Hans Kasper, MS-CPA, PS

Income Taxes for Ministers
 

Ministers have a three special provisions in the tax law.  They can:

• receive payment from their church that has been designated as a housing allowance and pay no income taxes on that amount if it has been spent for housing items (the housing allowance is taxable for social security tax unless item three below applies),

• take tax deductions for mortgage interest and real estate taxes even though they have received a tax-free housing allowance to pay for these expense items, and

• exempt their salary and housing allowance from social security tax if they apply for such an exemption with the IRS.

A housing allowance can be spent on anything that pertains to the establishment and maintenance of a minister's home.  Examples are:

• mortgage payment,

• real estate taxes,

• home insurance,

• light bulbs,

• furniture,

• TVs, VCRs and DVDs used with TV,

• utilities,

• lawnmowers and gas,

• lawn maintenance service,

• landscaping,

• fertilizer,

• cleaning supplies,

• carpeting, drapes, and blinds,

• new windows,

• all repairs,

• all appliances both large and small,

• and etc.

The housing allowance is the lower of the fully-furnished, fair-rental value of the home (triple net lease) plus maintenance expenses OR actual costs paid out as listed above.  What does this mean?  This means that the minister can not be granted a large compensation package, assign all of it to housing allowance, and use those funds to pay off the home in five years. 

Housing Allowance Form

The steps that the church should take to establish the compensation package and the housing allowance are as follows.

First, I want you to think of the compensation package as a layer cake with the top layer being denoted as layer number one.  Once the total of the compensation package is determined, then each layer is established with the tax free layers one to three being allocated first and the taxable layer four being the remainder.  Please note that there are no rules in the IRS code that the housing allowance must be limited to a certain percentage of the total compensation package.  The only limitation rules are based on fair rental value.

• Layer #1: Auto allowance--this layer is tax free if reimbursed for auto mileage used on behalf of the church and the church requires the minister to account for that mileage.

• Layer #2: Benefits--this layer is tax free for medical benefits and for tax sheltered annuities.

• Layer #3: Housing Allowance--this layer is tax free as noted above.

• Layer#4: Salary--this layer is taxable.

Second, the church is to abide by the following procedures with regard to the housing allowance.

• In late December or early January before the first housing allowance payment is made, the minister is to submit to the church board a categorized, written estimate of the housing allowance for the next year.

• The estimated for the allowance should be set a little high to account for price increases and to avoid spending more than the allowance.  There is no tax benefit for spending more than the allowance.

• The board approves this housing allowance and notes it in the board minutes.  Once the housing allowance is established for the year, it can not be changed.

• The board pays to the minister the monthly housing allowance.

• No income taxes are to be withheld from the housing allowance.

Third, the minister's responsibilities are:

• to assure that the housing allowance is not more than the fair-rental value,

• to maintain a record of and receipts for the expenses that would make up the deductible housing expenses,

• to pay income taxes on the amount of the housing allowance that is not spent on housing expenses, and

• if not exempt from social security taxes, to pay social security taxes on the housing allowance received.

The following forms and publications can be found by linking to the IRS sites at the top left of this page.

Form 4361 Application for Exemption From Self-Employment Tax for Use By Ministers, Members of Religious Orders and Christian Science Practitioners is used to apply for the exemption.  This must be completed within a short time after becoming a minister.

Form 2031 Revocation of Exemption From Self-Employment Tax fir Use by Ministers, Members of Religious Orders, and Christian Science Practitioners may be used to revoke the exemption election during IRS approved periods.

Publication 517 Social Security and Other Information for Members of the Clergy and Religious Workers.

Publication 1828 Internal Revenue Service Tax Exempt and Government Entities Tax Guide for Churches and Religious Organizations.

Publication 571 Tax-Sheltered Annuity Plans (403(b) Plans) For Employees of Public Schools and Certain Tax-Exempt Organizations.
 

Top of Page