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March 01, 2018

New Excise Tax Cuts Into Tax-Exempt Executive Compensation

Scott C. Withrow, Esq., Withrow, McQuade & Olsen, LLP, Atlanta, GA

On December 22, 2017, President Trump signed into law a congressional revenue act originally introduced in Congress as the Tax Cuts and Jobs Act (TCJA).1  A major element of TCJA was reducing the maximum for-profit corporate income tax rate from 35 percent to 21 percent.  The corporate tax cut will benefit some areas of the healthcare industry, particularly pharmaceutical and health insurance companies.2  However, only 21 percent of the nation’s 4,840 community hospitals are owned by for-profit entities that might enjoy the large corporate income tax cut.3  A majority (59 percent) of the nation’s community hospitals are owned by nongovernment not-for-profit hospitals and the remainder (20 percent) are owned by state and local governments.4  TCJA also included a new 21 percent excise tax on excess tax-exempt organization executive compensation that may impact those not-for-profit hospitals that claim exemption from federal income taxes under Internal Revenue Code (IRC) Section 501.5

Background – Limits on Publicly Held, For-Profit Executive Compensation

Taxable employers and other service recipients generally may deduct reasonable compensation expenses.6  However, in some cases compensation in excess of specific levels is not deductible.  A publicly held corporation generally cannot deduct more than $1 million of compensation in a taxable year for each “covered employee.”7  For this purpose, prior to TCJA a covered employee was the corporation's principal executive officer (or an individual acting in such capacity) defined in reference to the Securities Exchange Act of 1934 (Exchange Act) as of the close of the taxable year, or any employee whose total compensation is required to be reported to shareholders under the Exchange Act by reason of being among the corporation's three most highly compensated officers for the taxable year (other than the principal executive officer or principal financial officer).8  TCJA added the principal financial officer to the definition of “covered employee” for publicly held corporations.9

In addition to the limited deductions for compensation paid to the most highly compensated officers of publicly traded corporations, all for-profit corporations are subject to limits on deducting certain change in control payments, commonly known as “parachute payments.”  A for-profit corporation generally cannot deduct that portion of the aggregate present value of a “parachute payment” which equals or exceeds three times the “base amount” of certain service providers. The nondeductible excess is an “excess parachute payment.”10 A parachute payment is generally a payment of compensation that is contingent on a change in corporate ownership or control made to certain officers, shareholders, and highly compensated individuals.11  An individual's base amount is the average annualized compensation includible in the individual's gross income for the five taxable years ending before the date on which the change in ownership or control occurs.12  Certain amounts are not considered parachute payments, including payments under a qualified retirement plan, a simplified employee pension plan, or a simple retirement account.13

Reasons for the Change for Tax-Exempt Organizations

The limits on for-profit corporations deducting compensation of more than $1 million and excess parachute payments previously did not affect tax-exempt organizations.14  The House Ways and Means Committee15 believes that tax-exempt organizations enjoy a tax subsidy from the federal government because contributions to such organizations are generally deductible and such organizations are generally not subject to tax (except on unrelated business income).16  As a result, such organizations are subject to the requirement that they use their resources for specific purposes, and the Committee believes that excessive compensation (including excessive severance packages) paid to senior executives of such organizations diverts resources from those particular purposes.17  The Committee further believes that alignment of the tax treatment of excessive executive compensation (as top executives may inappropriately divert organizational resources into excessive compensation) between for-profit and tax-exempt employers furthers the Committee's larger tax reform effort of making the system fairer for all businesses.18  The American Hospital Association lobbied against the excise tax provision to no avail.19 

New 21 percent Excise Tax on Excess Tax-Exempt Executive Compensation

TCJA adds new Section 4960 to the IRC to impose an excise tax equal to 21 percent (the current corporate income tax rate)20 of the sum of (1) any remuneration paid (other than an excess parachute payment) by an applicable tax-exempt organization for a taxable year with respect to employment of any covered employee in excess of $1 million, plus (2) any excess parachute payment paid by such organization to any covered employee.21  Accordingly, the excise tax applies as a result of an excess parachute payment, even if the covered employee's remuneration does not exceed $1 million.

