Payroll for nonprofits varies depending on your organization’s structure. Like for-profits, all nonprofits must pay and withhold FICA taxes, but 501(c)(3)s are exempt from paying federal unemployment taxes (FUTA). You can pay from $0 to $100s per month for a payroll service to handle your taxes, and some offer discounts to nonprofits.
If you need help paying your state and federal payroll taxes, consider ADP Run. It offers automatic payroll processing and electronic tax filing for nonprofits at discounted rates. Request a free online demo today.
How Payroll for Nonprofits Works
Nonprofit payroll works similar to payroll in different business industries when it comes to withholding payroll taxes and paying employees. Like for-profits, nonprofits must withhold Social Security and Medicare taxes from employee paychecks. If your nonprofit has tax-exempt status (not all do), you must also withhold federal and state income tax. Organizations with 501(c)(3) status don’t have to pay FUTA, and state unemployment taxes (SUTA) can be paid in advance or after claims are filed.
Nonprofits must be careful when paying workers. There’s a difference between employees, contractors, volunteers, and board members. The IRS will only allow you to make nominal payments to volunteers; anything more than that will be taxable to both you and your volunteers. And any board members who are compensated must be paid a reasonable amount per a special IRS test.
How to Pay Nonprofit Workers
One of the first decisions you make when doing payroll for a nonprofit is deciding how much to pay your workers. Federal law dictates that all employees must be paid a minimum wage of $7.25 an hour, but this doesn’t apply to volunteers. Commissions and bonuses should be avoided, because the IRS will likely view them as red flags. They’re typically tied to performance and can open the door to fraudulent activity.
Minimum Wage for Nonprofits
Minimum wage is the lowest pay rate employers are allowed to pay their employees. Per federal law, you must pay at least $7.25 an hour, and depending on the state your organization is in, it may be higher. There are 17 states and territories with rates that match the federal minimum wage, but most of the others are higher. It’s a good idea to check your state’s minimum wage before making any job offers.
Some nonprofits hire employees with disabilities, which allows them to pay a lower rate than the minimum wage law allows. You will need to request a certificate from the DOL’s Wage and Hour Division before implementing. You can also pay employees under the age of 20 a minimum rate of $4.25 an hour for their first 90 days of employment.
As a nonprofit, it’s customary to work with volunteers in addition to employees, but payment to volunteers is not handled the same. By the DOL’s definition, a volunteer is an “individual who volunteers or donates their services, usually on a part-time basis, for public service, religious, or humanitarian objectives, not as employees and without contemplation of pay.”
If you decide to pay a volunteer, the amount must be nominal, meaning insignificant and irregular. The DOL doesn’t consider any payments nominal that are over 20% of what you would pay a full-time employee to perform the same services. Paying a volunteer a regular and significant amount can raise a red flag and result in a determination that your volunteer is an employee on whose wages you should be paying taxes.
“Volunteers should live outside of your payroll system. If they are there, then they’re more part-time employees and you need to make sure you’re following the legality of how many days they’re working, making sure they don’t accidentally end up as full-time people or end up miscounted in your payroll system. I don’t like using payroll systems for volunteer management. If you are compensating volunteers in a monetary way, you’re moving into a part-time system and shouldn’t call them volunteers at the risk of misusing employment law.”
– George Weiner, Founder and Chief Whaler of Whole Whale
Generally, if you’re paying a volunteer beyond a nominal amount, you should withhold income and FICA taxes in addition to paying the matching employer FICA taxes. This includes any stipends or allowances paid. Non-cash benefits, or perks, that aren’t tax-exempt must be assigned a value so you can collect and pay the proper employment taxes. Inexpensive items like T-shirts or coffee mugs can be excluded.
When you reimburse employees for purchases they can deduct on their taxes, such as required uniforms, the amount is not taxable, so you won’t have to treat it the same as wages. If you pay a volunteer with a cash payment, your organization will be required to follow the same reporting and withholding guidelines as it would for any other employee.
Independent Contractors Working for Nonprofits
Independent contractors are workers who provide goods or services to an organization per a contract or other agreement. Similar to other employers, nonprofits don’t have to withhold or pay payroll taxes on payments made to independent contractors. Simply have them complete a W-9 form that will collect their tax identification number and other information to make it easy for you to report their annual earnings on a 1099 at year-end.
Be careful when classifying your workers as employees versus independent contractors. If you fail to withhold and pay taxes on amounts paid to an independent contractor and the IRS discovers that your contractor is actually an employee, you could face penalties and additional payroll taxes. Contractors generally have more control over their time, pay, and work method than employees.
