Author: twatermann

Clergy-Penitent Privilege

Learn what statements or conversations are considered “privileged.”

Richard R. Hammar, Attorney, CPA
Bio

Every state has a statute or court rule making certain communications to clergy “privileged.” This generally means that neither the minister nor the “penitent” can be forced to testify in court (or in a deposition or certain other legal proceedings) about the contents of the communication.

Pastors can use these eight questions to understand whether or not a statement or a conversation could be considered privileged by a court of law.

1. Is there a “communication”?

If you answered yes to this question, go to question 2. If you answered no, the clergy-penitent privilege does not apply.

Read the next two paragraphs to learn what a “communication” can include.

Usually, a “communication” refers to an oral conversation. This can include phone conversations. It can also include correspondence (such as letters and emails) and even gestures or other physical acts if intended to transmit ideas.

To illustrate, one court ruled that a counselee who pulled a gun out of his pocket and placed it on the pastor’s desk in response to the pastor’s question about a recent murder had made a “communication.” Other courts have ruled that a pastor’s impressions of a counselee’s demeanor are not communications because one’s demeanor is not a communication.

2. Was the communication made in confidence?

If you answered yes to this question, go to question 3. If you answered no, the clergy-penitent privilege does not apply.

Read the next two paragraphs to learn what it means for a communication to be made in confidence.

A communication is confidential if there is an expectation that it will not be revealed. In some states, the presence of a third person prevents a communication from being confidential. However, if the presence of a third person is legally required (e.g., a prisoner who cannot communicate with a minister unless a guard is present), the privilege may apply.

Several state laws extend the clergy-penitent privilege to situations in which other persons are present “in furtherance of the communication.” This probably would include marital counseling sessions when both spouses are present. However, statements made to a minister in the presence of deacons, elders, church members, or any other persons will not be privileged, unless specifically recognized by state law. Be sure to check state law.

3. Was the communication made to a minister?

If you answered yes to this question, go to question 4. If you answered no, the clergy-penitent privilege does not apply.

Read the next paragraph to learn more about who might or might not be considered a minister.

Communications made to church board members, a minister’s spouse, or “lay ministers” cannot be privileged. But in some states, a person who a counselee believes to be a minister will be so regarded for purposes of the clergy privilege.

4. Was the communication made to a minister acting in a professional capacity as a spiritual adviser?

If you answered yes to this question, go to question 5. If you answered no, the clergy-penitent privilege does not apply.

Read the next two paragraphs to learn what it means for a minister to be acting in a professional capacity as a spiritual adviser.

Generally, this requirement is met if a person seeks out a minister for spiritual counsel or confession. If a statement is made to a minister as a mere friend, the privilege does not apply.

A minister (or court) may need to ascertain the objective of a conversation in determining whether a communication is privileged. Was the minister sought out primarily for spiritual advice? Were the statements of a type that could have been made to anyone? Where did the conversation take place? Was the conversation pursuant to a scheduled appointment? What was the relationship between the minister and the person making the communication? These are the kinds of questions which help to clarify the purpose of a particular conversation, thereby determining the availability of the privilege.

5. Are you legally authorized to assert the privilege?

If you answered yes to this question, go to question 6. If you answered no, the clergy-penitent privilege does not apply.

Read the next paragraph to learn what it means to be legally authorized to assert the privilege.

In most states, both the person who made the communication and the minister to whom it was made may claim the privilege. Rule 505 of the Uniform Rules of Evidence, which has been adopted by several states, specifies that “the privilege may be claimed by the person, by his guardian or conservator, or by his personal representative if he is deceased. The person who was the minister at the time of the communication is presumed to have authority to claim the privilege but only on behalf of the communicant.” However, in some states, only the penitent or “counselee” may assert the privilege, not the minister.

6. Have all additional legal requirements been met?

If you answered yes to this question, go to question 7. If you answered no, the clergy-penitent privilege does not apply.

Read the next paragraph for more information on how to know if all additional legal requirements are met.

You will need to review your state clergy-penitent privilege statute to identify any additional legal requirements that may apply. Some states require that the communication be made in the course of spiritual “discipline.” While most courts interpret this requirement broadly to cover statements made in the course of spiritual counsel and advice, a few courts in some older cases applied this language exclusively to Catholic priests.

7. Has the privilege been waived by the counselee?

If you answered no to this question, go to step 8. If you answered yes to this question, the clergy-penitent privilege does not apply.

Read the next paragraph to learn about how a privilege can be waived by the counselee.

A privilege may be waived if a counselee discloses to others the same information shared in confidence with a minister. If the privilege is waived, it no longer protects communications against compelled disclosure in a court of law or judicial proceeding. To illustrate, one court ruled that a counselee waived any privilege when he disclosed to the police the substance of confidential communications he had made to his minister. In some states, the minister also may waive the privilege.