The term “covered employee” means any employee (including any former employee) of an applicable tax-exempt organization if the employee is one of the five highest compensated employees of the organization for the taxable year or was a covered employee of the organization (or a predecessor) for any preceding taxable year beginning after December 31, 2016.22  An “applicable tax-exempt organization” is an organization exempt from tax under IRC section 501(a), an exempt farmers' cooperative, a federal, state or local governmental entity with excludable income, or a political organization.23

Remuneration means wages as defined for income tax withholding purposes,24 but does not include any designated Roth contribution.25  Remuneration shall be treated as paid when there is no substantial risk of forfeiture of the rights to such remuneration, even if it has not yet been received.26  Remuneration includes any remuneration paid with respect to employment of a covered employee by any related person or governmental entity.27   

Section 4960 contains a new definition of parachute payment that relates solely to separation pay, in contrast to a broader change in control notion for taxable corporations.28  A parachute payment under Section 4960 is a payment in the nature of compensation to (or for the benefit of) a covered employee if the payment is contingent on the employee's separation from employment and the aggregate present value of all such payments equals or exceeds three times the base amount.29  The base amount is the average annualized compensation includible in the covered employee's gross income for the five taxable years ending before the date of the employee's separation from employment.30  An excess parachute payment subject to Section 4960 is the amount by which any parachute payment exceeds the portion of the base amount allocated to the payment.31  Parachute payments do not include payments under a qualified retirement plan, a simplified employee pension plan, a simple retirement account, a tax-deferred annuity, or an eligible deferred compensation plan of a state or local government employer.32

The employer of a covered employee is liable for the excise tax.33 If remuneration of a covered employee from more than one employer is taken into account in determining the excise tax, each employer is liable for the tax in an amount that bears the same ratio to the total tax as the remuneration paid by that employer bears to the remuneration paid by all employers to the covered employee.34

Section 4960 is effective for taxable years beginning after December 31, 2017.35  The Joint Committee on Taxation36 estimates that the new 21 percent excise tax on tax-exempt executive compensation will raise $1.2 billion over ten years (2018-2027).37

Important Exceptions for Licensed Medical Professionals

The conference agreement to TCJA38 added important exceptions for the portion of any compensation attributable to medical services of licensed medical professionals from the definitions of remuneration39 and parachute payment.40   A licensed medical professional for this purpose includes a veterinarian.  These exceptions allow tax-exempt hospitals to pay specialized physicians over $1 million per year and parachute payments for medical services without incurring the 21 percent excise tax.  However, licensed medical professionals who are performing administrative duties and not medical services are not covered by the exceptions and could be subject to the 21 percent excise tax.  If a licensed medical professional is performing both medical services and administrative duties, hospitals will need to make proportional calculations to remove compensation for medical services, and then analyze whether the remaining compensation for administrative duties is subject to the 21 percent excise tax. 

Example of How the 21 percent Excise Tax Will Apply to Tax-Exempt Hospitals

The new 21 percent excise tax will likely mainly impact the larger tax-exempt hospital systems that commonly pay executive compensation in excess of $1 million per year.  For example, Ascension Health Alliance is the nation’s largest non-profit health system, with 141 hospitals and 2,500 sites of care in 22 states and the District of Columbia.41  Using information on the five highest compensated employees from Ascension’s tax-exempt return on Form 990 filed with the Internal Revenue Service for the fiscal year ended June 30, 2016,42 one can estimate the impact of the 21 percent excise tax assuming executive compensation in 2018 is comparable to the most recently reported information:

Name and Title

Taxable Comp.

Excess Over $1M

21% Excise Tax

Anthony R. Tersigni





Robert J. Henkel

Exec. VP




Anthony J. Speranzo





David B. Pryor

Exec. VP




John D. Doyle

Exec. VP









The new 21 percent excise tax better aligns the tax treatment of excessive executive compensation for publicly traded for-profit corporations and tax-exempt organizations.  The excise tax will cost some non-profit hospital organizations millions of dollars in new federal taxes.  The new tax should cause tax-exempt governing boards to rethink whether excessive executive compensation and severance packages are consistent with the tax-exempt purposes of the organizations.   

