MINISTER'S INCOME TAX INFORMATION

Transcription

1 MINISTER'S INCOME TAX INFORMATION

2 Introduction The Gospel of Matthew records two episodes where Jesus addresses the issue of paying taxes. The first reference is Matthew 17: The tax collectors asked Peter if the Master paid tribute? Of course, Peter responded with a resounding "Yes!" Jesus later counseled with Peter about paying taxes and assured Peter that the children were free from tribute. However, so as not to offend the government officials, Jesus instructed Peter to go to the sea and cast a hook, catch a fish that would have money in it's mouth and that would be sufficient to pay the taxes for himself and Jesus. The second reference is Matthew 22: The bottom line answer that Jesus gave to the Pharisees and Herodians was "Render therefore unto Caesar the things which are Caesar's; and unto God the things that are God's." This booklet is not a manual on the Internal Revenue Code, nor is it complete in the treatment of Minister's Income Taxes. I have attempted to put together some important items and forms that may help the average minister to keep better records and to save on federal and state taxes. This information is gleaned from several resources and from personal experience over the years. Please understand that I am not a Certified Public Accountant, nor am I involved in professional tax return preparation. You should ask those who are professionals in this business for their input and advice concerning the information that is contained here. It is extremely important that you keep records, receipts, mileage logs and other important documents for tax purposes. After having been through two Internal Revenue Service tax audits, I have learned lessons by experience that I trust you will never face. Should this help you to "give unto the government, what belongs to the government" with all the legal deductions to which you are entitled, then you will be able to "give unto God what belongs to Him" with thanksgiving. Paul reminds me, "Let a man so account of us, as of the ministers of Christ, and stewards of the mysteries of God. Moreover it is required in stewards, that a man be found faithful." 1 Corinthians 4:2. Tommy R. Carpenter District Secretary/Treasurer Arkansas District Assemblies of God 2

3 Minister's Income Tax Information Employee or self-employed Clergy information. 1. Reporting income tax as an employee of the church. Most ministers should report their federal income taxes as employees. The current test used by the Internal Revenue Service and the tax court considers those who are pastors or pastoral staff as employees. There are four common tests for determining whether a minister or lay worker is an employee for federal income tax reporting purposes. The "common law employee" test set forth in the income tax regulations. The "20 factor" test announced by the Internal Revenue Service in The "7 factor" test announced by the United States Tax Court in The "12 factor" test developed by the United States Supreme Court and used by a federal appeals court in a 1997 case addressing the correct reporting status of a minister. 2. Benefits of reporting income tax as an employee of the church. There are three excellent reasons that most ministers will benefit from reporting as employees. The value of various fringe benefits will be excludable, including the cost of employer-paid health insurance premiums on the life of the minister. The risk of an Internal Revenue Service audit is substantially lower. Reporting as an employee avoids the additional taxes and penalties that often apply to self-employed clergy who are audited by the IRS and reclassified as employees. 3. Ministers have a "dual tax status." While most ministers are employees for federal income tax reporting purposes, they are all self-employed for social security purposes. Ministers are not subject to "social security" and "Medicare" taxes, even though they report their income taxes as employees and receive a W-2 from their church. Rather, they pay the "self-employment tax." 4. Reporting Compensation. Ministers who are employees of the church will have their compensation reported directly on Form 1040 (line 7 - wages). They can deduct unreimbursed (and "nonaccountable" reimbursed) business expenses on Schedule A only if they itemize deductions and only to the extent that their expenses exceed 2% of their adjusted gross income (only 50% of business meals and entertainment expenses are counted). Self-employed ministers report their compensation and business expenses on Schedule C. Business expenses are in effect deductible whether or not the minister itemizes deductions, and are not subject to the 2% floor. If a minister receives compensation or honorariums for weddings, funerals, or special engagements where a Form 1099 is issued or the amount is less than $600 per occurrence, it is counted as self-employed income and expenses are reported on Schedule C. The minister can be both an employee and self-employed in certain circumstances. 5. W-2 or Minister employees for the church should receive a Form W-2 each year. If they are self-employed and receive at least $600 in compensation, they should receive a Form

4 Tax Provisions for Clergy Who is a minister for federal income tax purposes? 1. In general, the Internal Revenue Service and the courts require that a minister be ordained, commissioned or licensed. The IRS may not recognize the ministerial status of a minister who receives credentials from a local church if: The church is affiliated with a parent denomination that does not recognize the local church's action. The local church's charter and bylaws must authorize the conferring of ministerial credentials. The local church must have an established history and practice of conferring ministerial credentials. The ministerial credentials must make no change in the job description or duties of the minister. Any attempt to confer ministerial credentials solely to qualify a person for "tax benefits" will not be recognized by the Internal Revenue Service. 2. The minister must administer sacerdotal functions. This is commonly known as the minister's job description. These functions are: Baby dedications Baptisms Church administration Conducting services on a regular basis Funerals Holy Communion Spiritual guidance Teaching Weddings 3. The minister must have management responsibilities in the local church or a parent denomination. 4. The minister must be considered a religious leader by the church or parent denomination. Four special tax provisions for qualifying clergy. 1. The exclusion (for tax purposes) of housing allowances and the fair rental value of church-owned parsonages provided to clergy rent-free. 2. The exemption of some clergy from self-employment taxes (e.g., social security taxes for the self-employed) if several conditions are met. 3. Treatment of clergy (who are not exempt) as self-employed for social security tax purposes with respect to ministerial services. 4. Exemption of clergy wages from income tax withholding. (These provisions only cover the income received from ministerial services. For example, the housing allowance is not allowed with respect to secular earnings.) 4