8. Did the counselee confess to or disclose one or more incidents of child abuse?

If you answered no, and if all of the conditions summarized in the preceding questions have been satisfied, then the clergy-penitent privilege probably applies. To be certain, check with an attorney licensed to practice law in your state.

If the counselee did confess to or disclose one or more incidents of child abuse, then you may be legally required to report this information to the civil authorities. Check with your state child abuse reporting law, and a local attorney, to be sure. Some states do not abrogate the privilege if the requirements of the privilege are met and child abuse is disclosed.

Caution. Some of these eight steps implicate complex legal issues for which the assistance of an attorney is essential.

Additional Reading

For deeper readings on clergy-penitent privilege, see these resources and articles:

Go to the next article, “Accountable Reimbursement Arrangements,” or return to “15 Things Richard Hammar Wants Pastors to Know,” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Accountable Reimbursement Arrangements

Review the four specific requirements for business expense reimbursements.

Richard R. Hammar, Attorney, CPA
Bio

Most ministers and lay church employees incur expenses when performing their duties. The tax treatment of these expenses depends on whether a person is an employee or self-employed, whether the expenses are reimbursed by the church, and whether any reimbursed expenses are paid under an accountable or a nonaccountable reimbursement plan.

Here are a few important details to understand about business expense reimbursements.

Unreimbursed business expenses

These expenses were no longer deductible by employees as itemized expenses on Schedule A (Form 1040) after 2017.

Employee business expenses reimbursed under a nonaccountable arrangement

These expenses were no longer deductible by employees as itemized expenses on Schedule A (Form 1040) after 2017.

Avoid limitations with an accountable arrangement

The limitations on the deductibility of employee business expenses (summarized above) can be avoided if the church adopts an accountable reimbursement plan. An accountable plan is one that meets all of the following requirements:
  1. Only business expenses are reimbursed.
  2. No reimbursement is allowed without an adequate accounting of expenses within a reasonable period of time—not more than 60 days after an expense is incurred.
  3. Any excess reimbursement must be returned to the employer within a reasonable period of time—not more than 120 days after an excess reimbursement is paid.
  4. An employer’s reimbursements must come out of the employer’s funds and not by reducing the employee’s salary.

Under an accountable plan, an employee reports to the church rather than to the IRS. The reimbursements are not reported as income to the employee, and the employee does not claim any deductions. This is the best way for churches to handle reimbursements of business expenses.

If the requirements of an accountable reimbursement arrangement are not met, then the church’s reimbursement of an employee’s business expenses must be reported by the church as taxable income to the recipient.

Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Ministerial Exception

The law doesn’t always protect pastors from employment discrimination.

Richard R. Hammar, Attorney, CPA
Bio

In employment disputes involving a pastor or minister of a church, the term “ministerial exception” comes up time and again. It is therefore imperative that all clergy have a good working knowledge of what this exception is and its legal underpinnings.

The importance of the Hosanna-Tabor ruling

The exception, which finds its origin in several federal and state judicial decisions in the mid-20th century, generally bars the civil courts from resolving employment disputes between churches and clergy. The ministerial exception was affirmed by a unanimous United States Supreme Court in a 2012 ruling. Hosanna–Tabor Evangelical Lutheran Church and School v. E.E.O.C., 132 S.Ct. 694 (2012).

The Court concluded that the First Amendment prevents the civil courts from “interfering with the freedom of religious groups to select” their clergy.

Significantly, the Supreme Court for the first time explicitly acknowledged that the ministerial exception is required by the First Amendment:

We agree that there is such a ministerial exception. The members of a religious group put their faith in the hands of their ministers. Requiring a church to accept or retain an unwanted minister, or punishing a church for failing to do so, intrudes upon more than a mere employment decision. Such action interferes with the internal governance of the church, depriving the church of control over the selection of those who will personify its beliefs. By imposing an unwanted minister, the state infringes the Free Exercise Clause, which protects a religious group’s right to shape its own faith and mission through its appointments. According the state the power to determine which individuals will minister to the faithful also violates the Establishment Clause, which prohibits government involvement in such ecclesiastical decisions.

The Court declined “to adopt a rigid formula for deciding when an employee qualifies as a minister.” But it concluded that the plaintiff in this case, a called teacher and commissioned minister in a Lutheran school, was a minister to whom the ministerial exception applied. As a result, her claims of disability discrimination and retaliation against a church-operated school had to be dismissed.

In support of its decision that the plaintiff was a minister, the Court applied the following four-part test:
  • The church held out the plaintiff as a minister, with a role distinct from that of most of its members.
  • The plaintiff’s title as a minister reflected a significant degree of religious training followed by a formal process of commissioning.
  • The plaintiff held herself out as a minister of the church.
  • The plaintiff’s job duties reflected a role in conveying the church’s message and carrying out its mission.

