Using Grants to Pay Nonprofit Employees: Everything You Need to Know about Using Grant Funding and Nonprofit Grants for Employee Compensation
Using Grants to Pay Nonprofit Employees: Everything You Need to Know about Using Grant Funding and Nonprofit Grants for Employee Compensation
One of the most challenging aspects of running a nonprofit is securing funding. Individual donors and fundraisers can cover some of the funding needed to run the organization, but a more sustaining source of income is through grants.
A grant is a large financial donation given to a nonprofit to help fund the mission, market the organization, purchase supplies, or get an initiative off the ground. The money is usually given by a grant organization, which is typically a foundation, corporation, or government agency.
The most beneficial part of a grant is that, unlike a loan, nonprofits do not have to pay back the money.
Competition is fierce to receive these coveted grants, as many organizations are primarily, if not exclusively, funded by grants. After researching the options available to them (using sites like grant.gov), the organization must submit a grant proposal to receive a nonprofit grant. Grant proposals require a great deal of attention and expertise and are often outsourced to a professional writer, but they’re worth the time spent if funding is approved.
If a nonprofit is selected for a grant, the grant giver often has stipulations of how they want their gift to be used. If the giver does not specify what their grant should be used for (i.e. an “unrestricted” grant), nonprofits can utilize the money however they wish. One way to utilize an unrestricted grant to pay nonprofit staff members.
Can a Nonprofit Use Grants to Pay Employees?
While it is not illegal to use grants to pay nonprofit staff members (and by law, nonprofit employees must be paid at least minimum wage and overtime pay if applicable), there are a few things to consider:
1. You can only use grants to pay employees if the grant is unrestricted by the donor
2. By law all nonprofit spending must be made public. Donors want to feel that their grants are being used to further the mission of the nonprofit, not pad the pockets of individuals, so make sure your employee compensation is comparable to that of other nonprofits. Otherwise, your donors may be hesitant to approve you for future grants.
3. The IRS has strict regulations about overcompensating nonprofit employees and doing so could put your “tax-exempt” status at risk.
What is a Nonprofit?
A nonprofit organization is a business that has been granted tax-exempt status by the IRS because it works to further a social cause that benefits the public, not themselves. These organizations are categorized 501(c)(3) by the IRS and are exempt from federal income tax. All donations are tax-exempt so the nonprofit can use the entire fund to further their mission and serve the public.
Typically, these social causes are religious, scientific, medical, educational, literary, or cruelty/abuse prevention. A few common examples of nonprofits are hospitals, animal shelters, churches, universities, domestic violence shelters, homeless shelters, and private foundations.
The IRS defines “charitable” activities as “relief of the poor, the distressed, or the underprivileged; advancement of religion; advancement of education or science; erecting or maintaining public buildings, monuments, or works; lessening the burdens of government; lessening neighborhood tensions; eliminating prejudice and discrimination; defending human and civil rights secured by law; and combating community deterioration and juvenile delinquency."
To qualify for tax-exempt status, an organization must function exclusively for one of the following purposes: charity, religion, education, science, literature, testing for public safety, fostering national or international amateur sports competition, or preventing cruelty to children or animals.
A Few Laws for Nonprofit Organizations
- To retain its tax-exempt status, an organization cannot use its net earnings to serve any private interests, including that of its creator, the creator’s family, or shareholders. All earnings must be used solely for the advancement of its charitable cause (another reason why all nonprofit spending must be public knowledge).
- Nonprofits are not allowed to use their activities to influence political legislation. They cannot participate in campaign activities or support/endorse any political candidate.
- Nonprofit employees must be paid a reasonable salary or wage, in keeping with the fair market value for their position. Nonprofit employees also cannot be excessively paid, or risk losing their tax-exempt status.
- The organization must remain true to its founding purpose, as reported to the IRS upon filing for 501(c)(3) status.
- Nonprofits may not receive substantial income from business operations unrelated to the nonprofit, such as merchandise sales or rental properties.
Nonprofit vs. For-Profit
The difference between nonprofit and for-profit organizations can be spotted pretty easily in the names of these businesses. While a nonprofit’s primary goal is to benefit others, a for-profit’s goal is to generate funds for personal fulfillment.
For-profit businesses generate income by selling products and/or services to the public. While nonprofits serve a diverse and oftentimes under-represented audience, for-profit businesses serve a smaller demographic interested in their products.
