Tax-exempt organizations, nonexempt charitable trusts, and section 527 political organizations send Form 990 to the IRS with information about their financial and operational activity.

Form 990 provides a financial overview of an organization’s revenues, expenses, and net assets. Additionally, it indicates a narrative and informational review of mission, major programs, governance, and regulatory compliance.

Form 990 contains summary information supported with detailed schedules, and both form and schedules are publicly available.

The IRS analyzes Form 990 data to ensure tax-exempt organizations comply with laws and regulations.

Donors often look at Form 990 before giving to the organization. The most common areas donors review include:

• Mission statements and major programs activities. The return provides a description of major program activities and accomplishments as well as related expenditures, grants, and revenues.
• Financial sections. This allows donors to verify the organization’s financial viability.
• Compensation to board members, executives, and management. Donors want to know that compensation is reasonable and that their gifts benefit the mission of the organization.

Individuals internal to the organization may look at its Form 990 to see the compensation of their boss or colleagues or other related party transactions.

Other tax-exempt organizations with similar missions and of similar size may look to the return to benchmark industry standards such as executive compensation.

Occasionally members of the media will review an organization’s Form 990. Their main focus is usually compensation and percent of total expenditures related to further the mission.

It’s important to pay attention to the following areas.

Program Service Accomplishments: Part III

Part III of Form 990 is an opportunity for an organization to tell its story. The section includes descriptions of the organization’s mission, changes in programs, and program accomplishments. It can provide readers information that may not come through in the rest of the organization’s return.

Form 990 is the only federal return that can use adjectives, and this section is often a focus for grantors and donors.

Governance: Part IV

Form 990, Part IV contains a series of questions about governance, management, and policies.

The governance section asks questions such as:

• Are board members independent, and what relationships do they have with each other outside of their board role?
• Who manages the organization?
• Were significant changes made to the governing documents?
• Does the organization have members, and what is their role in governance?
• Are governance decisions documented?

The policy section includes questions geared towards understanding:

• Review of Form 990 before filing
• Monitoring and enforcement of conflict-of-interest policy
• Setting of executive compensation
• Whistleblowing and document retention and destruction policies

While the IRS doesn’t require these governance policies and procedures, they catalog gold standards for good governance of a tax-exempt organization. Good governance generally indicates an involved and compliance-driven board.

While not an absolute, an organization lacking good governance potentially faces more compliance issues or fraud.

Some questions in these sections require additional details on Schedule O which furnish the organization with an opportunity to showcase its good governance.

Compensation: Part VII & Schedule J

The compensation section of the form often gets most of the attention from readers. Form 990, Part VII, and Schedule J provide compensation for current and former board members, officers, key employees, and the five highest-compensated employees.

Compensation disclosed includes taxable W-2 wages, but also nontaxable compensation such as deferred compensation and health benefits.

Schedule J reports additional details for employees compensated more than $150,000. Compensation figures reported here include further classifications of base, bonus, other taxable compensation, deferred compensation, and other nontaxable benefits.

Compensation included in taxable wages previously reported as deferred compensation on a previous Form 990 is also reported on Schedule J.

In addition to additional details on compensation amounts, Schedule J includes questions and requests additional information on:

• Certain benefits that are often provided to executives
• Severance payments
• Nonqualified deferred compensation plans
• Compensation based on the financials of the organization
• Non-fixed payments

The IRS’s focus on compensation assesses whether a tax-exempt organization pays reasonable compensation for the services those listed provide. Unreasonable compensation can be considered an excess benefit transaction.

These transactions are subject to an excise tax on the excess benefit ranging from 25%-200%. It could also potentially be considered private inurement, which could lead to the revocation of the organization’s exempt status.

In recent years, Congress created an excess compensation excise tax on compensation to an individual above $1 million and excess parachute payments indicating their desire to discourage undue compensation. This new excise tax is similar to compensation rules applicable to publicly traded organizations.

However, this doesn’t automatically mean compensation above $1 million is considered an excess benefit; nor does it mean that severance packages automatically trigger the excise tax. It’s important to substantiate the reasonableness of the compensation provided in exchange for services.

Political and Lobbying Activities: Schedule C

Schedule C discloses information on political and lobbying activities. Organizations exempt from taxation under IRC 501(c)(3) can’t conduct political activities without placing their tax-exemption status at risk.

Other exempt organizations may conduct political activities, but unless they’re a 527 political organization, political activities must not constitute a substantial amount of its activities.

The related political expenditures are taxed on Form 1120-POL. Contributions to political organizations must be disclosed, along with the name of the organization and amount.

Lobbying is the attempt to influence actual legislation either directly with legislators or indirectly through the general public.