What is the relevance of this ruling to churches and church leaders? Consider the following four points.

1. The ministerial exception is now settled law

While the ministerial exception has been recognized by many state and federal courts over the past half century, it was rejected by a handful of courts. The Supreme Court’s decision unequivocally establishes the ministerial exception as a matter of law. This conclusion is reinforced by the fact that the Court’s decision was unanimous.

However, note that the Court gave this clarification:

The case before us is an employment discrimination suit brought on behalf of a minister, challenging her church’s decision to fire her. Today we hold only that the ministerial exception bars such a suit. We express no view on whether the exception bars other types of suits, including actions by employees alleging breach of contract or tortious conduct by their religious employers. There will be time enough to address the applicability of the exception to other circumstances if and when they arise.

Nevertheless, there are numerous forms of “employment discrimination” claims under state and federal laws that are directly affected by the Court’s ruling, including those banning employment discrimination on the basis of race, color, national origin, gender, disability, military status, marital status, sexual orientation, and use of lawful products.

A number of courts in recent years have applied the ministerial exception to compensation disputes between churches and ministers, including claims for back pay, fringe benefits, and overtime compensation. The Court’s decision in the Hosanna-Tabor case does not directly address these claims. Its decisive recognition of the ministerial exception in employment discrimination cases undoubtedly makes it more likely that the exception will apply to compensation-based disputes, as many state and lower federal courts have ruled.

2. Who is a “minister”?

After recognizing the existence of a ministerial exception, the Court turned its attention to the meaning of the term “minister.” It is important to define this term, since the ministerial exception only insulates employment disputes between churches and ministers from civil court interference.

The Court noted that the term “minister” is not limited “to the head of a religious congregation,” but the Court declined “to adopt a rigid formula for deciding when an employee qualifies as a minister.” Rather, it chose to address only the plaintiff in this case, a called teacher and commissioned minister in a Lutheran school, and concluded that she was a minister to whom the ministerial exception applied. As a result, her claims of disability discrimination and retaliation against a church-operated school had to be dismissed.

The most frequently cited definition of “minister” applied by state and lower federal courts in the context of the ministerial exception was announced by a federal appeals court in 1985. Rayburn v. General Conference of Seventh-Day Adventists, 772 F.2d 1164 (4th Cir. 1985). In concluding that an “associate in pastoral care” was a minister, the court laid down the following definition:

The fact that an associate in pastoral care can never be an ordained minister in her church is likewise immaterial. The ministerial exception to Title VII . . . does not depend upon ordination but upon the function of the position. As a general rule, if the employee’s primary duties consist of teaching, spreading the faith, church governance, supervision of a religious order, or supervision or participation in religious ritual and worship, he or she should be considered clergy.

It is likely that the Rayburn case will continue to be used in defining the term “minister” in employment discrimination cases brought by employees who do not satisfy the four factors enumerated by the Supreme Court in the Hosanna-Tabor case.

Key point. Churches can increase the likelihood that the ministerial exception applies to a staff member through judicious drafting of his or her job description, taking special care to incorporate the Supreme Court’s four-factor test and the definition of “minister” in the Rayburn case (see above).

3. Significance of being ordained, commissioned, or licensed

The Supreme Court noted that the plaintiff’s status as a commissioned minister did not, by itself, “automatically ensure coverage” under the ministerial exception, but the Court concluded that “the fact that an employee has been ordained or commissioned as a minister is surely relevant, as is the fact that significant religious training and a recognized religious mission underlie the description of the employee’s position.”

4. Time spent performing religious duties

Another important aspect of the Court’s ruling in the Hosanna-Tabor case was its conclusion that a finding of ministerial status cannot be based solely on the amount of time a person spends on religious functions. In rejecting a lower court’s conclusion that the ministerial exception did not apply because of the limited time that the teacher devoted to religious tasks, the Court observed:

The issue before us, however, is not one that can be resolved by a stopwatch. The amount of time an employee spends on particular activities is relevant in assessing that employee’s status, but that factor cannot be considered in isolation, without regard to the nature of the religious functions performed.

The Court acknowledged that the teacher’s religious duties “consumed only 45 minutes of each workday, and that the rest of her day was devoted to teaching secular subjects.” However, the Court noted that it was unsure whether any church employees devoted all their time to religious tasks:

The heads of congregations themselves often have a mix of duties, including secular ones such as helping to manage the congregation’s finances, supervising purely secular personnel, and overseeing the upkeep of facilities.

Additional Reading

For more on ministerial exception, see the following:

Go to the next article, “Housing Allowances,” or return to “15 Things Richard Hammar Wants Pastors to Know,” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Housing Allowances

Understand how to properly set this significant pastoral benefit.

Richard R. Hammar, Attorney, CPA
Bio

The housing allowance is the most important tax benefit available to ministers. But many ministers do not take full advantage of it because they (or their tax adviser or church board) are not familiar with the rules.