The biggest difference between nonprofit and for-profit businesses is the latter do not qualify for tax-exempt status since they use the majority of their funds for personal gain. However, because they pay all state and federal taxes, they are not required to make their spending public knowledge and can pay their employees, owners, and CEOs however they wish.
Another difference is funding. While nonprofit organizations receive funding from donations and grants, for-profit businesses must provide their own seed or start-up money through bank loans, investors, and profits from sales. Any loan for-profit business owners receive must be paid back.
Navigating Federal and State Laws for Using a Nonprofit Grant
Nonprofits are required to adhere to many of the same guidelines when compensating paid employees. While it’s best to hire a human resources or payroll expert who is well-versed in compensation laws, here are a few federal and state laws to consider:
- Nonprofit organizations are subject to the same payroll taxes as for-profit businesses. This includes Federal Income Tax Withholdings, Social Security, Medicare, and State Unemployment Taxes. However, nonprofits do not have to pay Federal Unemployment Taxes.
- Nonprofits must pay employees their state’s minimum wage. Employees who work more than 40 hours in a week are eligible for overtime payment.
When deciding how much to pay your staff, there’s a lot to consider such as your organization’s location, the duties and responsibilities of each job, and the candidates’ experience and expertise. A practical way to know how much to pay your staff is to do some comparison research, but keep your research within the nonprofit sphere, as these payments differ from for-profit entities.
It’s also important to bear in mind that any salary deemed “excessive” by the IRS can result in steep fines and the loss of your tax-exempt status.
A Common Misconception: Everyone in Nonprofits are Volunteers
It’s a common, and rather unreasonable, myth that nonprofits only have volunteers instead of paid staff. If this were the case, organizations would be hard-pressed to acquire enough manpower to get any work done, let alone make money.
It takes a lot to run a nonprofit, and it’s more than just the occasional weekend fundraiser. There are day-to-day tasks to be completed, meetings to be held with donors, events to be planned, and marketing campaigns to organize. Many of these positions require full-time employees with bills to pay and families to provide for. They deserve to be compensated for their time and hard work. Paying staff also prevents burnout and entices quality candidates to join the team.
Regular staff, managers, marketers, CEOs, and directors must earn a salary or wage for their work. The only people who don’t earn a regular salary are typically:
1. Board members. Nonprofit board members are meant to be volunteers who share a passion for the organization's mission. Board members are typically only reimbursed for personnel expenses or granted the occasional stipend.
2. Occasional or non-regular volunteers. Many people volunteer on the weekends or at fundraising events because they want to help further the mission, but these people typically have other sources of income.
Fair Wages for Nonprofit Employees
Another common pitfall of working for a nonprofit is the belief that furthering the mission is compensation enough, and whatever wage you are given is a bonus. While working towards a shared mission is rewarding and provides a sense of purpose beyond the daily 9-5 job, workers are entitled to fair compensation and should not feel guilty for negotiating their pay.
While some mission-oriented organizations may intentionally discourage employees from pursuing fair wages, many do it inadvertently. Maybe you, as a nonprofit CEO, aren’t aware of the benefits of fairly (maybe even comfortably) compensating your employees, so we’re here to give you a few things to consider.
1. Employees who are fairly compensated work harder and are less likely to succumb to burnout.
2. You are devoted to the mission of your nonprofit, but charity really does begin at home. Think of your employees and their families as your family and compensate them accordingly.
3. Paying fair wages attracts better-qualified candidates.
4. Well-compensated employees are more loyal to their employers and less likely to leave.
This doesn’t mean you have to bump all of your employees to the next tax bracket, but keeping the compensation conversation open lets staff members know you value their hard work and want to compensate them the best you can.
Determining the Compensation of CEOs
Another responsibility of the board of directors is determining the salary and benefits of the executive director and CEO of a nonprofit. As with every other paid staff member, the CEO’s salary should be “reasonable and not excessive” so as to not incur penalties by the IRS but be fair enough to compensate the work of the individual. Fair wages for nonprofit CEOs, as in any other business, should be enough to attract quality, qualified candidates who will stay with your organization for the long haul.
Board members typically research the salaries of CEOs in similar organizations of their size, demographic, and geographic location. Salaries in New York and California, for instance, will be higher than those in Kentucky and Virginia, and that’s okay.
The board of directors will typically review the pay of the CEO each year, usually in conjunction with their yearly budget meeting.