Lobbying doesn’t include:

• Communicating with members regarding legislation without a call to action
• Nonpartisan analysis, study, or research
• Discussions of broad social and economic problems
• Requests for technical advice

IRC 501(c)(3) organizations, outside of private foundations, may conduct limited lobbying activities as long as they’re not a substantial portion of the organization’s activities. While “substantial” hasn’t been defined, an organization can elect to be measured by the expenditure test which provides thresholds. Find more information on this election here.

Excessive lobbying can lead to the imposition of penalties—on the organization and board members—and possible revocation of exempt status.

Other tax-exempt organizations such as IRC 501(c)(4), (5) & (6) organizations may engage in lobbying related to its exempt purposes. If that organization receives membership dues or similar amounts, it most often must notify members of the portion of the dues they use for lobbying, or pay a proxy tax on those amounts.

Foreign Activities: Schedule F

Schedule F provides information about foreign activities including fundraising, program services, investments and grants to foreign organizations and individuals.

There are 10 international reporting regions, and the schedule provides the number of offices along with employees and independent contractors an organization has in a foreign region.

It’s important for an organization with large investment portfolios, especially alternative investments, to keep track of and verify foreign investments as they report them on Schedule F.

Organizations that have offices, employees, or independent contractors in a foreign region should know about business reporting requirements as well as compensation withholding and filing requirements of the foreign country.

Conversely, if the organization has foreign persons providing services within the United States, there are potential withholding reporting requirements based on treaties. Foreign persons providing services in the United States need not appear on Schedule F.

Included on the schedule is a checklist that can indicate other potential foreign filing obligations. Foreign filings and activities have been a major focus of the IRS and Congress in recent years, and there are penalties for noncompliance with filing such international forms, which often begin at $10,000 per form.

Hospitals: Schedule H

Tax-exempt hospital organizations that operate a licensed hospital facility must complete Schedule H.

The schedule includes information pertaining to financial assistance, community benefits, community building activities, bad debt, Medicare, collection practices, certain management companies, and joint ventures and information regarding requirements under IRC Section 501(r).

Congress and state legislators continually focus on the amount of financial assistance and community benefit tax-exempt hospital organizations provide. Several critics believe that tax-exempt hospitals underprovide community benefit to warrant such tax-exempt status.

This emphasis contributed to the creation of Internal Revenue Code (IRC) Section 501(r) with passage of the Affordable Care Act (ACA) in 2010. In 2008, Schedule H ran only three pages when it was added to the form schedules. After the passage of the ACA, the schedule expanded to a minimum of 10 pages.

Under IRC 501(r), organizations are required to conduct a Community Health Needs Assessment (CHNA) every three years, and meet certain financial assistance and billing and collection policy requirements.

Failure to complete a CHNA can result in an excise tax of $50,000 per year. Gross or willful negligence in complying with financial assistance policy and billing and collection policy requirements can lead to revocation of the hospital facility’s exempt status.

By law, the IRS must review Schedule H of each organization at least once every three years and report its findings to Congress. With requirements of the CHNA and to make policies available to the public, including on the organization’s website, it’s easy for the IRS to check the information Schedule H provides.

The most common cause for compliance checks or exams stem from failing to provide documentation on the organization’s website, and the CHNA or policies failing to meet all the requirements under IRC 501(r).

Tax-Exempt Bonds: Schedule K

One of the benefits of being a 501(c)(3) tax-exempt organization is it opens up financing through tax-exempt bonds, which can provide better terms than other financing.

With the tax-exempt income treatment to bond investors, the IRS regularly enforces compliance with tax-exempt bond requirements.

Schedule K reports information on the organization’s tax-exempt bond that center around verification of compliance. This includes use of bond proceeds, private business use, arbitrage, policies, and procedures.

Private business use refers to using proceeds, including bond-financed property, in an unrelated trade or business or by a nongovernmental person other than an IRC 501(c)(3) organization. That can include, but isn’t limited to, leases, certain management contracts, and research agreements.

An organization is allowed up to 5% private business use before triggering taxes on interest income to the bond’s investors.

Arbitrage is investing tax-exempt bond proceeds in higher yielding taxable securities that provide a return greater than the bond’s paid interest. Certain tax-exempt bonds require arbitrage calculations every five years unless a specific exemption applies.

If the calculation results in excess investment income earned, the organization must report and pay the excess back to the IRS.

Related Party Transactions: Schedules L & R

Ranking second after the compensation sections of the return, readers of the form most often examine related party transactions. Schedule L reports transactions with disqualified individuals and organizations. A disqualified person, in general, includes the following:

• Current or former officer, director, or key employee listed on Form 990, Part VII
• Substantial contributor
• Family member of one of the above
• Entity controlled 35% or more by one or more individuals and organizations listed above

Reportable transactions include loans to or from, grants or assistance provided, compensation to family members, and other business transactions such as leases, professional services, and others.