The three most commonly used housing arrangements for ministers are (1) owning a home, (2) renting a home or apartment, and (3) living in a church-provided parsonage. The tax code provides a significant benefit to each housing arrangement. The rules are summarized below.

Housing allowance: minister owns the home

Ministers who own their home do not pay federal income taxes on the amount of their compensation that their employing church designates in advance as a housing allowance, to the extent that the allowance represents compensation for ministerial services, is used to pay housing expenses, and does not exceed the fair rental value of the home (furnished, plus utilities). Housing-related expenses include mortgage payments, utilities, repairs, furnishings, insurance, property taxes, additions, and maintenance.

Housing allowance: minister rents the home

Ministers who rent a home or apartment do not pay federal income taxes on the amount of their compensation that their employing church designates in advance as a housing allowance, to the extent that the allowance represents compensation for ministerial services and is used to pay rental expenses and does not exceed the fair rental value of the home (furnished, plus utilities).

Parsonages

Ministers who live in a church-owned parsonage that is provided rent-free as compensation for ministerial services do not include the annual fair rental value of the parsonage as income in computing their federal income taxes. The annual fair rental value is not deducted from the minister’s income. Rather, it is not reported as additional income anywhere on Form 1040 (as it generally would be by most non-clergy workers).

In addition, ministers who live in a church-provided parsonage do not pay federal income taxes on the amount of their compensation that their employing church designates in advance as a parsonage allowance, to the extent that the allowance represents compensation for ministerial services and is used to pay parsonage-related expenses such as utilities, repairs, and furnishings.

How to set parsonage and housing allowances

Parsonage and housing allowances should be (1) adopted by the church board or congregation, (2) in writing, and (3) in advance of the calendar year. However, churches that fail to designate an allowance in advance of a calendar year should do so as soon as possible in the new year (though the allowance will only operate prospectively). In designating housing allowances, churches should keep in mind that the nontaxable portion of a housing allowance cannot exceed the fair rental value of a minister’s home (furnished, plus utilities). Therefore, nothing will be accomplished by designating allowances significantly above this limit.

Using “safety nets”

Many churches do not limit housing allowances to a particular cal­endar year. For example, if a church intends to designate $12,000 of its senior pastor’s salary in 2021 as a housing allowance, its designa­tion could state that the allowance is effective for calendar year 2021 and all future years unless otherwise provided. This clause may provide a “safety net,” protecting the pastor in the event that the board neglects to designate an allow­ance prior to the beginning of a future year.

A church also would be wise to have a “safety net” designation to cover midyear changes in personnel, delayed designations, and other unexpected contingencies. To illustrate, such a designation could simply state that a specified percentage (e.g., 40 percent) of the compensation of all ministers on staff, regardless of when hired, is designated as a housing allowance for the current year and all future years unless otherwise specifically provided.

Such safety net designations should not be used as a substitute for annual housing allowance designations for each minister. They are simply a means of protecting ministers against inadvertent failures by the church board to designate a timely housing allowance.

Key details

Here is a recap of some important details, along with some helpful additional information ministers should know about the housing allowance:
  • A housing allowance must be designated in advance. Retroactive designations of housing allowances are not effective.
  • The housing allowance designated by the church is not necessarily nontaxable. It is nontaxable (for income taxes) only to the extent that it is used to pay for housing expenses, and, for ministers who own or rent their home, does not exceed the fair rental value of their home (furnished, plus utilities).
  • A housing allowance can be amended during the year if a minister’s housing expenses are more than expected. However, an amendment is only effective prospectively. Ministers should notify their church if their actual housing expenses are significantly more than the housing allowance designated by their church. But note that it serves no purpose to designate a housing allowance greater than the fair rental value of a minister’s home (furnished, plus utilities).
  • If the housing allowance designated by the church exceeds housing expenses or the fair rental value of a minister’s home, the excess housing allowance should be reported on line 1 of Form 1040.
  • The housing allowance exclusion is an exclusion for federal income taxes only. Ministers must add the housing allowance as income in reporting self-employment taxes on Schedule SE (unless they are exempt from self-employment taxes).
  • The fair rental value of a church-owned home provided to a minister as compensation for ministerial services is not subject to federal income tax.
  • Ministers should be sure that the designation of a housing or parsonage allowance for the next year is on the agenda of the church board for one of its final meetings during the current year. The designation should be an official action, and it should be duly recorded in the minutes of the meeting. The IRS also recognizes designations included in employment contracts and budget line items—assuming in each case that the designation was duly adopted in advance by the church.
  • Many churches base the housing allowance on their minister’s estimate of actual housing expenses for the new year. The church provides the minister with a form on which anticipated housing expenses for the new year are reported. For ministers who own their homes, the form asks for projected expenses in the following categories: down payment; mortgage payments; property taxes; property insurance; utilities, furnishings, and appliances; repairs and improvements; maintenance; and miscellaneous. Many churches designate an allowance in excess of the anticipated expenses itemized by the minister. Basing the allowance solely on a minister’s anticipated expenses penalizes the minister if actual housing expenses turn out to be higher than expected. In other words, the allowance should take into account unexpected housing costs or underestimated projections of expenses.
  • Ministers who own their homes lose the largest component of their housing allowance exclusion when they pay off their home mortgage. Many ministers in this position have obtained home equity loans—or a conventional loan secured by a mortgage on their otherwise debt-free home—and have claimed their payments under these kinds of loans as a housing expense in computing their housing allowance exclusion. The Tax Court has ruled that this is permissible only if the loan was obtained for housing-related expenses.

