The Minister and Taxes

by D. Ray Lewis

After graduating from Free Will Baptist Bible College (now Welch College) in 1976, my family and I loaded up a U-Haul and headed to our first pastorate. Even though I had my diploma carefully packed away, it didn’t take me long to discover many things about the pastorate I did not know.

I did not grow up in a Christian home, much less a pastor’s home. I never had a class in church finances. I knew nothing about a housing allowance or quarterly tax deposits, and unfortunately neither did the people I was on the way to pastor. I just knew I was on the way to my first pastorate, and I would receive $125 per week in salary.

None of the $125 was designated as anything but salary, making it all taxable when I filed my 1976 tax returns. That is when I learned I should have been making quarterly tax deposits. The old adage “ignorance of the law is no excuse” took on a whole new meaning for me that year.
Not only did I have to pay the taxes that had accumulated on everything the church had paid me, but I paid a hefty penalty for not making quarterly tax payments as well.

By the time you read this article, you will probably already have filed your 2012 tax returns, and you may have found yourself in a similar situation. The good news is that the breakdown of your compensation may be revised during the year, but it is also important to note that no changes can be made retroactively.

This article touches briefly on some benefits the IRS allows churches to include in the pastor’s compensation package that will reduce the pastor’s tax liability. This is by no means an exhaustive list.

First of all, consider the housing/parsonage allowance. This is the most important tax benefit available to ministers. Ministers who own or rent their home may save on their taxes if their church designates part of their income as a housing allowance. Ministers who live in a parsonage may also be entitled to a housing allowance designated by their church if they have eligible housing expenses.

These tax-saving ideas are not “loopholes.” They represent wise use of tax laws to help ministers pay the least amount of tax legally owed.

From time to time I am asked, “What can I include in my housing allowance?” Ministers can exclude the following items from their gross income to the extent it is used to pay expenses in providing a home: house payments or rent, utilities, insurance, property taxes, furniture or appliance purchases, yard work expenses, maintenance and repair, just to name a few.

To take advantage of this benefit however, the church must officially designate and document the amount of the minister’s housing allowance in advance of paying the minister. The church should record this action in the church minutes.

Ministers who own their homes can exclude the lowest of the following three amounts from income for federal income tax purposes as long as their church properly designates a housing allowance for them: (1) the housing allowance designated by their church; (2) actual housing expenses; or (3) the fair rental value of the home (furnished, including utilities).

Another tax-saving help to the pastor is for the church to provide ministry-related expenses. A popular method of providing this benefit is to use an accountable-reimbursement plan. With this, the church budgets money to fund reimbursements. The minister turns in a record of all business miles driven and receipts for other ministry-related expenses. The church then reimburses the minister from the budgeted expenses. The minister pays no taxes on amounts reimbursed under an accountable-reimbursement plan (within IRS limits). Several other employee benefits are not taxable to the minister as long as they are designated as such.

The law allows the church to pay for medical coverage (for an employee and dependents) and disability and group term life insurance for its employees. When a church pays for this coverage directly, the money is not reported as taxable income, although group term life insurance above $50,000 for employees is taxable. A church can also make tax-sheltered contributions to a minister’s 403(b) retirement savings account.

These tax-saving ideas are not “loopholes.” They represent wise use of tax laws to help ministers pay the least amount of tax legally owed. It is a simple matter of good stewardship.
An excellent addition to any minister’s library is Richard Hammar’s Church & Clergy Tax Guide.

The Internal Revenue Service’s Tax Guide for Churches and Religious Organizations (Publication 1828) is another helpful tool for ministers and can be downloaded free from the IRS website: irs.gov.

About the Writer: D. Ray Lewis joined the Free Will Baptist Board of Retirement in 1983. He became director in 2005 after serving for several years as assistant director.