June 11, 2026
Introduction
The IRS has signaled how it will interpret the One Big Beautiful Bill Act’s (OBBBA) expansion of the executive compensation excise tax. Here’s where we are in the rulemaking process, what applicable tax-exempt organizations (ATEOs) and related entities can rely on today, and the planning trap organizations need to watch for.
Where We Are in the Process
When OBBBA was enacted in July 2025, it expanded the definition of “covered employee” under Section 4960—the 21% excise tax[1] on excess tax-exempt organization executive compensation—by eliminating the long-standing “five highest-compensated employees” cap for tax years beginning after Dec. 31, 2025. The exempt organization community has been tracking this development since last summer, and the practitioner community (the AICPA Technical Resource Panel for Exempt Organizations, the ABA Tax Section, and the TEGE Exempt Organizations Council, among others) has been pressing Treasury for guidance on the transition issues.
On June 5, 2026, the IRS released Notice 2026-36, the first formal indication of how Treasury intends to interpret and implement the new rules. There are three things to keep in mind about where it stands in the process:
- The notice is an announcement of intent to issue proposed regulations. It provides neither the proposed regulations nor the final regulations. Both are still ahead of us.
- When issued, the proposed regulations will be prospective only. They will not apply to any taxable year beginning before the final regulations are released. Combined with the interim reliance described below, this gives ATEOs a continuous and predictable operating framework for the entire remaining rulemaking process. There is no point at which retroactive application or midyear disruption is on the table.
- The notice provides interim reliance. ATEOs can apply the IRS’s stated interpretation of the new rules today without waiting for the proposed regulations. The interim relief is the most useful piece of this notice for current planning, and we have summarized it in the sidebar below.
For practical purposes, we now have a reasonably clear picture of where Treasury is heading and a meaningful runway during which organizations can plan effectively rather than react under pressure.
Section 4960 Interim Guidance Available Today
Until the proposed regulations are issued, Notice 2026-36 confirms that ATEOs, including private foundations, may rely on the following:
Two-tier “covered employee” definition for tax years beginning after Dec. 31, 2025:
- Tier 1 (Legacy status): Anyone who was a covered employee under prior law in any tax year from 2017 through 2025 (i.e., was in the foundation’s five highest-compensated employees and did not qualify for an exception) remains permanently covered.
- Tier 2 (New broad inclusion): Any individual who is an employee of the foundation in a tax year beginning after Dec. 31, 2025, is subject to the exceptions below.
Two existing exceptions remain available:
- Limited Hours exception (Treasury Regulation Section 53.4960-1(d)(2)(ii)): preserved.
- Nonexempt Funds exception (Treasury Regulation Section 53.4960-1(d)(2)(iii)): preserved.
The Limited Services exception (Treasury Regulation Section 53.4960-1(d)(2)(iv)) is being eliminated for purposes of the interim guidance.
The prior-law definition continues to apply for tax years beginning on or before December 31, 2025. Look-backs use the old “five highest” framework, not the new, broad definition.
Prospective application of the forthcoming regulations. Both the proposed regulations and the ultimate final regulations will apply prospectively only; they will not reach tax years beginning before the final regulations are issued. Until then, ATEOs apply the interim guidance above without disruption.
The IRS is taking comments on transition issues through August 4, 2026, with particular interest in whether the limited hours and nonexempt fund exceptions should be available for officers. The TEGE EO Council and AICPA are both expected to weigh in.
An Illustrative Hypothetical
The new framework creates real anxiety for private foundations that have shared people with related taxable corporations over the years. Here is the kind of question the rules force us to work through.
The Facts:
Family Corp. is a taxable C corporation; Family Foundation is its related private foundation. The CEO’s son worked at the Family Foundation as a paid summer employee[2] for the foundation in 2017, earning typical summer wages. He left the foundation after that summer. By 2026, he has his MBA, works full-time at Family Corp. earning over $1 million, and sits on the Family Foundation board as an unpaid volunteer director.
Is his $1 million Family Corp. salary subject to Section 4960 under the new rules?
The Answer: No, on These Facts
The Section 4960 aggregation rule sweeps in compensation paid by a related organization only after the individual is first a covered employee of the foundation. The son fails both tiers of the new definition:
- Tier 1 (Legacy status): This tier carries forward only if the son was a covered employee under prior law in 2017; that is, he was one of the Family Foundation’s five highest-compensated employees with no applicable exception. A summer intern earning summer wages will almost never be in the top five paid employees of a foundation. Once that fact is documented, there is no permanent covered-employee status to carry into 2026.
- Tier 2 (Broad inclusion): This tier captures anyone who is an employee of the foundation in a tax year beginning after Dec. 31, 2025. A volunteer director who only sits on the board is not an employee. Directors are not on payroll, do not receive a W-2 for board service, and fall outside the employee definition for purposes of Section 4960.
Because the son fails both tiers, his Family Corp. salary is not Section 4960 remuneration on these facts.