5 CATEGORIES of SUPPORT for the MINISTER Category 1 Ministry related expenses: 1. Automobile expenses (actual expenses with receipts, or standardized mileage rate for per mile. 2. Dues to professional societies (General Council, district council, sectional council). 3. Subscriptions to professional journals. 4. Rent paid for office. 5. Cost of utilities for office. 6. Hiring office assistants. 7. Amounts paid for books, furniture, equipment and professional instruments. 8. Business entertainment. 9. Education, including seminars. 10. Convention expense. 11. Business gifts ($25 a year per person). 12. Insurance (Professional). 13. Vestments (including cleaning and laundry). Category 2 Fringe benefits (such as): 1. Health insurance deductions. (Research: Medical Savings Accounts (MSA).) 2. Retirement "gifts." Invest in a Rabbi Trust. 3. Portion of a minister's social security tax paid by a church. 4. Some forms of pension income (401k; 403b; Roth IRA; Rabbi Trust) 5. Some reimbursement of a spouse's travel. (See district policy) 6. Church-paid trips to the Holy Land. 7. Reimbursement of a minister's business expenses. Category 3 Salary: The average salary in the South Central United States which includes Arkansas is $28,250 with a 14% minimum range ($24,295) and a 17.1% maximum range ($33,080). Fees paid directly to the minister for performing weddings, funerals, baptisms and special occasions ARE taxable income. The income tax regulations specify that "Marriage fees and other contributions received by the clergyman for services" are income to the minister. However, such fees ordinarily will be self-employment earnings to a minister if received directly from members, and not employee wages. As a result, they must be reported on Form Schedule C. Category 4 Housing Allowance: Income is never tied to housing. Housing is always tied to salary. Rule of thumb: 50/50 split on salary/housing. The new IRS code is based on fair rental value. The housing allowance is subject to Social Security Tax. 5

6 Financial Package for a Minister The church should have three goals: (1) to determine the total cost for ministry services, (2) to determine how much of that cost is actual pay for the minister s livelihood, (3) to minimize taxes for the minister. Three necessary steps include (1) to provide in full for job-related expenses, (2) to provide appropriate benefits, and (3) to determine the appropriate amount of pay. If the church does not provide in full for expenses nor provide for benefits, the minister must make up the difference from salary, which increases tax liability, reduces family income and creates a false perception of how much the minister is paid. 1. Church business expenses: Set up an Accountable Reimbursement Plan to handle ministry expenses. The church provides expense funds that are separate from the minister s salary and a written policy that requires the minister to account to the church. A minister must account to the church at least quarterly, but monthly accounting is highly recommended. The church may pay expenses directly, reimburse the minister after expenses are incurred, pay a monthly allowance to the minister for recurring expenses, pay an advance to the minister for special events, or a combination of these. The simplest plan is for the church to pay a monthly allowance to the minister for automobile and other recurring ministry expenses. Occasional expenses for conferences and continuing education may be allocated for direct payment or advances. Use actual costs to compute expenses except for the automobile. For the automobile expenses use the allowable IRS standard mileage rate for the church business mileage only. 2. Minister s benefits: The church should provide certain tax-free benefits and certain tax-deferred benefits. Premiums for medical insurance, which covers the minister and dependents, is tax-free. Reimbursement of medical expenses not covered by insurance is also tax-free, but this plan must be in writing and must abide by nondiscrimination rules. The only life insurance that can be provided as a tax-free benefit is a group plan for term insurance that has a face value of $50,000 or less. The church may provide disability insurance to protect itself if the minister becomes disabled. However, if the church pays the premiums, the minister disability income will be taxable. That income will not be taxable if the minister pays the premiums. A Social Security Allowance is taxable income and is reported to the IRS as salary. It is distinguished from salary here in order to identify clearly this amount as a benefit to meet future needs rather than as pay to meet current living needs. Even if the minister has elected exemption from Social Security, build in the allowance for two reasons, this is money the minister should be using for alternative programs and the next minister may be paying into Social Security. Retirement plan contributions that are made by the church are taxdeferred. 3. Minister s salary: Pay consists of salary and that part of salary officially designated for housing costs. The minister is entitled to a housing allowance whether renting, purchasing or living in church-owned housing. Tax rules say the allowance can be used for rent, purchase and expenses directly related to providing a home. This is very comprehensive. The church must designate an amount but that designation is not limited to a percentage of salary or a specific dollar amount. The best procedure is to ask the minister to submit a request based on anticipated costs. Then designate an amount to cover all anticipated costs. 6