Many exceptions and thresholds for each transaction determine what kind of reporting needs to happen.

Schedule L also reports on excess benefit transactions, in which a disqualified person receives more benefit than they provided in exchange. Such reporting often catches the attention of the IRS and other seasoned users.

Schedule R requires a listing of related organizations. These include disregarded entities—the financials of which should be consolidated into the organization’s return—tax-exempt organizations, partnerships, corporations, and trusts.

Reportable related organizations aren’t merely those directly related to the organization. They also include organizations that are indirectly related to the filing organization.

Along with a list of related organizations, Schedule R includes a list of transactions that an organization must indicate if they conduct them with a related organization. Organizations that control related parties, outside of disregarded entities, must report dollar amounts of those transactions when they exceed a certain threshold.

The following focus areas can help organizations approach Form 990 strategically.

Additional Oversight

People outside of the finance department could review the major program descriptions on Form 990, Part III.

Program directors have insights on accomplishments and changes to program activities. Grant administrators know what grantors and donors seek.

Marketing likely has a pulse on public relations within the community and provides potential public perception.

Executives and board members should review Form 990 before filing. It’s important that these individuals know the story the return reveals about the organization to users.

It can help to have a professional tax advisor familiar with the form assist with the review.

While it’s good knowing the focus of different parts and schedules of the return, it’s also important to know what the organization’s specific reporting on the return communicates to users. Bond legal counsel could review Schedule K to verify tax-exempt bond reporting and compliance.

Policies, Procedures, and Descriptions

Having policies and procedures in place can help an organization stay in compliance and avoid disclosures on the return that could bring unwanted attention. They can also show that an organization did its due diligence and made reasonable efforts to comply.

Routine reviews of current policies and procedures should occur to verify they still align with requirements and design.

Conduct verifications regularly to ensure proper execution of procedures. Use Schedule O to provide detailed descriptions of the procedures in place to help illuminate good governance.

The IRS places greater emphasis on a couple of policies and procedures. The return includes questions which ask if the organization has them in place and to provide further details.

A conflict of interest (COI) policy can help catch related party transactions before they happen and become reportable on the return. At a minimum, a COI policy should include who’s subject to the policy, requirements to disclose a COI, and what happens if a potential or actual conflict of interest should arise.

It’s also important to have a procedure in place to have officers, directors, and key employees disclose potential conflicts of interest at least annually.

This could happen through an annual questionnaire, or via discussion and verification at board meetings. This aligns with another important procedure to regularly and consistently monitor and enforce compliance of the policy. Schedule O of the return should describe these procedures.

Providing a more thorough description of the procedures can help show that the organization put thought into them and takes such matters seriously. These items all show the reader that not only a conflict-of-interest policy exists, but the organization actively ensures adherence.

Organizations with these procedures are more likely to identify a conflict of interest before it happens, gain an understanding of how it would be disclosed on the return, and take necessary precautions if moving forward.

As mentioned earlier, the compensation sections usually receive the most attention from users. Organizations who highly compensate officers, key employees, or others may receive even more scrutiny.

It’s critical to have a policy and procedure in place around the determination of reasonable compensation, including benefits, for these employees

A best practice is to utilize comparability data to determine a standard for reasonable compensation. This can be the Form 990, a written employment contract of a similarly sized organization with a similar mission, or a compensation survey or study. To help determine reasonable compensation, an organization might also hire an independent compensation consultant.

Another best practice is to have the board, or a committee of the board, review comparability data, discuss and approve the compensation, and document these steps. A description of this process should be included on Schedule O.

Organizations that provide grants and other assistance to foreign organizations or individuals should have procedures in place for monitoring the use of those funds. The IRS’s focus here is to ensure funds don’t end up in the wrong hands.

The IRS likes to see written procedures regarding tax-exempt bonds that ensure nonqualified bonds due to private business use are remediated, monitoring of arbitrage requirements, and timely identification and appropriate corrective measures of noncompliance.

Hospitals are required by the IRS to have a financial assistance policy (FAP), FAP plain language summary, and billing and collection policy. There are certain requirements that each policy must meet. Find more information on these requirements here.

Form 990 is full of both pitfalls and opportunities. An organization needs to have the right policies and procedures in place and a well-informed process of tracking, monitoring, and reporting financial data.

Tax-exempt organizations should seek foresight when implementing new activities, changes in governance, and compensation arrangements.

Careful advising and consideration of the impact on its Form 990 reporting can allow every tax- exempt organization to tell the story it wants to tell while navigating the complex rules and regulations of Form 990.