organizations Should Do Now
- Audit compensation schedules: Identify current employees who might exceed $1 million or receive parachute‐type payments.
- Evaluate agreements for severance, exits, or bonuses—structure to avoid parachute issues if possible.
- Use exceptions wisely: Limited hours and nonexempt funds exceptions can provide safe harbor near term—but may expire or change.
- Track proposed regulations: IRS is seeking comments (due by August 4, 2026) on many of these areas. Stakeholders should participate. (irs.gov)
Key Insights
- Definition change transforms number of potentially covered employees—pay thresholds and roles matter.
- Nonprofits should maintain compensation policies with transparency and documentations.
- Once final regulations issue, certain temporary exceptions may disappear—planning ahead is critical.
Bottom line: OBBBA’s expansion of section 4960 elevates risk for organizations with any highly compensated staff. Early assessments and strategic compensation planning can avoid costly penalties and ensure compliance.