7 Recent action by the Congress of the United States was the passage of the Clergy Housing Allowance Clarification Act of Section 107 of the Internal Revenue Code of 1986 was amended by inserting before the period and the end of paragraph (2) and to the extent such allowance does not exceed the fair rental value of the home, including furnishings and appurtenances such as a garage, plus the cost of utilities. If the IRS audits a minister and thinks that the housing is excessive, the IRS will impose that limitation on the minister. This matter will be between the minister and the IRS. The church will not be affected. Housing Allowance Ruling. In the case Logie vs. Commissioner, T.C. Memo, , the tax court ruled that a minister would not qualify for housing allowance unless the church or church board designated it. A minister cannot self-designate the allowance. Accountable Reimbursement Plan for Ministry Expenses The Importance of an Accountable Reimbursement Plan and How to Implement It An Accountable Reimbursement Plan appropriately enables the church, rather than the minister, to pay for ministry job-related expenses. It ends the traditional but inappropriate practice of the church requiring the minister to pay job-related expenses from salary or expense allowances without any accountability. Setting up an Accountable Reimbursement Plan generally does not cost the church anything and it saves the minister considerable tax dollars. Quite often, it simply requires restructuring the ministry support package to clearly identify that portion the church intends the minister to use to pay ministry expenses, and the minister accounts to the church for those expenses. The tax law references for the Accountable Reimbursement Plan are Internal Revenue Code Sections 62(a)(2), 162(a) and 274 and Federal Tax Regulations , and The business world has long recognized the appropriateness of paying or reimbursing job-related costs for on-the-job business travel, supplies, books, seminars, continuing education, job training, tools, equipment, uniforms, business phone calls, business meals and business entertainment. Business employers understand that these are ordinary and necessary business expenses, not personal expenses of their employees. In contrast, churches and other religious organizations have not always paid job related ministry costs, at least not fully. Ministers often pay many of these church business expenses from expense allowances, without accounting to the employer, or from salary. This reduces the minister s personal income and forces the minister to pay considerable unnecessary and avoidable tax. Setting up an Accountable Reimbursement Plan is simple. The first step is for the employer to adopt a written policy statement. The second step is for the employer to provide the funding. The third step is for the minister to account to the church, in a timely and proper manner, for all ministry expenses. Advantages of an Accountable Reimbursement Plan An Accountable Reimbursement Plan that pays for or reimburses ALL ministry expenses will: 7

8 1. Properly Identify Ministry Expenses as Church Business Expenses. An Accountable Reimbursement Plan educates church lay leaders and church members that ministry expenses are church business expenses, not personal expenses of the minister. Ministry compensation is clarified and improved when ministry expenses are clearly identified and full reimbursed. 2. Avoid the 50% Business Meals and Entertainment (50% BME) Loss. Only 50% of the unreimbursed cost of business meals and entertainment is deductible as business expense on an individual s tax return. Due to the personal and family nature of ministry, this is usually the second highest cost for most ministers. Only business use of a car is typically a great cost. A minister loses 50% of the costs for business meals and entertainment if these are not paid or reimbursed by the church. This 50% loss does not occur when the church under an Accountable Reimbursement Plan pays the expenses. 3. Avoid the Section 265 Proration Loss. Internal Revenue Code 265 prohibits deduction of expenses incurred to earn tax free income. Three tax court cases have applied this ruling to reduce ministry expenses in relation to the tax free nature of ministry housing (Deason in 1964, Dalan in 1988, McFarland in 1992). These tax court cases require that any unreimbursed expenses which ministers deduct on their tax return be reduced by the same percentage that their housing is to their total ministry income. For example, a minister earning $35,000, or which $15,000 is housing allowance, will lose the deduction of 43% ($15,000 divided by $35,000 = 43%) of all unreimbursed ministry expenses. Extending this example, if there were $6,000 in ministry expenses, then $2,580 is not deductible. That minister, in 15% Federal and 5% state income tax brackets, will pay $516 more tax. An Accountable Reimbursement Plan eliminates this extra and unnecessary tax. 4. Avoid the 2% Adjusted Gross Income (2% AGI) Loss. A major disadvantage of employee status is that unreimbursed employee expenses are deductible as miscellaneous itemized deductions on Schedule A of one s tax return. As such, a minister may only deduct those expenses in excess of 2% of his or her adjusted gross income. For a married person, that s the combined adjusted gross income of husband and wife. For example, $30,000 AGI x 2% = $600 loss of expense deductions. This loss is avoided when the church under an Accountable Reimbursement Plan pays ministry expenses. 5. Avoid the Itemized Deduction Limitation Loss. When filing his or her tax return as an employee, unreimbursed ministry expenses remaining after applying the three limitations above, are deductible only if the minister can itemize deductions. This particularly hurts ministers who rent or live in parsonages. They usually cannot itemize deductions. Payment or reimbursement of ministry expenses by the church under an Accountable Reimbursement Plan avoids this major loss. (A minister does not avoid completely the last two limitations by filing a tax return as a self-employed person, utilizing Schedule C, to deduct ministry expenses. The IRS is aggressive, during audits, about changing ministers to employee status since the U.S. Tax Court Weber ruling. Furthermore, it is often to the minister s advantage to be classified as a church employee. Employee status, verified by the church issuing a Form W-2 instead of Form 1099-MISC, assures that the minister is qualified for medical insurance as a tax free benefit. It 8