Board Members of Nonprofit Organizations
Not all nonprofits have a board of directors to manage their finances and other activities, but those that do must take care when providing compensation. The IRS doesn’t specify how much you can pay board members, but it does state the payments must be reasonable. Compensation for officers, directors, key employees, and others with the power to exercise substantial influence over the nonprofit should be decided by a non-biased party.
The following are steps you can take to ensure your board members are being paid a reasonable amount:
- Get approval: Request that the compensation arrangement is reviewed and approved by a group of authorized individuals who don’t have a conflict of interest regarding the compensation plan.
- Compare wages: Check salary and wage amounts for similar positions near your area and compare them to your proposal as a reasonableness check.
- Document determination: Document the basis of your wage determination to create a paper trail and eliminate confusion.
Payroll Taxes & Costs for Nonprofit Organizations
Payroll taxes are handled differently within some nonprofit organizations, like FUTA and SUTA, but let’s look at all of the payroll taxes together. Even if you’re exempt from FUTA taxes, calculating, paying, and filing the other payroll taxes accurately and on time can be a major challenge.
Here are the payroll taxes nonprofits are generally subject to pay or withhold from employee paychecks:
- FICA: Social Security and Medicare taxes, 6.2% and 1.45%, respectively; you pay approximately 7.65% from your bank account and withhold the same from your employees’ wages.
- FUTA tax: You pay FUTA taxes on the first $7,000 of each employee’s wages at a rate of 7%. This is to cover unemployment benefits for employees in the event of their termination. Employees are not responsible for paying this tax; 501(c)(3)s are exempt.
- SUTA tax: SUTA tax rates can vary from 2.7% to 3.4%, and can sometimes be even higher for new employers that don’t have claim history. Nonprofits can pay into the tax fund regularly or reimburse the state when former employees make claims.
- Federal income tax: You should collect a W-4 form when your new employee is hired; it will show all of the allowances claimed so you can withhold the proper amount for federal taxes each period.
- State income tax: You may have to withhold state income taxes if your state requires it, and the employee is not exempt. If your nonprofit is in certain states like Florida or Texas, you don’t have to withhold state income taxes.
- Local income tax: Some localities, like New York City, charge their own tax outside of the state income tax. You will need to check your state and local laws to verify how much you need to withhold.
- Workers’ Compensation: Nonprofits are required to comply with state workers’ comp laws. This ensures your organization is covered if an employee suffers injury or death as a result of work performed on the job. Rates depend on position, claim history, and so on.
Nonprofit Payroll Providers
When looking for the best nonprofit payroll providers, you don’t have to limit your search to services that only target nonprofits. General payroll software should work just as well. The differences between payroll for nonprofits versus for-profits aren’t so great that it’s necessary to use a completely different software package.
Here are providers that provide payroll services for nonprofits:
Gusto provides an online payroll system for small business owners who need an affordable, easy-to-use software with great customer service and advanced features. It costs $45 a month for one employee and is a good option for nonprofits that need to offer benefits and run an unlimited number of payrolls without being charged extra fees.
Patriot Payroll is another inexpensive payroll software that starts at $14 per month ($10 base fee plus $4 per employee). Many nonprofits use it because it helps them run payroll on their own while giving them the option to upgrade to full-service payroll at a starting rate of $34 a month. It allows you to run payroll in three steps, and you have the option of printing paychecks or paying through direct deposit.
3. ADP Run
ADP Run is a high-end option for nonprofits with less than 25 employees. We received a quote of $45.90 per biweekly pay run, which includes a 49% discount for nonprofits. It’s a good option for nonprofits that want a trusted payroll service that’s been around for a while. You can use it to run and monitor your payroll from anywhere in the world.
Payroll4Free will allow you to run payroll and calculate payroll taxes in addition to viewing payroll summary reports. You can also print paychecks with the free version, but direct deposit is a $12.50 flat fee per month. It’s a great option for nonprofits that don’t yet have a budget for payroll software and are willing to pay and file payroll taxes themselves.
JustWorks is a professional employer organization (PEO) that will handle your payroll, taxes, and compliance issues for you. All payroll taxes and employee garnishments are processed under the JustWorks tax identification number and name. It’s a good option for nonprofits with more than 50 employees, because prices decrease as the number of employees increase, and the benefits they offer are more valuable.
JustWorks offers a discount to nonprofit organizations. Instead of $59 per employee, per month for an organization with 12 employees, a nonprofit would only be charged $49 per employee, per month.