Editor’s note. In 2019 a federal appeals court upheld the minsters’ housing allowance. Additional attacks may occur, so church leaders should monitor developments on ChurchLawAndTax.com.

Additional reading

For more on housing allowances, see the following:

Go to the next article, “Exemption from Self-Employment Taxes” or return to “15 Things Richard Hammar Wants Pastors to Know” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Exemption from Self-Employment Taxes

Learn what this exemption includes and why few ministers qualify for it.

Richard R. Hammar, Attorney, CPA
Bio

While most ministers are employees for federal income tax reporting purposes, the tax code treats them as self-employed for Social Security and Medicare with respect to services they perform in the exercise of their ministry. This means that ministers are not subject to the employee’s share of Social Security and Medicare taxes (i.e., the FICA taxes, of which employers pay 7.65 percent and employees pay 7.65 percent), even though they report their income taxes as employees and receive a Form W-2 from their church.

Rather, ministers pay the self-employment tax (SECA) of 15.3 percent. As CPA Elaine Sommerville notes in Chapter 6 of Church Compensation, Second Edition, “many churches voluntarily increase a minister’s compensation package by the 7.65 percent the church would pay in FICA/Medicare taxes for a non-minister employee. Often referred to as the SECA Allowance, the amount is a part of a minister’s taxable compensation package.”

Ministers who work after they retire must continue to pay SECA on their ministerial income and wages—unless they exempted themselves from self-employment tax as a minister and they are employed in a ministerial capacity.

Requirements for a SECA exemption

If ministers meet several requirements, they may exempt themselves from self-employment taxes with respect to their ministerial earnings. Among other things, the exemption application (Form 4361) must be submitted to the IRS within a limited time period. The deadline is the due date of the federal tax return for the second year in which a minister has net earnings from self-employment of $400 or more, any part of which comes from ministerial services.
Before exempting a minister from Social Security, leaders should first address six questions, writes CPA and senior editorial advisor Elaine Sommerville.

Further, the exemption is available only to ministers who are opposed on the basis of religious considerations to the acceptance of benefits under the Social Security program (or any other public insurance system that provides retirement or medical benefits).

A minister who files the exemption application may still purchase life insurance or participate in retirement programs administered by nongovernmental institutions (such as a life insurance company). Additionally, the exemption does not require a minister to revoke all rights to Social Security benefits earned through participation in the system through secular employment.

A minister’s opposition must be to accepting benefits under Social Security (or any other public insurance program) which are related to services performed as a minister. Any other nonreligious considerations are not a valid basis for the exemption, nor is opposition to paying the self-employment tax.

Economic reasons are also not acceptable. In 1970, the IRS ruled that ministers who exempt themselves from self-employment taxes solely on the basis of economic considerations are not legally exempt. Revenue Ruling 70-197. The IRS concluded:

The taxpayer filed the Form 4361 solely for economic considerations and not because he was conscientiously opposed to, or because of religious principles opposed to, the acceptance of any public insurance of the type described on the form. Accordingly . . . the taxpayer did not qualify for the exemption since the Form 4361 filed solely for economic reasons is a nullity.

Exemption effective upon approval by IRS

The exemption is only effective when it is approved by the IRS. Few ministers qualify for the exemption. Many younger ministers opt out of the self-employment tax without realizing that they do not qualify for the exemption.

In general, a decision to opt out of self-employment tax is irrevocable. Congress did provide ministers with a brief “window” of time to revoke an exemption by filing Form 2031 with the IRS. This opportunity expired in 2002 and has not been renewed. The IRS also provides guidance for a minister who opted out for reasons solely based on economic considerations. The process for seeking such a revocation requires extensive documentation. More details are provided in chapter 9 of the annual Church & Clergy Tax Guide.

Exemption only applicable for compensation for ministerial services

An exemption from self-employment taxes applies only to compensation for ministerial services. Ministers who have exempted themselves from self-employment taxes must pay Social Security taxes on any non-ministerial compensation they receive. They remain eligible for Social Security benefits based on their non-ministerial employment assuming that they have worked enough quarters. Generally, 40 quarters are required.