Fringe Benefits and Taxes
Some nonprofits offer benefits to CEOs in addition to a yearly salary. The two categories of benefits extended to CEOs are the traditional benefits all full-time employees receive and fringe benefits. Traditional benefits are health insurance and retirement savings plans. Fringe benefits can be anything from a company vehicle to childcare services and meals.
There are no laws against offering benefits to CEOs or any other employee, but it can raise questions about how to tax such services.
Are traditional and fringe benefits taxable? Should you include these benefits in the CEO’s gross income?
Neither traditional nor fringe benefits are included in the gross income of an individual, but they can be taxable. For instance, the value of healthcare is not taxable or included in the gross income, but a company vehicle is eligible for taxation.
If a benefit is considered taxable by the IRS, you must determine the fair market value of the good or service and proceed from there. If the benefit is deemed not excluded from taxable benefits, like healthcare benefits, you don’t have to worry about it.
Best Practices for Accountability and Transparency
Nonprofits owe it to the public they serve to use all of their funding with integrity. They’re also required by law to make all spending public knowledge. This includes the salaries they pay their CEOs and directors.
One practice nonprofits can employ to ensure accountability is recording the minutes during meetings when determining and reviewing salaries. By documenting exactly how the salary is determined and the research performed to come to that conclusion, nonprofits protect their tax-exempt status and the trust of their community.
This process must also be submitted to the IRS when filing a Form 990 .
Navigating Bonuses and Incentive Compensation
In addition to regular salaries, nonprofits may offer their employees bonuses. Sign-on bonuses are a great way to attract qualified candidates to a position. Other types of bonuses are holidays and year-end or performance-based.
These bonuses should be paid out of the nonprofit’s yearly budget and can even utilize grant money if the grant is not unrestricted by the foundation. Nonprofits should never award bonuses based on the success of a fundraiser. Money raised through fundraising events should be given or utilized to further the cause of the fundraiser.
It is important for nonprofits to manage the expectations of their employees regarding bonuses. Employees should understand bonuses are typically discretionary, meaning they are given when the nonprofit has room in the budget, and may not be offered on a regular basis.
IRS Scrutiny of Nonprofit Bonuses
It is entirely legal for nonprofits to offer bonuses, just as it is in for-profit businesses, but nonprofit bonuses are highly scrutinized by the IRS to make sure that no private entity benefits from the bonus and that the bonus, along with the salary, is not deemed “excessive.”
All nonprofit employee compensation must be reported to the IRS. This includes company vehicles, contributions to retirement accounts, housing allowances, and payments toward insurance premiums. Incentive-based compensation, like bonuses, must also be reported.
Nonprofits must take great care in determining the number and size of bonuses and why they are awarded. This process must be documented and presented to the IRS when filing a Form 990. This information is available to the public as well as the IRS, so make sure this type of incentive-driven compensation is of fair market value.
Awarding excessive bonuses, or unethically using fundraising money to boost employee salary, could not only incur penalties from the IRS, but also from the public. If donors and potential donors see funds padding the pockets of employees instead of furthering the mission, they might be less likely to donate in the future.
How to Submit Grant Applications
Submitting grant applications can be intimidating and often requires a team of people including developmental coordinators, fundraising directors, executive directors, board members, and possibly even stakeholders. No matter who you employ to help secure that crucial funding, make sure you employ a professional grant writer.
Grant writers are typically skilled freelance writers who research, draft, and submit proposals that help organizations or individuals receive grant funding.
Before you begin drafting your proposal, research the potential granter. Do they have an outline or guidelines for how proposals should be constructed? Make sure you follow it. Do they share a passion for your mission? Have they donated to organizations like yours before? If so, this means they could be more likely to grant your proposal.
While every grant proposal will look a little different, most funders want to see the same core elements:
1. Introduction and abstract. This is a brief overview of the proposal, what you are asking for, how you intend to use the grant, and information about your nonprofit.
2. Information about the nonprofit. Describe the location, demographic, and mission of your organization.
3. Problem/statement/needs assessment. State the problem your project plans address.
4. Programs, goals, and objectives. Explain what you hope to gain through the project.
5. Methods/activities. Explain the activity, staff, and timeline of the project.
6. Evaluation plan. Detail your plan for measuring the success of your project.
7. Budget. Detail how the funding will be used and how it will be incorporated into your larger financial plan. You may be asked to include specific financial documents such as an IRS Form 990.