Health Insurance Benefits & Other Deductions
When processing payroll for your nonprofit, taxes aren’t the only consideration; health insurance benefits and other deductions must also be withheld and paid. You’re not required to offer health insurance unless you have at least 50 full-time equivalent (FTE) employees, but it could boost employee morale. You might also consider 401(k), commuter, dental insurance, and other benefit options.
Health Insurance Requirements Under the Affordable Care Act
The Affordable Care Act requires all organizations to offer health insurance to employees once they have more than 50 FTE employees. A full-time employee represents 30 hours worked per week. This means that two 15-hour employees (15 + 15 = 30) is the same as one full-time employee. When calculating net pay for employees, be sure to deduct any health insurance premiums you require them to pay.
If you’re considering offering benefits to your employees, consider Gusto. Starting at $45 a month, Gusto gives you and your employees the option to set up and manage benefits from anywhere. Sign up for a free trial today.
Other Benefits & Deductions
Other benefits you might include are 401(k), dental insurance, vision insurance, flexible spending accounts, and health savings accounts. These are all employee benefits that you can contribute to partially or fully. Remember, any contributions you make are expenses to your organization, but any premiums you collect are just deducted from employee paychecks.
One undesired deduction is a wage garnishment. This is a court-issued order requiring you to withhold a certain amount from an employee’s check to pay one or more of their debts. You have a certain number of days to respond and must begin withholding the specified amount immediately, or you could be liable.
Some of the best payroll software and services will handle garnishments for you. Paychex will help you set up wage garnishments so they are automatically deducted from employee paychecks. This saves you time and eliminates the risk of withholding the incorrect amount. Call for a free quote today.
Labor Laws for Nonprofits
There are numerous labor laws employers are expected to follow, including overtime rules, meal time laws, and paid time off policy requirements. Nonprofits are generally exempt from these when it pertains to volunteers, but it’s important to be aware of them when setting human resource policies for employees. You should also consider state-specific laws, because they can differ from federal.
Here are some of the labor laws you should be concerned about:
- Paid time off: This includes holiday, sick leave, vacation, and so forth. Federal law doesn’t require you provide paid vacation nor dictate when employees can use it. Some states, like California, require you to roll over unused vacation time from one year to the next.
- Overtime: Overtime is generally paid at 1.5 times the employee’s regular rate for any hours worked over 40 in seven consecutive days. California requires you pay overtime for any hours worked over eight in a day and double-time when it’s over 12 hours.
- Meals and breaks: The DOL doesn’t require you provide lunch breaks, but any breaks taken in 20-minute increments (or less) must be compensated.
- FMLA leave: If you have 50 or more employees, you must provide up to 12 weeks of unpaid, job-protected FMLA leave for the year. Employees will sometimes use this for maternity leave or to care for a sick family member.
- Recordkeeping: You must keep organized records on each employee that include their name, occupation, hours worked each day, weekly overtime earnings, and so on.
- Labor law posters: The DOL requires that you place certain posters in your workplace so employees can easily see them. You will need the Federal Minimum Wage poster and possibly the Equal Employment Opportunity poster if you receive federal funds.
Types of Nonprofit Organizations
Many people think of the term “nonprofit” as a one-size-fits-all, but that’s not true. There are many different types, but the most common is the 501(c)(3) organization. The 501(c)(3) organization is a nonprofit that’s been recognized by the IRS as a tax-exempt charitable program. Usually a charity, this includes churches, religious institutions, and animal welfare agencies. It can also be a foundation, although a foundation requires more money to start.
Before we dive into the impact that being a 501(c)(3) has on payroll for nonprofits, let’s review some of the other types of nonprofit organizations:
- 501(c)(1): Nonprofits organized by Congress; Your Federal Credit Union is a great example.
- 501(c)(2): Holding corporations for exempt organizations, meaning they can own properties for an exempt nonprofit. An example would be a church establishing an organization with the sole purpose of holding the title to its properties.
- 501(c)(4): Social welfare organizations and civic leagues that focus on providing education, charity, and community welfare.
- 501 (c)(5): Labor, agricultural, and horticultural organizations that are educational created to improve work conditions and efficiency; includes labor unions.
There are many more types of nonprofits, all of which have different rules regarding eligibility, lobbying, and tax exemption. Generally, every organization must withhold Social Security, Medicare, and federal income tax from its employees’ wages. In addition, all nonprofits except 501(c)(3)s are required to pay FUTA taxes.
Nonprofits with 501(c)(3) status are the most well-known and are very restrictive in regard to lobbying and politics. The organization cannot be used for the personal gain or benefit of its employees, supporters, board members, relatives, or associates. Although most 501(c)(3) organizations withhold and deposit federal income and FICA taxes, some churches and church-controlled organizations aren’t required to do so when it conflicts with their religious beliefs.