9 also makes the minister eligible for the tax free benefit of a medical reimbursement plan. NOTE: Even when a minister is an employee for income tax purposes, ministry income is self-employment income for Social Security purposes. This is true of all ministers except government employed chaplains). 6. Reduce Audit Risk. Most ministers who are audited have been selected for audit because of unreimbursed job expenses claimed on their tax returns. When expense accounting is made to the church, instead of the IRS, it eliminates this cause of audit selection. An Accountable Reimbursement Plan requires timely and documented expense accounting. How To Set Up and Administer an Accountable Plan There are four important elements to a church s Accountable Reimbursement Plan: (1) the payment of expenses must be for ordinary and necessary expenses for job performance, (2) there must be a written policy or plan, (3) the employer must allocate expense funds that are distinct from personal compensation, and (4) the employee must account for expenses in a timely and proper manner (monthly accounting is best). A sample Accountable Reimbursement Plan policy statement is included in this document. It should cover the first two requirements. A proper structuring of the ministry support package will accomplish the third requirement. (How much to allocate for expenses? The minister s last two or three tax returns will tell). The sample of the Minister s Expense Report form will enable timely and proper reporting. The minister submits the expense reports, with supporting documentation, to the church treasurer. The church may make direct payments for ministry expenses, may provide a credit card to the minister, may reimburse the minister upon receipt of expense reports, may give the minister a monthly expense allowance and then receive a follow up expense report, or any combination of these. The minister must make a timely accounting. If expenses are reimbursed to the minister, after the minister has paid them from personal income, quarterly expense accounting is the required minimum. Monthly reporting is highly encouraged. If an advance is paid to the minister to cover expenses for a particular event or business trip, the minister must submit an expense report within 60 days. Any unused portion of the advance must be repaid within 120 days. Whatever procedure the church uses to pay or reimburse expenses, the money allocated for paying ministry belongs to the church, not to the minister. Any left-over expense funds cannot be paid to or retained by the minister as personal compensation. The minister with the stipulation that they be used only for job expenses may carry them forward. Expenses that exceed the amount allocated for this purpose may NOT be paid or reimbursed by a salary reduction. For example, if $6,000 is budgeted for the year but the minister actually spends $6,700 by year end, the extra $700 cannot be treated as a reimbursement by simply reducing the minister s salary by $700. The church may reimburse the extra $700 from church funds or allow the minister to carry the expenses forward. There is no requirement in tax rules for special year end accounting. If a monthly allowance is paid to the minister, and expenses accumulate in excess of the funds allocated, the church may allocate additional funds for reimbursement, or the expenses may be carried forward with the restriction that the minister can use these funds only for ministry expenses. They cannot be converted to personal income. 9

10 Accountable Reimbursement Plan for Ministry Expenses Sample Policy Statement It is the policy of First Assembly of God in Little Rock to provide from church funds the ordinary and necessary expenses of ministry that are incurred for the benefit of the church. The church recognizes the professional nature of the ministry and recognizes the right of ministers to use professional judgment in incurring ministry expenses within the guidelines set by this policy and the funds allocated for payment or reimbursement of expenses. Ordinary and necessary expenses of ministry include, but are not limited to, the following: on-the-job transportation; out-of-town travel for church assemblies, conferences and continuing education; other professional continuing education locally and by correspondence; professional materials (books, magazines, journals, papers, tapes, videos, office supplies, etc.); business meals, entertainment and gifts for conducting church business and developing pastoral relationships; dues and fees for memberships in religious, professional and civic organizations; business use of the telephone; professional equipment (communion, office, library, audio-visual, music, etc.); professional and liability insurance; legal and professional services; and the purchase and cleaning of clergy vestments. Child care expenses are considered to be ordinary and necessary when incurred to enable both minister and spouse to attend church functions for which the presence of a spouse is expected and is vital to the church s ministry. The church, at its discretion, may pay ministry expenses by direct billing to the church, by reimbursement upon receiving reports with receipts and vouchers from the minister, by paying an expense allowance, and by paying an advance for a specific event or activity. Payment is subject to the availability of funds and to the timely and proper accounting by the ministers and staff. The minister and staff members are accountable to the church by properly reporting all ministry expenses. Proper reporting includes the filing of periodic (monthly) expense reports with substantiating records, receipts, and personal statements showing dates, amounts and business purposes. When expenses are reimbursed, reporting monthly is encouraged but must be at least quarterly. When an allowance is prepaid on a monthly basis for recurring expenses, monthly accounting is required by the end of the following month. Excess expenses may be reimbursed, if funds are available and approved, or carried forward. Any unused portion of a monthly allowance may be carried forward to apply against expenses incurred the next reporting period. When an advance is given for the expenses of a specific event or activity, an accounting is required within 60 days. Any unusual portion of an advance must be repaid to the church within 120 days. This policy is established in accordance with Internal Revenue Code Section 62(a)(2)(A) and Federal Tax Regulations (b) and (e)(4). It shall remain in effect until amended or rescinded. Adopted by official action of the board of directors this date:, 20. Church officer: Title: 10