Also, the Social Security Administration has informed me that ministers who exempt themselves from self-employment taxes may qualify for Social Security benefits (including retirement and Medicare) on the basis of their spouse’s coverage, if the spouse had enough credits. However, the amount of these benefits will be reduced by the so-called “windfall elimination provision.” Contact a Social Security Administration office for details.

The amount of earnings required for a quarter of coverage in 2022 is $1,510. A quarter of coverage is the basic unit for determining whether a worker is insured under the Social Security program.

Additional reading

For more on the exemption from self-employment taxes, see the following:

Go to the next article, “Taxable Income,” or return to “15 Things Richard Hammar Wants Pastors to Know,” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Taxable Income

Correctly report tax liability with this helpful reference guide.

Richard R. Hammar, Attorney, CPA
Bio

Key Point: Many churches do not understand that most benefits constitute taxable income.

If a benefit is taxable and is not reported as taxable compensation by the church or the recipient in the year it is provided, the IRS may be able to assess intermediate sanctions in the form of substantial excise tax against the “disqualified persons” (generally, an officer, director, or relative of such a person) regardless of the amount of the benefit.

For this reason, ministers should be familiar with the components of taxable income to insure that they are correctly reporting their tax liability. Some examples of items that often constitute taxable income but are often overlooked include:

Additional reading

Many of the items above are linked for further explanation about taxable benefits. For more information and examples of taxable benefits, see these two resources:

Go to the next article, “Public Accommodation Laws,” or return to “15 Things Richard Hammar Wants Pastors to Know,” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Public Accommodations Laws

Understand how discrimination laws affect which outside groups can use church facilities.

Richard R. Hammar, Attorney, CPA
Bio

Article Last Reviewed: July 12, 2023

A place of public accommodation is broadly defined as a place that offers the public some sort of goods and/or services.

Most states and many cities have enacted laws prohibiting various forms of discrimination by places of public accommodation.

According to the National Conference of State Legislators, “18 jurisdictions prohibit discrimination based on marital status, 25 prohibit discrimination based on sexual orientation, [and] 24 prohibit discrimination based on gender identity.”

Some state laws exempt religious organizations, but others contain no explicit exemption.

This raises questions for some churches and pastors.

Can churches or clergy be penalized under a state or local public accommodations law for sermons and other teachings that reject, on doctrinal grounds, same-sex marriages or gender identity different from one’s gender at birth?

Several decisions of the United States Supreme Court strongly suggest that the First Amendment guaranty of religious freedom permits clergy to perform or not perform marriages consistent with their religious beliefs.

One example includes a unanimous 2012 decision recognizing a church’s right to hire and fire ministers for any reason (the “ministerial exception”), including for matters related to doctrine and theology. Hosanna-Tabor Evangelical Lutheran Church and School v. EEOC, 565 U. S. 171 (2012). The ministerial exception, which is rooted in the First Amendment’s religion clauses, prevents the civil courts from resolving employment discrimination disputes between churches and clergy.

This will protect the decisions of churches and religious denominations regarding the selection, ordination, and discipline of clergy on the basis of sexual orientation or any other condition or status. And it supports the exclusive autonomy of churches to resolve issues of discipline and doctrine which, at least indirectly, protects decisions by clergy regarding who they will, or will not, marry.

Another example is 303 Creative v. Elenis (600 U.S. ____ (2023), a 6-3 decision that recognizes speech-related protections afforded to businesses under the First Amendment. The case demonstrates the constitutional defenses potentially available if a court or state agency sanctions a business, church, or minister under a public accommodations law for activities deemed to be speech. In 303 Creative, the Court’s majority found Colorado used its public accommodations law in a manner that compelled a business owner to create speech she disagreed with based on her religious beliefs.

The Court noted: “(N)o public accommodations law is immune from the demands of the Constitution . . . and when a state public accommodations law and the Constitution collide, there can be no question which must prevail.”

Lastly, it is also worth noting that, in the country’s nearly 250-year history, no minister has ever been sued, much less found liable, for refusing to perform a wedding for other reasons, such as ones resulting in bigamy, polygamy, or incest, or ones in which one or both spouses were previously married and divorced. A minister’s refusal to marry a same-sex couple in contravention of his or her religious beliefs should be viewed in the same light.

Is the church a “place of public accommodation” under applicable local, state, or federal laws, and thus subject to penalties for violating them?

There are three possibilities for answering this question:
  • The law excludes churches from the definition of a “place of public accommodation.”
  • Churches are excluded from the definition of a “place of public accommodation” but only if certain conditions are met. For example, a church does not rent its property to the public for weddings and other events.
  • Churches are included in the definition of a place of public accommodation even if they do not rent their property to the public or engage in any other commercial activity. To illustrate, four churches challenged a 2016 Massachusetts law that was construed by the state attorney general to include “houses of worship” within the definition of a place of public accommodation regardless of rental or other commercial activity. The state attorney general later announced that “while religious facilities may qualify as places of public accommodation if they host a public, secular function, an unqualified reference to ‘houses of worship’” was inappropriate.

