How to Know What is Taxable Income for a Minister
Many churches pay certain allowances as a benefit to their minister, such as a car allowance, light bills, water bills and much more. Moreover, churches all across America take up love offerings, love tokens and many types of gifts for their pastors. Are they taxable? Should the be reported? Under the law, most of these allowances are illegal and can result in fines and back taxes for the minister.
When a church pays the minister allowances it does so thinking that it is allowed to pay for these items as tax free allowances. Under the law, these allowances are 100% taxable and must be reported in the minister's W-2 form as income. With the exception of the housing allowance, there is no other section in the IRS code that allows churches to pay the minister any type of allowance to cover personal expenses and it be tax free. Below are some examples of allowances that churches pay to ministers.
- Car allowance
- Water bill
- Cell phone
- Heating bill
- Home phone
- Clothing bill
- Personal expense fund
- Pastor's aide
- Light bill
Income tax regulations require that any and all money given to the pastor be reported as income unless certain requirements are met. Most churches are not aware that these regulations exist; much less, that failure to follow these regulations may result in heavy fines to the church, the board members and the pastor. Let me give you an example.
Church ABC pays Pastor Tom's car payments. At the end of the year the total payments were $6,500.00. Since the pastor is wholly dedicated to the ministry, he uses his car for both ministry and personal use. The church board of directors recognizes his dedication to the call of God on his life and knows that he is unselfish in using his car for church purposes. Out of love and admiration, they approve for the church to make all his car payments. The problem with this scenario is very big and the consequences are, too!
Since 2005, Treasury regulations have focused on these types of transactions. These regulations have been tightened each year. Section 4958 empowers the IRS to issue intermediate sanctions against the pastor and the board of directors for violations. If the church makes Pastor Tom's car payments, the church is required to report those payments as income on Pastor Tom's W-2. This means that a tax free car stipend or allowance really does not exist. It is now labeled by the IRS as an excess benefit transaction. Under the code, the IRS will fine the pastor 200% of the car allowance plus penalties and interests on back taxes. Additionally, each board member that approved the transaction can be fined up to $10,000.00.
This article is not written to scare you, rather it is a trumpet call to the Church. We need to know that the times have changed, the laws are real and so are the consequences. I am trying to empower you to make the necessary changes. Please keep reading to see if there is a tax free way to help the pastor.
A Tax Free Way!
Section 62(a)(2)(a) allows the church to help the pastor with his car expenses, if the church adopts an accountable reimbursement policy that requires reimbursements to be substantiated as a necessary business expense. The reality of a tax free car allowance is only to the degree that the reimbursements are for church business only. Any other amount paid by the church to the pastor for his car is taxable income and must be reported on his W-2. That is the current law. Let me give you an example:
The Board of Directors of ABC Church adopts a resolution to implement a section 62(a)(2)(a) reimbursement policy. The pastor uses his car to visit church members in hospitals, their homes, and nursing homes. He also uses his car to travel to church related conferences and seminars. Every month, he submits a mileage log of all his business miles. The church policy states that it will honor IRS business mileage deductions for 2008 at 55.8 cents per mile. In the month of October, Pastor Tom submits a mileage log declaring 657 business miles. The church treasurer approves the mileage log and writes a check to Pastor Tom in the amount of $366.61.
Under the law, this is considered an accountable reimbursement plan that makes the $366.61 paid to the pastor tax free. Had the church board of directors not approved the accountable reimbursement plan, the amount paid to the pastor as a car allowance would have been taxable and would have constituted an excess benefit transaction, even though the church paid it to him thinking it was tax free.
At our next conference, let us show you how to properly implement an accountable reimbursement policy. Please see below for more details.