11 2004 Ministry Expense Report For the period from to 2003 Minister Church 1. AUTOMOBILE BUSINESS EXPENSES: a. Use of personal car: Business miles Times standard rate of.37.5 a mile b. Use of church car: personal cost $ times % actual business use Sub-total Automobile expenses $ 2. MINISTRY PROFESSIONAL EXPENSES: a. Professional and liability insurance b. Interest on ministry equipment purchases c. Legal and professional services d. Office expense e. Equipment repair/maintenance f. Books, materials, supplies for ministering g. Travel away from home for conferences, etc. i. Air/train/bus/taxi/car rental ii. Registration/tuition/materials iii. Lodging/tips/laundry/cleaning iv. Meals h. Business meals and entertainment i. Business phone, pager, cell phone, Internet access j. Dues to religious and civic organizations k. Business gifts ($25 maximum per recipient) l. Continuing education, local correspondence m. Local church & ministry meetings n. Clergy vestments, purchase and cleaning o. Equipment purchases and payments p. Other: Sub-total Ministry Professional Expenses $ Total Auto and Ministry Professional Expenses $ 4. Plus unreimbursed expenses from previous reporting period $ 5. Minus prepaid expense allowances received this reporting period ( ) 6. Minus unused expense allowance from previous reporting period ( ) 7. EXCESS EXPENSES or (UNUSED ALLOWANCE) this period $ Excess expenses may be carried forward to the next reporting period. The unused portion of an allowance may be retained for expenses occurring during the next reporting period but may not be retained for personal use. Signed: Minister: Church officer: 11

12 Here is an illustration why a minister s actual income differs from income reported by an employing church and the minister s tax return. A minister s finances, due to unique tax regulations, is unusual and complex. Actual income cannot be verified from a Form W-2. Neither can it be verified from a Form 1040 tax return if the minister elected exemption from Social Security. It is difficult to verify even if the minister is in Social Security. Here s why: Minister s Income and Expense Reimbursements Church Financial Support Package (not including pension and medical benefits): Salary 15, reported on W-2. Housing Allowance 12, not reported on w-2 (Minister reports housing on Schedule SE when tax is filed.) Social Security allowance 4, added to W-2. Car expense reimbursed 4, reported to church on Accountable Reimbursement form. Ministry expenses reimbursed 3, reported to church on Accountable Reimbursement form. Total paid by church 38, Honorariums received from individuals Total received by minister 38, How the Minister s Income is Reported Form W-2 19, Salary, Social Security Allowance Reported to the IRS by church. Taxable income on minister s return 19, Honorarium plus W-2. Schedule SE income 31, W-2, honorarium and housing. If the minister has filed Form 4361, no Schedule SE must be filed. Keep in mind: 1. All housing allowance is exempt from Federal and State income tax, but is accountable on Schedule SE, unless the Form 4361 has been filed. 2. A minister s automobile mileage is 65 to 85% of all miles driven. Keep a mileage log of all business travel. 3. A minister living in a church owned house must include the fair rental value of that house, with utilities, in computing Social Security SE tax. 4. Qualified Retirement Plans (Denominational Plan and 403(b) plan) is nontaxable and excluded from Form W Medical Insurance and Medical Expense Reimbursements are non-taxable and also excluded from Form W Accountable Employee Expense Reimbursement is non-taxable and excluded from Form W Group term life insurance up to $50,000 of coverage is non-taxable and excluded from Form W Direct gifts from an individual to the minister is non-taxable and excluded from Form W-2, unless the gift is related to a service rendered. 12

13 Housing and retirement. Research these items: 1. Deason Rule. 2. Deferred housing. 3. Equity sharing. 4. Love offerings. 5. Royalties on books, sermon tapes, etc. (Agreement with the board.) 6. Rabbi Trust. 7. Education IRA for children. (Maximum amount is $500 per child.) 8. Lifetime Learning Credit. (Equal to 20% of up to $5,000 of qualifying higher education expenses.) 13

14 LOVE OFFERINGS Part 1 - Taxable Love Offerings The one sure way to determine a "Taxable Love Offering" is to see if a service is attached to the love offering. A service could have been rendered in the past, present, or for future service. Any offering that comes through the non-profit organization's (i.e. The Church) bank account, regardless of how the funds are collected, is taxable income and must be reported either on the minister's W-2 or Part 2 - Non-Taxable Love Offerings How to classify non-taxable love offerings. 1. Love offerings cannot be solicited by the individual or by anyone on behalf of the recipient. 2. Love offerings must be spontaneous in nature. 3. Love offerings must be clearly defined as a gift with no service attached. 4. Love offerings cannot qualify as a tax deduction for the giver/donor. (No tax deduction allowed.) 5. Love offerings are motivated out of affection individually for another individual. WARNING! In order for a love offering to be tax-free, the funds cannot be placed in any church bank account, the funds cannot be listed to individual member's contribution report, and the funds are not tax deductible by the member/donor. Non-profit organizations may not distribute funds to individuals other than as reasonable compensation for services rendered. Churches cannot give "gifts" to ministers or other employees without tax consequences. Otherwise, it would jeopardize the church's non-profit status. All gifts (other than those of little or no monetary value) should be reported as income on the minister's annual earning report (W-2 or Form 1099). TAX FREE GIFTS. Members are free to make personal gifts to clergy, such as a card at Christmas accompanied by a check or cash. However, the gift is not deductible by the donor as noted above. 14