  1.  Public Law No. 115-97 (2017), an Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018, 131 Stat. 2054.
  2.  The Wall Street Journal, “Guide to the New World of Taxes,” pp. 68-69 (Feb. 2018), available for download at (last viewed Feb. 15, 2018). 
  3.  American Hospital Association, “Fast Fact on U.S. Hospitals, 2018,” (last viewed Feb. 1, 2018).
  4.  Id.
  5.  P.L. 115-97, 2017 H.R. 1, 131 Stat. 2054, 2157 (Dec. 22, 2017), Sec. 13602. EXCISE TAX ON EXCESS TAX-EXEMPT ORGANIZATION EXECUTIVE COMPENSATION.
  6.  I.R.C. § 162(a)(1) (2017).
  7.  I.R.C. § 162(m)(1) (2017).  Under I.R.C. § 162(m)(6), a $500,000 limit applies to deductions for compensation of individuals performing services for certain health insurance providers.
  8.  I.R.C. § 162(m)(3) (2017).  In 2006, the Securities and Exchange Commission amended certain rules relating to disclosure of executive compensation under the Exchange Act.  Under those new rules, such officers are (1) the principal executive officer, (2) the principal financial officer, and (3) the three most highly compensated officers, other than the principal executive officer or principal financial officer.  In response, the Internal Revenue Service issued update guidance of identifying which employees are covered by section 162(m) and excluded the principal financial officer.  IRS Notice 2007-49, 2007-2 I.R.B. 1429.
  9.  P.L. 115-97, 2017 H.R. 1, 131 Stat. 2054, 2156 (Dec. 22, 2017), Sec. 13601(b).
  10.  I.R.C. § 280G(a) and (b) (2017).
  11.  I.R.C. § 280G(b) and (c) (2017).
  12.  I.R.C.§ 280G(b)(3) and (d)(2) (2017).
  13.  I.R.C. §§ 401(a), 403(a), 408(k) and 408(p) (2017).
  14.  TCJA also changed the excessive compensation rules for publicly traded corporations to repeal the exception for performance-based compensation.  P.L. 115-97, 2017 H.R. 1, 131 Stat. 2054, 2155-56 (Dec. 22, 2017), Sec. 13601(a).
  15.  All bills for raising revenue must originate in the House of Representatives.  U.S. Const. Art. I, § 7, Cl. 1.
  16.  H.R. REP. 115-409, 333 (Nov. 13, 2017), 2017 WL 5466612, 114.
  17.  Id.
  18.  Id.
  19. (last viewed Feb. 15, 2018). The AHA Statement references a proposed 20 percent excise tax, which was later increased to a 21 percent excise tax in the final version of TCJA.
  20.  I.R.C. § 11 (2018).
  21.  I.R.C. § 4960(a) (2018).
  22.  I.R.C. § 4960(c)(2) (2018).
  23.  I.R.C. § 4960(c)(1) (2018).
  24.  I.R.C. § 3401(a) (2018).
  25.  I.R.C. § 4960(c)(3)(A) (2018).  Roth IRA contributions are otherwise not deductible from taxable income.  See (last viewed Feb. 15, 2018).
  26.  Id.; I.R.C. § 457(f)(3)(B) (2018).
  27.  I.R.C. § 4960(c)(4) (2018).
  28.  Contrast I.R.C. § 4960(c)(5) (2018) with I.R.C. § 280G(B)(2) (2018).  A change of control notion does not apply tax-exempt organizations because such organizations do not have private shareholders and upon dissolution remaining assets must be distributed to other tax-exempt organizations or to governments for public purposes.
  29.  I.R.C. § 4960(c)(5)(B) (2018).
  30.  I.R.C. § 4960(c)(5)(D) (2018); I.R.C. § 280G(b)(3) (2018).
  31.  I.R.C. § 4960(c)(5)(A) (2018).
  32.  I.R.C. § 4960(c)(5)(C)(i) (2018) and (ii); I.R.C. § 280G(b)(6) (2018).
  33.  I.R.C. § 4960(c)(4)(C) (2018).
  34.  Id.
  35.  P.L. 115-97, 2017 H.R. 1, 131 Stat. 2054, 2159 (Dec. 22, 2017), Sec. 13602(c).
  36.  The Joint Committee on Taxation is a nonpartisan committee of the United States Congress, originally established under the Revenue Act of 1926. The Joint Committee operates with an experienced professional staff of PhD economists, attorneys, and accountants, who assist members of the majority and minority parties in both houses of Congress on tax legislation.  See (last viewed Feb. 15, 2018).
  37.  Joint Committee on Taxation, “Estimated Budget Effects of the Conference Agreement for H.R. 1, the Tax Cuts and Jobs Act” (Dec. 18, 2017), (last viewed Feb. 5, 2018). 
  38.  163 Cong. Rec. H9943-06, 163 Cong. Rec. H9943-06, H10076-77 (Dec. 15, 2017).
  39.  I.R.C. § 4960(c)(3)(B) (2018).
  40.  I.R.C. § 4960(c)(5)(C)(iii) (2018).
  41. (last viewed Feb. 1. 2018).
  42. (last viewed Feb. 1, 2018).

Scott C. Withrow, Esq.

Withrow, McQuade & Olsen, LLP

Scott C. Withrow is a founding partner of Withrow, McQuade & Olsen, LLP, Atlanta, Georgia.  He has practiced corporate and healthcare law for 33 years.  He earned his undergraduate degree in accounting from the University of Virginia’s McIntire School of Commerce in 1979 and his law degree from Vanderbilt University in 1984.  He may be reached at [email protected].