Preparing a minister’s tax return can prove a challenge for everyone involved: The minister who must keep records, the church secretary who prepares the W2 forms, the church leaders who determines minister compensation, and the tax professional who prepares the return and advises for the future.
My goal in this column is to help ministers prepare for next tax season and to enlighten church leaders about how the IRS taxes their minister’s compensation.
According to the IRS, a minister is an individual who is “duly ordained, commissioned or licensed by a religious body constituting a church or church denomination.”
To be considered a minister for tax purposes, these individuals must be hired by a church or religious organization to perform religious duties.
Practicing ministers are considered “dual-status” taxpayers. They are employees of the church for federal income tax purposes but treated as being self-employed when determining Social Security and Medicare taxes, unless they are exempt from these taxes.
To be exempt, a minister must have taken a vow of poverty as a member of their religious order, or filed for an exemption. Ministers can file for this exemption (using Form 4361) if they, conscientiously or as a matter of religious principle, are opposed to receiving public insurance payments.
Salaries that a church pays to its minister are considered wages the church must report each year on form W2 (social security and Medicare boxes will be blank). Payments a minister receives directly from individuals (for weddings, for example) are considered self-employment income. Payments called “gifts” or offerings are also income if the minister performs a service for it.
In fact, the difference between a “gift” and earnings is often misunderstood. Money is only considered a gift when the giver has not received and does not expect to receive anything from the minister in return, such as a sermon, a wedding, or a song.
In other words, if any service was performed in exchange for the “gift,” it is taxable income to the minister.
Ministers can receive a parsonage (housing) allowance that is not subject to income tax. Like wages and “gifts,” however, the allowance is subject to self-employment tax if the minister is not exempt. A parsonage allowance is the rental value (including utilities) of a home provided by the church, or cash paid directly to a properly ordained or licensed minister to rent or purchase a home (including utilities, taxes and insurance). If a home is provided by the church, the amount excluded from income cannot exceed its fair rental value.
If the minister receives a housing allowance in the form of cash, only the actual cost of housing can be excluded from income. The non-taxable housing allowance must be the lowest of one of the following: 1) Fair rental value plus other costs such as utilities; 2) The amount of the allowance; or 3) Actual amounts paid for housing (mortgage payments or rent, utilities, taxes, insurance, repairs, maintenance and furnishings).
Ministers can deduct personal expenses they incur in the performance of their duties. A minister who is not paid can deduct these expenses as a charitable contribution.
A paid minister, however, must deduct his or her employment-related expenses as a miscellaneous itemized deduction. Expenses incurred in the creation of business income (such as weddings) would be deducted on schedule C. Furthermore, a paid minister who also receives tax-free income (such as a parsonage allowance) must reduce these expenses by the percentage of total income that was tax free.
The ministry certainly has its rewards. It also has its challenges. One challenge arrives each year around tax time. In this article I was only able to highlight a few of the complexities impacting a minister’s tax return.
If you find yourself confused by these complexities, please consult a tax professional such as an Enrolled Agent.
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