Setting Up Payroll for Non-Profit Organizations: 3 Best Practices
Published December 22, 2022.
Incorporating the payroll process can be difficult for a non-profit organization, especially because these organizations are tax-exempt. However, they're not entirely liability-free when it comes to payroll and taxes, as there are many differences in non-profit structure, operations, and funding that may require special considerations when setting up payroll compared to a traditional organization.
So, how to properly set up payroll for your nonprofit? Read to find out the best practices and what to keep in mind when structuring and managing such an organization.
» Is your non-profit payroll compliant? Here's how to avoid penalties
Although non-profit organizations don't seek commercial or monetary profit in a traditional way, they still have employees and independent contractors working for them. Their salaries are determined by their position in the organization, and they can still enjoy traditional employee benefits like vacation time, health insurance, and overtime compensation. Therefore, it's important to understand the legal considerations that come with setting up payroll:
When the non-profit has employees, it must follow the minimum wage law of the state it operates, just like a traditional business. There may be different laws for different departments within the organization, depending on the type of work they do and their location. However, as the minimum wage law differs from state to state, make sure to check your local jurisdiction and find what applies to you.
Determining the frequency of pay periods can be tricky, but it's important to ensure employees are always paid on time and accurately. The frequency of pay periods will depend on the size of your organization and the number of employees you have. Usually, the most common choices for payment periods are bi-weekly and monthly, but it's important to discuss this with your employees to ensure everyone is on the same page.
Exempt vs. Non-Exempt Employees
Non-profit employers must also consider which employees are exempt from overtime laws. This is important because exempt employees don't receive overtime pay, while non-exempt employees do. The distinction is based on the type of work the employee does, their salary, and other factors, so it's important to check your state’s labor laws and comply with them.
» Does your non-profit have remote employees? See how to set up their payroll
With the basics of setting up payroll covered, it's time to look at some general best practices for properly setting up payroll as a non-profit organization.
1. Understand Your Tax Liability & Withholdings
Like traditional businesses, non-profit organizations must comply with state and federal tax laws and regulations. This means understanding the taxes that you owe and knowing how to withhold them from employees' paychecks.
Regarding federal income tax, it's worth mentioning that non-profits are generally exempt from it. However, this doesn't mean the organization is exempt from all types of tax, so make sure to research your jurisdiction laws and determine which tax liabilities your non-profit organization has.
Some examples where non-profits have to pay taxes include:
- A non-profit engaging in activities outside of its basic purpose: Let's say a non-profit organization runs as a social advocacy group seeking to support the rights of those who can't defend themselves. If this organization then decides to also run a daycare center and offer educational services, it will have to pay taxes on the income generated from these activities, as they're outside of its original scope.
- Property tax liabilities: Another instance in which non-profits have to pay taxes is when they own real estate. Depending on the jurisdiction, they may be liable for property tax and pay it on the property they own.
2. Consider the Classification of Your Workforce
Having a clear understanding of the types of employees in your workforce is key to setting up payroll appropriately. Non-profit organizations often employ both full-time employees and contractors, so it's important to know which type of worker you have and how they should be classified. Let's take a look at the differences between the following non-profit workers:
Employees are individuals hired by the non-profit to do a specific job or role. They may be paid either hourly or through a salary, and they must comply with labor laws regarding overtime pay, minimum wage, and other requirements.
Volunteers aren't usually considered employees, as they generally don't receive any type of payment for their services. Therefore, they're not subject to the same labor laws or withholdings as employees. However, non-profits should be careful not to blur the lines between volunteers and employees—if a volunteer begins to perform tasks similar to those of an employee, it may be necessary to reclassify them as such to comply with labor laws.
Independent contractors are self-employed individuals who provide goods or services to a non-profit in exchange for payment. Unlike employees, independent contractors aren't subject to labor laws and must be paid on a 1099 basis. However, it's important to be careful not to misclassify an employee as an independent contractor to avoid any legal and financial liabilities.
» Are you properly classifying employees? See how to avoid employee misclassification
3. Prepare Tax Returns on Time
Even if you've got all the legal paperwork ready, failing to submit it on time might have negative implications for your non-profit. Using all the different forms and legal documents required to file annual earnings and spending depending on your total revenue. If you're not sure which forms to file, check out the IRS website to get a detailed look at all the paperwork.
Although you can request an automatic 6-month extension if you need more time to file the necessary paperwork, this doesn't mean taxes don’t need to be paid on time—any unpaid obligations must still be fulfilled. Thus, it's important for non-profits to plan ahead and get the taxes filed before the deadline.
» Want to make sure you pay your dues on time? See our time-saving tips for payroll processing
Easily Set Up Your Non-Profit's Payroll
Setting up payroll for a nonprofit organization can be a difficult and tedious task, but going through all the legal and administrative hassles is important to ensure compliance with tax laws and regulations. In some cases, a nonprofit could largely benefit from hiring an accountant or a professional tax service to ensure compliance along all aspects of payroll.
However, one of the easiest ways to set up and manage payroll for your nonprofit is by using the right payroll software. With it, you can stay compliant with local laws while streamlining the payroll process and reducing the burden of manual payroll.
» Need help setting up payroll for a non-profit? Read TBR's payroll software reviews to find the solution that will get the job done.