Whether churches are deemed to be places of public accommodation under state or local law will depend on the language of the applicable public accommodations law. What follows are summaries of most of the court cases, listed in chronological order, which have addressed this question. Note that quotations without attributions are statements made by the court.

Traggis v. St. Barbara’s Greek Orthodox Church, 851 F.2d 584 (2d Cir. 1988)

A church had not violated a Connecticut law banning several kinds of discrimination in places of public accommodation because a church is not a place of public accommodation.

Roman Catholic Archdiocese v. Commonwealth of Pennsylvania, 548 A.2d 328 (Penn. 1988)

Parochial schools run by a Catholic church are not places of public accommodation under Pennsylvania law.

Presbytery of New Jersey v. Florio, 40 F.3d 1454 (3rd Cir. 1994) aff’d 99 F.3d 101 (1996)

In dismissing a church’s request for an injunction barring the state from applying against churches a public accommodations law banning discrimination based on sexual orientation, the court relied in part on the following assurance provided by a state civil rights agency:

It has been the consistent construction and interpretation of the [law] that, consonant with constitutional legal barriers respecting legitimate belief and free exercise protected by the First Amendment, the state was not authorized to regulate or control religious worship, beliefs, governance, practice or liturgical norms, even where ostensibly at odds with any of the law’s prohibited categories of discrimination.

Wazeerud–Din v. Goodwill Home & Missions, Inc., 737 A.2d 683 (1999)

A church’s addiction program was not a place of public accommodation under New Jersey law; the group was essentially religious in nature in that it devoted time to the study of Christian tenets and “a religious institution’s solicitation of participation in its religious activities is generally limited to persons who are adherents of the faith or at least receptive to its beliefs.”

Donaldson v. Farrakhan, 762 N.E.2d 835 (Mass. 2002)

The Massachusetts Supreme Judicial Court considered whether a public accommodation law applied to a religiously affiliated event that was not open to women. The event in question was a speaking event promoted, organized, and funded by a mosque, and presented by minister Louis Farrakhan at a city-owned theater, to address drugs, crime, and violence in the community. The court found that the event was not a “public, secular function” of the mosque.

The court also found that application of the public accommodation law to require the admission of women to the event “would be in direct contravention of the religious practice of the mosque” because it would impair the “expression of religious viewpoints” of the mosque with respect to the “separation of the sexes” and the role of men in the community. The court thus further held that the “forced inclusion of women in the mosque’s religious men’s meeting by application of the public accommodation statute” would “significantly burden” the mosque’s First Amendment rights of expression and association.

Sailant v. City of Greenwood, 2003 WL 24032987 (S.D. Ind. 2003)

“The church is not a place of public accommodation.”

Vargas–Santana v. Boy Scouts of America, 2007 WL 995002 (D.P.R. 2007)

“As a matter of law, a church is not a place of public accommodation.”

Abington Friends School, 207 WL 1489498 (E.D. Pa. 2007)

This case involved the interpretation of the exemption of religious organizations from the public accommodations discrimination provisions in the Americans with Disabilities Act (ADA). The court quoted from the ADA regulations:

Although a religious organization or a religious entity that is controlled by a religious organization has no obligations under the rule, a public accommodation that is not itself a religious organization, but that operates a place of public accommodation in leased space on the property of a religious entity, which is not a place of worship, is subject to the rule’s requirements if it is not under control of a religious organization. When a church rents meeting space, which is not a place of worship, to a local community group or to a private, independent day care center, the ADA applies to the activities of the local community group and day care center if a lease exists and consideration is paid. 28 C.F.R. Pt. 36, App. B (2007).

Sloan v. Community Christian School, 2015 WL 10437824 (M.D. Tenn. 2015)

This case addressed the definition of “a place of public accommodation” under Title III of the ADA rather than a state or local public accommodations law. Nevertheless, its discussion of this key term provides some clarification, even if by inference. It suggests that churches that operate “a day care center, a nursing home, a private school, or a diocesan school system,” may be places of public accommodation subject to the nondiscrimination provisions of a local or state public accommodations law.

Barker v. Our Lady of Mount Carmel School, 2016 WL 4571388 (D.N.J. 2016)

“Although churches, seminaries and religious programs are not expressly excluded from the definition of ‘place of public accommodation,’ the legislature clearly did not intend to subject such facilities and activities to the [public accommodations law]. Thus, the claims against these institutional defendants fail as a matter of law.”