To be considered a 501(c)(3), your nonprofit must fit into one of the following categories per the IRS:
- Testing for public safety
- Fostering national or international amateur sports competition
- Children or animal cruelty prevention
Unemployment Taxes for Nonprofits
Employers generally pay FUTA taxes at a rate of 6% on the first $7,000 of each employee’s wages. If your organization is a 501(c)(3), it’s automatically exempt from FUTA taxes. However, you are still subject to the requirements of your state unemployment tax program.
Federal law does give you the choice to opt-out of paying into the state unemployment tax program and reimburse the state only for unemployment claims paid out to former employees. This could save your organization a significant amount of money if you’ve had little to no unemployment claims in the past. Many nonprofits pay more in taxes than the state pays for its claims.
A major disadvantage of choosing the reimbursement option is that you don’t know for certain how much your unemployment claims will be. It’s possible to underestimate the total claims that will be made, and you could face a large, unexpected tax bill for the period.
To mitigate this risk, start tracking your annual unemployment costs. Then set aside an adequate amount each year to cover future estimated liabilities. And remember, even employees who voluntarily terminated their employment can be eligible for unemployment benefits.
Nonprofit Payroll Service Costs
The cost of processing payroll for your nonprofit can be cheaper than processing payroll for regular businesses. Some payroll services offer special discounts to nonprofit organizations, and those that don’t are generally inexpensive. Depending on your needs and how much research and work you’re willing to do, you can process payroll for a nonprofit with 12 employees from a cost of $0 up to a $100 or more a month.
Here are the three different cost levels you’ll generally find when researching payroll software:
- Inexpensive: An inexpensive payroll software for nonprofits can range from $10 to $90 a month. You usually have access to some add-ons, like time and attendance, but not to the extent of high-end software. The interface is typically user-friendly.
- High-end: A high-end payroll for nonprofit service could cost $90 a month for 12 employees, depending on whether you add on a la carte features. You usually have more HR support, so you can ask about specific compliance issues when they arise.
- Free: Free payroll software for nonprofits is usually limited in the number of employees it can support and can sometimes be less up-to-date and intuitive. You should be able to run payroll and print checks, but the system might be clunky.
Payroll software costs can vary, but nonprofit payroll software is generally cheaper because of discounts, even if the provider is the same. If you have a few employees, you can probably get away with using a free, less user-friendly software. However, once you reach 50 or more employees and need to provide insurance and FMLA leave, you’ll have to spend hundreds of dollars per month to reap the benefits of a high-end service.
Payroll for Nonprofits Frequently Asked Questions (FAQs)
In this article, we discussed the most important aspects of running payroll for nonprofits. However, we realize that some questions are asked more frequently than others, and we’ve addressed them here. If you have a question that’s not on our list, feel free to share it with us in our forum, and we’ll provide an answer.
Do nonprofit employees pay fewer payroll taxes?
No, nonprofit employees do not pay fewer taxes than employees working for a business. Social Security, Medicare, and income taxes are still withheld. Some people try to apply a nonprofit’s tax exempt status to all employees who are associated with the nonprofit, but this is incorrect.
Can nonprofits pay their employees a competitive wage?
Yes, nonprofits can pay employees competitively. It’s important that everyone is paid a reasonable wage or salary that aligns with the type of work they do and the area in which they do it. Any excessive wages paid will send a red flag and could subject the organization to an audit.
How does receiving federal funds affect my nonprofit’s payroll system?
Federal funds usually come with stricter guidelines and could subject you to an A-133 audit. If this is the case, one of the most important things to do is establish clear controls in your payroll process. The person who prints your checks shouldn’t be the same employee running payroll; otherwise, you could receive an unfavorable audit opinion and lose access to future funds.
Should my nonprofit pay into the state unemployment fund or reimburse after claims are paid?
If your organization has 100 or more employees, using the reimbursement method could provide the greatest benefit. If your claims have been lower than the taxes you paid over the past few years, your savings could add up over time.
Using the reimbursement method for a smaller organization can be beneficial but poses more risk. If claims are more than expected, a small nonprofit may not have the cash flow to cover the expense.
The most challenging part about doing payroll for a nonprofit is balancing the budget and other resources with compliance. Knowing you’re not subject to FUTA taxes or that you don’t need to pay volunteers a significant amount for their services is important to minimize penalties and save money.
If you need access to your own HR expert while you run payroll, consider Zenefits. It combines the payroll automation features a regular payroll provider offers with the service of a PEO at an affordable rate. Request a free demo today.