Who is in Charge of Grant Management?
Once you’ve been awarded a grant, it’s important to make sure the funding is used appropriately. There are a few different people/entities who can manage grants for you:
- Grant Management Officer. This is a person whose sole job is managing grant money, planning and implementing grant programs, preparing budgets, researching funding opportunities, monitoring expenditures, tracking results, and analyzing financial data.
- Grant Management Software. If a grant management officer isn’t in the budget, there are many software available that can help with everything from creating the grant application to documenting exactly how you utilize the funding.
- A Team of Grant Stakeholders. This can be a group of your funders, partners, staff, and board members working together to ensure the grant money is used legally and ethically.
Finding Grants for Employee Salaries
While many grants are designated for specific outreach programs and mission-oriented events, there are some specifically aimed at providing funds for employee compensation.
One example is the Economic Development Administration which offers grants to economically distressed communities to provide new employment opportunities and generate commercial and industrial growth. The EDA has given grants to fund STEM programs, fund technological advancements in response to changes caused by the coronavirus pandemic, and aid communities negatively impacted by the changes in the coal economy, just to name a few.
The Employment and Training Administration is another avenue to explore. The ETA administers federal government job training and worker dislocation programs and federal grants to states for public employment service programs primarily through state and local workforce development systems.The ETA also gives grants to programs for targeted populations such as Indian and Native American training and Education and workforce opportunities for rural communities.
Another way to pay nonprofit employee salaries is by looking for unrestricted grants. These are more difficult to come by, but if you find someone offering an unrestricted grant, highlight the importance of your employees’ work in your application. Let the gifting foundation know their grant funds would be used to power the driving force behind your mission: your staff members.
Case Studies of Organizations Using Grant Funds for Employee Compensation
Georgetown, SC received a grant to fund 15 new jobs.
In the spring of 2023, the EDA allocated $3,526,192 to Coal Communities in Georgetown, South Carolina. The EDA's grant was matched by $881,548 in local investments. The grant will be used to provide site upgrades at Georgetown County Airport necessary for the development of two commercial hangars, updated water and sewer lines, and a new taxiway, as well as engineering design services. Once completed, this project will create 15 jobs.
Indian Hills Community College received a grant to create 112 new jobs.
At the end of 2022, the EDA granted Ottumwa/Wapello County $725,000, matched by $725,000 in local investment, to the Indian Hills Community College. The grant will fund the purchase of equipment for the Indian Hills Community College’s Centerville campus to expand programming and job training for advanced manufacturing, agriculture, construction, healthcare, and transportation jobs. Once completed, the project will provide high-quality training for in-demand jobs, increase high-paying jobs, and create 112 new jobs.
Rockingham County, North Carolina was given a grant to help create 180 jobs
In January of 2023, the EDA gave $1,500,000 to Eden/ Rockingham County, North Carolina, to support the evaluation, upgrade, and renovation of the northern aeration basin at the Eden sewer treatment facility. The project will help benefit the expansion of the Nestle Purina facility and provide needed capacity to support infrastructure that will accommodate job growth. The grantee estimates that this investment will help create 180 jobs
FAQs about Utilizing Grant Funding
Can Grant Money be Used to Pay Staff Salaries?
In short, yes. As long as the grant is not designated for a specific purpose, nonprofits can use grants to pay staff salaries.
How do nonprofits report bonuses and incentive compensation?
When deciding how and when to award bonuses and incentive compensation, the board of directors should carefully document all information and report it in Form 990 at the end of the year. The IRS will review the size of the bonus along with how the board came to that conclusion to ensure no private entity benefits from the bonus and that the bonus is not excessive.
What are the ethical considerations when using grants for salaries?
There are a few ethical considerations to take into account before nonprofits pay their employees salaries with grants.
- Is the grant unrestricted? If not, the nonprofit must use the grant for the intended purpose to retain the trust of the donor and the public.
- Have I documented to process of calculating this bonus or salary?
- Am I prepared to report this salary or bonus to the IRS? Am I sure this won't threaten our tax-exempt status?
Final Considerations for Nonprofit Grants and Utilizing Grant Money
Nonprofit grants are a great way to fund the mission of your organization without having to repay the funds. If you are able to secure an unrestricted grant from a grants foundation or funding from the ETA or EDA, you might be able to use the funds to compensate your staff. If you do, just be sure to use the grant ethically and report your decision-making process to the IRS at the end of the year.