Payroll for Nonprofits: Working Process & Benefits
What is a nonprofit organization? According to federal law, they are entities operating for religious, charitable, and other purposes. That’s not to say a nonprofit organization can’t make money, but the additional earnings must go back to the organization’s mission.
Calculating the payroll for a nonprofit organization isn’t too different from a for-profit company. There are some additional considerations, such as tax withholdings and exemptions. Filing the payroll correctly can help avoid legal trouble.
Read on to learn more about how payroll processing works and what benefits nonprofits offer.
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How Payroll for Nonprofits Works
Most nonprofits are 501(c)(3) entities. Common examples include the following:
- Charitable organizations
- Religious organizations
- Scientific organizations
- Educational entities
There are other nonprofit classifications, such as the 501(c)(4) and 501(a). 501(c)(4) refers to social welfare organizations, while 501(a) includes other nonprofit organizations. All 3 have tax-exempt status, unlike for-profit organizations.
Paying nonprofit workers starts by taking into account several essential factors. These include:
The pay period is how soon you pay your employees their wages. There are typically 4 options:
Semimonthly payments are similar to biweekly wages, though they might not cover the same amount of days. It’s a looser version of the biweekly salary, as you don’t always get the paychecks on the same day of the month.
Minimum Wage Laws
While the federal minimum wage is $7.25 an hour, a nonprofit must still check if the state’s minimum wage is higher. 29 states have a minimum wage higher than the federal wage. To pay any lower without authorization or good reason is illegal.
You can pay employees with disabilities a lower rate if impaired, though you need the Department of Labor’s authorization. You may also pay workers who are 19 and under $4.25 an hour for the first 90 days after official employment. Seasonal workers are exempt from minimum wage requirements.
Certain nonprofit entities may apply to the DOL’s Wage and Hour Division to request a certificate and pay below the minimum wage. These companies tend to employ more disabled workers and can only implement this lower wage after receiving the green light.
Exempt or Non-Exempt Employees
Employees fall into 2 categories. They’re either exempt or non-exempt, as defined by the Fair Labor Standards Act (FLSA). In a nutshell, you aren’t obligated to pay exempt employees any overtime pay, but non-exempt employees must receive these wages.
Exempt employees tend to be board members and hold executive positions. They cannot receive overtime money if they have a salary and earn more than $35,568 a year.
Non-exempt workers can receive up to 1.5 times their standard rate per federal overtime rules. You can only pay them overtime once they clock more than 40 hours weekly. However, some states have differing legislation.
In some locations, working more than 8 hours a day classifies as overtime, even if the employee hasn’t reached 40 hours that week. Consult the local laws first when you’re unsure how to calculate employees’ paychecks.
One of the most confusing aspects of calculating a nonprofit payroll is deciding who is an employee, contractor, or volunteer. The law treats all of them differently, meaning it’s crucial to understand how much they can earn.
The simplest one is the employee, a person who is working directly for your nonprofit. They have benefits such as Social Security and Medicare. The organization usually provides them with equipment for their jobs, and they can’t subcontract any work to others.
Independent contractors pay taxes on their own, meaning you don’t pay them the same way you pay employees. They work with you for shorter periods and have their own tools or supplies. Others work on a per-project basis.
Volunteers are people who help the company out of personal kindness. They legally can’t expect any compensation. However, you can give them gifts not exceeding 20% of an employee’s wages or $500 a year. The safest option is to provide non-monetary compensation, as it usually avoids legal trouble.
Payroll Taxes & Withholding for Nonprofit Organizations
Taxes and withholding money from employees’ wages are yet another area where some nonprofits struggle. You may use some of the withheld money to pay taxes, but not all nonprofits need to pay the same rates. How each company has to withhold taxes can differ based on many factors.
Nonprofit employers must match Social Security and Medicare withholdings. This is true for all employees earning above $100. Social Security taxes are withheld from the gross wages until they reach the wage base limit. FICA taxes are 7.65%, and 6.2% is from Social Security.
Medicare taxes have a rate of 1.45%. These amounts are part of all nonprofit payroll taxes, meaning employees and employers must pay them.
Also known as the Federal Unemployment Tax Act, this is a necessary tax for any nonprofit that isn’t a 501(c)(3). It’s needed to pay federal unemployment taxes. Form 940 is the form for paying these taxes, which you will find on the IRS website. Only the employer pays this amount—employees don’t have to.
FUTA taxes cover unemployment benefits for former employees after termination.
Some nonprofits must pay State Unemployment Tax Act taxes, which vary by the state in which they’re located. This tax comes from the employer portion. It’s paid to the state, but the challenge is that every state has different rates. These are also assigned to employers individually.
Nonprofits that manage to retain their employees tend to enjoy lower rates. Organizations with poor retention usually have to pay more. As it varies between states, it’s best to check the state’s government website for more information.
Federal Income Tax
Because nonprofits have tax-exempt status, they don’t need to pay federal income taxes. But they must still withhold federal income taxes from an employee’s paycheck.
A W-4 is helpful so employers remember to withhold federal income tax. It shows claimed allowances and makes the process easier.
State Income Tax
If state laws require nonprofits to withhold state income tax, you must withhold it from employee paychecks. Some states don’t have such a requirement.
Local Income Tax
Certain localities charge additional taxes alongside state taxes. You’ll have to check and see what the rates are.
Workers don’t have to be in the field to receive compensation, and each state has different laws regarding workers’ compensation. A nonprofit must pay payroll taxes partially to cover anyone suffering injury or death.
One of the best ways to calculate a nonprofit payroll is to use payroll software. The right program can process payroll while accounting for all required taxes. You should consider a payroll provider if needed.
Providers offer payroll services, calculating the wages your employees get. That way, you can focus on the nonprofit’s mission above all else.
Benefits for Nonprofits
When processing payroll for your organization, there are even more aspects to consider. For instance, entities with at least 50 full-time employees require health insurance. However, some offer it as an incentive even if they have fewer than 50 full-time employees.
Other benefits include the following:
- Dental insurance
- Health savings
- Paid time off
- FMLA leave
Consult the labor laws when you are unsure how to proceed. No organization is exempt from them.
Calculating payroll expenses can be complicated. Nonprofits must consider federal, state, and local regulations.
The nonprofit type, employee type, and other factors also make a significant difference in payroll. Withholding the right amount of taxes is paramount and avoids legal trouble, even if the entity has tax-exempt status.
There are ways to find the exact amount you owe each worker for their hard work. Whoever is in charge of payroll can discover the correct payroll expenses by using specialized software. Doing so eliminates plenty of issues that may otherwise escalate if ignored.
FAQ on Payroll for Nonprofits
How Much Can a Nonprofit Legally Spend on Overhead?
A nonprofit should never spend more than 35% of total expenses on overhead. Note that there isn’t a legal amount you can’t exceed, but this is a recommendation from the IRS.
How Much Money Can a Nonprofit Have at the End of the Year?
Nonprofits should have some money in reserve, but going beyond 2 years’ worth of budget isn’t recommended. There is also no legal limit, but common practice is retaining 3 to 6 months’ worth of reserve funds.
What Percentage Do Nonprofits Keep?
A good standard is 25% for administrative overhead and the remaining 75% used in program expenditures. However, 15% is a better number, as it proves that nonprofits aren’t for-profit businesses.
What Can a Nonprofit Write Off?
A nonprofit company can write off several expenses. These include repairs, wages, licenses, and training.