15 Keeping the Non-profit Status of the Church Secure The Internal Revenue Service uses several criteria in identifying bona fide churches. The church to make certain that the non-profit status of the church is never in jeopardy should use these guidelines. 1. The church has a distinct legal existence. 2. The church has a creed and established form of worship. 3. The church has a definite and distinct form of government as stated in the constitution and bylaws. 4. The church has established a code of doctrine and discipline. 5. The church has a religious history. 6. The church has a membership not associated with other churches or denominations. 7. The church is organized with ordained ministers. 8. The church can ordain members after they complete a required course of study. 9. The church has official literature. 10. The church has an established place of worship. 11. The church is and has a regular congregation. 12. The church conducts regular church services. 13. The church has religious instruction (such as Sunday school). 14. The church has schools to prepare its ministers. IMPORTANT! WARNING: PRIVATE INUREMENT OF BENEFIT In order to maintain tax-exempt status, churches must continue to meet at least two separate tests: 1. No person or persons may own the church, receive dividends from it or have a right to take property from it. This test is basic to the organizational test of a properly formed church. 2. The church must operate "exclusively" for its particular exempt purpose and must not devote itself to benefiting private individuals. The statute (501) (c) (3) uses the term "inurement" for this purpose. Inurement means to serve to the use or benefit of, as a gift of land inures to the heirs of a grantee or it inures to their benefit (Webster's Unabridged Dictionary, 2 nd Edition). a) Internal Revenue Code 501(c) (3) does not prohibit all dealings between a charitable organization and its founder or with those in controlling positions. An organization's trustees, officers, members, founders, and contributors, may, of course, receive reasonable compensation or fair market value for services or goods, or other expenditures in furtherance of exempt purposes. However, those in control may not, by reason of their position, acquire any of the charitable organization's funds. If funds are diverted from exempt purposes to private purposes, exemption is in jeopardy. IRS Exempt Organizations Technical Guidelines Handbook, Sub-section 3(16)2 (1999). b) Therefore, no part of the net earnings of the tax-exempt church (non-profit organization) will inure to the benefit of any private shareholder or individual. Basically, inurement is generally found to exist in the setting of tax-exempt organizations where money or something of value is transferred to or otherwise benefits an individual 15

16 because of that person's relationship with the organization, and without regard to accomplishing the organization's exempt purpose. Although the statute suggests that inurement involves only "private shareholders or individuals," the Internal Revenue Service and courts have interpreted this group generally to include all persons having a personal and/or private interest in the activities of the tax-exempt organization. Most inurement violations involve persons in "control" positions within the organization, however, this is not always the case and inurement may involve someone who is not an insider. The term's "shareholder" and "individual" cover the following groups for inurement purposes: 1. Any person with the authority to decide to make payments of the church's money; 2. A member of the family of such person; 3. A substantial contributor to the church who could possibly influence the church's decisions; and 4. Affiliates of the above. A good example of inurement is a pastor who is paid excessively by the church. Also, payment of excessive rent; receipt of less than fair market value in sales or exchanges of property; inadequately secured loans; interest free loans; percentage fundraising; and excessive employment perquisites (perks) are examples of inurement. A minimal amount of inurement may result in disqualification for exempt status! Private benefit must be more than incidental in order to jeopardize tax exempt status. Inurement only applies to "insiders" whose relationship with an organization offers them an opportunity to make use of the organization's income or assets for personal gain. To test church activities and operations for inurement use this test: 1. Is the action reasonable? 2. Is there sufficient documentation of the transaction. 3. Has there been independent (board/trustees) approval. 4. Has there been a study for outside opinions. 5. Is the action in compliance with State Laws. Any activity that jeopardizes a church's exemption from federal income taxation is a matter that must be taken very seriously. Some of the negative consequences are: 1. The church's income would be subject to federal and state income taxation. 2. Donors could not deduct charitable contributions. 3. Possible loss of property tax exemption under state law. 4. In some cases the exempt status of ministers who opted out of social security could be affected. 5. Possible adverse impact on zoning classification. 6. A minister's housing allowance exemption from federal taxes would be affected. 7. The significant protections available to a church under the Church Audit Procedures Act may no longer apply. 16

17 Minister's Tax Data For year 20 Double-check your Social Security Numbers! Print all information legibly. It must be readable. Report all income. Total the expenses in each category and attach the calculator tape to these pages. If you have questions concerning the information use a reputable income tax service. Minister: SS# Name: Birthdate: Address: City: St. Zip: Occupation Single Married Head household Age 65 or over Blind Spouse: SS# Name: Birthdate: Occupation Address: City: St. Zip: Single Married Head household Age 65 or over Blind Children and/or dependents Name Relationship age income support SSN# Wages: (Attach W-2 Forms; 1099 Misc.) H/W Employer total wages FICA fed w/h state w/h Interest/Dividends received: (Attach 1099 Int.; 1099 Div) H/W/J Payer Amount H/W/J Payer Amount Other Income: (Attach all supporting documents) Pension income: IRA income: Retirement inc. Social Security income (H) Social Security income (W) Unemployment Comp. Alimony Disability State refund Miscellaneous income (fees for weddings, etc. itemize) Ministerial Housing Allowance Minister exempt from Self-employment? FEDERAL ESTIMATED PAYMENTS: STATE ESTIMATED PAYMENTS: Date paid amount Date paid amount 17