Where the Answer Would Flip
These scenarios change the result and are worth flagging at every ATEO and its related entities:
- If a former employee was in the top five in any year from 2017 through 2025. This is easy to miss at small foundations where the historical roster was thin. Once-covered, always-covered carries forward permanently, and the individual’s related-organization compensation aggregates against the $1 million threshold going forward.
- If a volunteer board member becomes an employee in 2026 or later, even briefly, even at modest pay, and even to formalize signing authority as an officer. Tier 2 captures that person immediately.
- If the foundation begins paying directors for any service beyond unreimbursed board service. Tier 2 produces the same result.
Important Watch-Out: Post-2025 Foundation Employment Is Effectively Permanent
Change the hypothetical slightly. Suppose the CEO’s son does not work the summer at the foundation in 2017. Instead, the foundation hires him for a paid summer role in 2026 while he is in graduate school. He never serves on the board, never works for the foundation again, and, five years later, steps into a senior role at Family Corp., earning over $1 million per year.
Is his Family Corp. salary subject to Section 4960 in those later years? Yes, and this is the trap many fail to see.
- The 2026 summer employment makes him a Tier 2 covered employee. A full summer of work (typically 400+ hours and paid entirely by the foundation) will not qualify for either the limited hours exception (which has an effective ceiling around 100 hours of ATEO service per year) or the nonexempt funds exception (which requires the compensation to come from a non-ATEO related organization).
- Covered employee status is permanent. Section 4960(c)(2), as amended by OBBBA and Notice 2026-36, Section 5.02, confirms that once an individual becomes a covered employee in any post-2025 tax year, they remain covered for that year and all future tax years, regardless of whether they continue working for the foundation, sit on the board, or have any further connection to the foundation.
- Aggregation with Family Corp. is automatic. Once he is a covered employee of the foundation, Section 4960(c)(4)(A) requires aggregation of all remuneration paid to him by the foundation and every related person or entity, including Family Corp. In any future year that his aggregate compensation crosses $1 million, the 21% excise tax applies to the excess.
- Family Corp. bears the tax. Under the proportional allocation rule of Section 4960(c)(4)(C), the excise tax is allocated among the foundation and related payors based on remuneration paid. If Family Corp. paid the entire $1 million in compensation and the foundation paid nothing that year, Family Corp. pays 100% of the Section 4960 excise tax, even though it is the for-profit entity. This is a cost that family-corporation/foundation structures are not always pricing in when they hire a family member into a summer role at the foundation.
Planning implications. Any paid employment of a family member, executive’s relative, or future-executive candidate at a related-organization foundation in 2026 or later should be evaluated against the long tail of Section 4960 exposure, not just the cost of the current year’s wages. In most cases, alternatives (e.g., a paid internship at the for-profit, an unpaid volunteer service at the foundation, summer service through an unrelated third party, etc.) avoid creating a lifetime covered employee designation.
What ATEOs Should Be Doing Now
Although the proposed regulations are still ahead, ATEOs can take the following diligence steps now under the interim reliance provided by Notice 2026-36:
- Run a five-highest look-back for every year from 2017 through 2025. Confirm and document who would be carried into 2026 under Tier 1 (Legacy status). This is the single most important data point for related-organization foundations.
- Map related organizations across the structure (e.g., taxable corporations, related foundations, governmental units) and confirm payroll aggregation procedures under Section 4960(c)(4).
- Identify anyone, including current employees, former employees, or related-organization executives, whose aggregated compensation is approaching $1 million in any year.
- Review volunteer board and officer arrangements to confirm that nothing inadvertently creates employee status in 2026, particularly informal titles like “assistant secretary” or “vice president” that come with W-2 treatment.
- Evaluate any planned paid employment of family members or future executives at the foundation in 2026 or later against the long-tail Section 4960 exposure described in the watch-out above. The decision to put a family member on the foundation’s payroll for even a single summer can ripple through decades of related-organization compensation.
- Consider submitting comments by the August 4, 2026 deadline, particularly on whether the limited hours and nonexempt funds exceptions should be available for officers and on transition issues for fiscal-year filers.
Looking Ahead
Notice 2026-36 is a step forward, not the final word. We expect proposed regulations later in 2026 or 2027, and we anticipate final regulations after the customary notice-and-comment cycle. Until the final regulations are issued, the interim reliance described above remains the practical operating framework, and the once-covered, always-covered rule places a premium on careful documentation now—before the broader 2026 employee population creates new permanent covered-employee designations that will follow individuals across organizations for the rest of their careers.
ATEOs and their related organizations should treat the current window as the right time to clean up historical records, evaluate employee classifications, and, where the structure permits, rethink whether paid employment at the foundation is the right mechanism for any individual who could later command $1 million in aggregated compensation across the group.
If you have questions about how these changes may affect your organization, Clark Nuber is here to help. For assistance in navigating the road ahead, connect with us to start a conversation.
© Clark Nuber P.S., 2026. All rights reserved.