18 PERSONAL Deductions Medical and dental amount Taxes amount Contributions amount Insurance premiums Real estate Church Doctors Personal prop Charity Prescriptions State income tax Cancer society Eyeglasses Red Cross Ambulance Interest amount Boy Scouts Hearing aids Home loan Girl Scouts Orthopedic shoes/braces Equity loan Salvation Army Nurse fees Vets organization Therapy treatments Personal non-business United Fund Lab fees Safety shoes C.A.R.E. Dental fees Dues, union M.D. Assn. X-rays Uniforms MS Society Medical miles Tax preparation Heart Assn. Other medical expenses Safe deposit box TB Assn. Tools & supplies YMCA Insurance reimbursement Business phone Non-cash (attach Description/receipts) Casualty loss amount Moving Expenses amount Total loss Household goods Insurance reimbursed Transportation, lodging Storage Insurance Office in home amount Expenses/looking for amount Square feet of home new Job Sq. feet of office space Travel Percentage of total Lodging Food Resume cost Rental Income/Expense Rental income Expense: Taxes: Insurance Interest Repairs Utilities Supplies Legal fees Cleaning/Maintenance Advertising Commissions Other (itemize) (If more than one rental property, attach a listing of all others) Sale of Property Describe property: Home Commercial Stock Other Sale price Date sold Date purchased Property cost Commissions paid Other expenses (itemize) Business income/expense Business income Type of business Expense: cost of sales Freight Salaries Utilities Supplies Taxes/license Advertising Bad debt Interest Other (itemize) Rent Meals/lodging Computer Equipment Repair/Maint. Ending inventory 18

19 AUTO QUESTION: (This must be answered if deducting auto expenses of any kind!) Odometer reading: Beginning of the year End of year Do you have records to support the vehicle expenses? Yes? No? If so, are the records provided in writing? Yes? No? Adjustment to income: Individual Retirement Account Husband: Wife: Other Pension Plan Deduction Husband: Wife: Alimony paid Recipients Social Security Number Penalty on early withdrawal of savings Medical Savings Account deduction Student Loan Interest deduction Child-Care Expense: (List caregivers, tax identification number, and amount paid) Name: Social Security Number Amount paid Name: Social Security Number Amount paid Name: Social Security Number Amount paid (In order to claim Child Care, the child's name, age, and social security number MUST be provided on page one of this form.) IMPORTANT: If you find that you did not claim deductions or credits that you could have claimed, you should correct your return. Use Form 1040X to correct the Form 1040 or Form 1040 A that you previously filed. The amended return should be filed within three years from the date you filed your original return (including extensions), or within two years from the time you paid your tax, whichever is later. A return filed early is considered filed on the due date. This means that you could file amended returns for the past three years if the deductions or credits would be a significant return for you. A professional could help you with the necessary documentation for the 1040X. 19

20 Minister's Income and Expense Checklist - Form 2106 Expenses INCOME: (W-2s; 1099s, other income from honorariums) Attach copies of W-2s and 1099s Housing allowance designation from church Total amount of housing allowance used to provide home (see housing allowance expense form) Was the housing allowance form signed by church official? Total income EXPENSES: Airline Travel, hotels, etc. Gifts to members, staff Books, tapes, subscriptions ($25 limit per person) Business cards, stationary Insurance, malpractice Convention fees, expenses Laundry, cleaning Dues, General Council Legal expenses Dues, District Council License renewal fee Dues, Sectional Council Meals & entertainment Equipment purchases Office supplies, postage Equipment rental Seminar fees, expenses Equipment repairs Tax return preparation Auto expenses: Use either actual expenses or standard mileage rate. If you place your car in service with the standard mileage rate you can later switch to the actual expense method. However if you begin using the actual expense method you must continue using actual expenses. Usually, the standard mileage rate is better. Total mileage business miles commuting miles Personal miles Business miles X.37.5 = Parking, tolls, etc. Actual Auto expenses: Auto fuel, oil, etc. Auto insurance Lease payments Licenses, taxes, etc. Repair, maintenance Total expenses 1. Was the auto available for personal use in off duty hours? 2. Is another auto available for personal use? 3. Do you have adequate records or sufficient written evidence to justify these deductions? Signature: Social Security # Date: 20

21 Housing Allowance Minutes Special meeting of the Board of Deacons/Trustees A meeting of the Board of Deacons/Trustees on (date) at (location) at (time). Board Members Present: There being a quorum the Chairman of the Board then called the meeting to order to consider the minister's housing allowance. According to the Internal Revenue Service, a minister could receive a housing allowance under Code Section 107, but it must be designated in writing and approved by the Board of Deacons/Trustees. Pastor presented FORM MHA 1 with the explanation, based upon past expenditures, the estimated housing allowance to provide a home during the year 2002 is a total of $. I respectfully request the Board to take action to designate the above amount as my "Housing or Rental Allowance" as provided for by Section 107, of the Internal Revenue Code for a minister of the Gospel. MOTION: Be it resolved that, The board of this church does hereby establish a housing allowance for Pastor in accordance with the Internal Revenue Service Code Section 107. The housing expenses that can be included in this allowance shall be the utilities, taxes, insurance, repairs and maintenance, and the cost of furnishing the home. The maximum allowed for these expenses under this plan shall be $ per year according to the Estimated Housing Allowance Form provided by the pastor. It is the responsibility of the pastor to provide the church all necessary records, documents, and receipts to verify these amounts. (If the church provides a parsonage for the pastor insert:) In addition, the board hereby establishes a fair rental value on the church parsonage in the amount of $ per year. It is understood, based on Code Section 107, that the amounts paid by the church and the fair rental value of the parsonage are not taxable to Federal or State Income Taxes, however, they are subject to self-employment (social security and Medicare) taxes. This designated housing allowance will remain in effect each year hereafter unless and until it is amended by the church board. SECONDED: Board member seconded the motion. PASSED UNANIMOUSLY: The Chairman asked for additional business, there being no additional business the meeting was adjourned with prayer. Respectfully submitted: Secretary Date: 21

22 Ministers Housing Allowance Estimated Housing Expenses Name: Church: Housing allowance for 20. The amounts set forth below are an estimate of the payments I expect to make during 20 to provide a home. 1. Fair rental value on home owned by minister. 2. Fair rental value on home furnishings. 3. Garage or storage rental not included in the above amount. 4. Real Estate taxes. 5. Utilities (gas, electric, water, sewer, garbage, phone, cable, security) 6. Home-owners insurance (contents, structure, liability, etc.) 7. Repairs, maintenance, remodeling and improvements 8. Other housing expenses (lawn care, pest control, etc.) 9. Housing supplies (cleaning supplies, light bulbs, etc.) 10. Miscellaneous Total estimated expense If the church owns the parsonage the housing allowance will be the Fair rental value of parsonage, including house, utilities, furnishings. Minister's signature: Church officer signature: Date: This must be approved by action of the board by December 15 before the housing allowance comes into effect on January 1. The pastor and the church secretary/treasurer should keep a copy of this form. Form: MHA 1 22

23 Minister's Housing Allowance Actual Housing Expenses To: Church Board of deacons/trustees: Actual housing expenses for the year 20. The amounts set forth below are actual expenses that I have paid during the year 2002 to provide a home for my family. I have receipts substantiating these expenses. Please adjust my W-2 according to the action of the board in reference to the pastor's housing allowance for Fair rental value on home (may be more than mortgage payment). 2. Garage or storage rental not included in the above amount. 3. Real estate taxes. 4. Utilities (gas, electricity, water, sewer, garbage, phone, cable, security, etc.) 5. Homeowner's or occupant's personal property insurance (contents, structure, liability) etc.) 6. Repairs, maintenance, remodeling and improvements 7. Furnishings (can include payments on prior year's purchases) 8. Other housing expenses (lawn care, pest control, etc.) 9. Household supplies (cleaning supplies, light bulbs, etc.) 10. Miscellaneous Total actual expenses Fair rental value of church owned parsonage, including utilities, etc. Minister's signature: Church officer signature: Must be presented to the Church treasurer by January 20. Date: Form: MHA 2 23

24 Evangelist Housing Allowance Church: Address: Board meeting resolution: After considering the request of Evangelist submitted on Substitute Form W-9, be it therefore resolved that the church designate $ of the total offering he receives as a qualified housing allowance. It is understood that the evangelist is responsible for keeping and maintaining accurate records to substantiate the housing expenses he incurs, and this amount is to be included as self-employment income per Internal Revenue Service Code Section 107. This document shall be the evangelist's official notice of the amount paid by the church toward the designated housing allowance and is for this current year only. It is also understood that the amount designated as housing allowance will be included on the Form 1099 that will be furnished to the evangelist at the end of the year. Other expenses for travel, lodging, meals and minister's retirement and any other qualified expenses are approved as per the attached Substitute Form W-9. It is the responsibility of the evangelist to provide documentation for these expenses to the church board. Second: Passed this day of, 2001 Secretary 24

25 Substitute Form W 9 Church name: Address: City: State: Zip: Guest s name: Address: City: State: Zip: Social Security: Phone: Meeting date (s) List expenses incurred during travel or during stay at this church. Airfare...$ Travel cents per mile.. $ Food... $ Motel.. $ Other. $ Housing allowance. $ Retirement..$ Please provide documentation to prove all amounts listed. The amounts and information listed above are true and correct. TOTAL... $ Signature Date: This information is required by the IRS under the qualified accountable reimbursement plan passed by this church and will be used to provide you with a Form 1099 MISC. at the end of the year. Failure to provide your social security number will require a 31% backup of withholding from the amount being paid. If you fail to provide documentation of any amount noted above, it will be included in the form If the total amount of compensation received this year is $600 or more, less documented expenses, you will receive a Form 1099 from this church and the information will be reported to the IRS. FOR CHURCH USE ONLY Expenses: $ Check number: Offering: $ Date paid: Total paid: $ By: 25