Fort Des Moines Church v. Jackson, 2016 WL 6089642 (S.D. Iowa 2016)

A federal district court in Iowa refused to issue an injunction preventing state and local public accommodation laws from being enforced against a church, since there was no injury to be redressed. The court referenced an exception in the law for churches, and an affidavit from the state and city defendants that they had never applied the law to churches. But the court cautioned that a church that “engages in non-religious activities which are open to the public” would not be exempt, and it cited for example “an independent day care or polling place located on the premises of the place of worship.”

Hitching Post Weddings v. City of Coeur d’Alene, 172 F.Supp.3d 1118 (D. Idaho 2016)

A federal district court in Idaho ruled that the ordained ministers who ran a wedding chapel lacked “standing” to challenge the constitutionality of a municipal public accommodations law that they believed violated their constitutional rights of speech and the free exercise of religion because of their apprehension that they would be punished for refusing to perform same-sex marriages.

The court concluded that the religious organization lacked standing to litigate its claims since its concerns over future punishment for violating the ordinance was not a sufficient injury to satisfy the standing requirement. The court noted that no religious organization had ever been prosecuted for violating the ordinance, and that the city attorney had informed the wedding chapel that it would not be prosecuted.

Fulton v. City of Philadelphia, 141 S. Ct. 1868 (2021)

The US Supreme Court ruled that a church foster care agency was not a place of public accommodation. This meant the agency was not subject to the nondiscrimination provisions of the Pennsylvania public accommodations law banning discrimination based on sexual orientation or gender identity.

303 Creative LLC v. Elenis, 600 U.S. ___ (2023)

The US Supreme Court ruled that “no public accommodations law is immune from the demands of the Constitution . . . and when a state public accommodations law and the Constitution collide, there can be no question which must prevail.”

What forms of discrimination are prohibited by places of public accommodation?

The forms of discrimination forbidden by public accommodations laws vary from jurisdiction to jurisdiction. And they are often amended, so it is important for church leaders to be familiar with the current text of applicable public accommodation laws.

Can a church ever assert the First Amendment’s religion and/or speech clauses as defenses against penalties enforced against it through a state or local public accommodation law?

Yes. Several courts and administrative agencies have said that there are constitutional limits on the authority of government agencies to enforce the nondiscrimination provisions of public accommodation laws against churches. Heading the list is the US Supreme Court’s ruling in 303 Creative.

To illustrate, a federal district court in Iowa ruled that a church’s fear of being sued for violating a public accommodations law as a result of sermons on biblical sexual morality was too fanciful to give the church “standing” to pursue its claim in federal court. The court considered the church’s conduct to fall outside of the state statute. Fort Des Moines Church v. Jackson.

The court concluded:

Plaintiff alleges that it fears prosecution under the state and municipal discrimination bans if . . . its pastor delivers his sermon about biological sex and the Bible. However [this fear] is not objectively reasonable. All of the statutes, the ordinances, and the interpretations of the provisions appearing in the [state civil rights agency’s] guidance documents include an exemption for religious institutions when conducting religious activities. Although the definitive scope of this exemption is yet to be determined, the court concludes the delivery of a sermon by a pastor of a church is undoubtedly an act intended to serve “a bona fide religious purpose.” Indeed, it is a quintessential religious activity. See Fowler v. State of R.I., 345 U.S. 67 (1953) . . . [in which the Supreme Court ruled] that it is not within “the competence of courts under our constitutional scheme to approve, disapprove, classify, regulate, or in any manner control sermons delivered at religious meetings,” and “sermons are as much a part of a religious service as prayers.” Hence, plaintiff’s allegedly chilled course of conduct is not even arguably proscribed by the statute. Rather, it is expressly permitted. Accordingly, plaintiff’s fear of enforcement consequences if it delivers the sermon is not objectively reasonable because it does not face a credible threat of prosecution on that basis. . . . A plaintiff cannot show a threat of prosecution under a statute if it clearly fails to cover his conduct.

Similarly, in Presbytery of New Jersey v. Florio, a federal district court in New Jersey ruled that the New Jersey Law Against Discrimination (NJLAD), which prohibits discrimination on various grounds including gender identity and sexual orientation in any “place of public accommodation,” did not apply to a church. The court relied on an affidavit submitted by the director of the state division of civil rights (the “Stewart affidavit”) setting forth the position of the division and state attorney general regarding enforcement of the nondiscrimination provisions in the state public accommodations law against religious institutions. The Stewart affidavit affirmed that the state did not consider churches places of “public accommodations,” and so the sections relating to public accommodations were “inapplicable to the church plaintiffs.”

The Stewart affidavit also made the following general statement:

It has been the consistent construction and interpretation of the [law] that, consonant with constitutional legal barriers respecting legitimate belief and free exercise protected by the First Amendment, the state was not authorized to regulate or control religious worship, beliefs, governance, practice or liturgical norms, even where ostensibly at odds with any of the law’s prohibited categories of discrimination. . . .

Moreover, the division has not and has no intention to engage in any determination or judgment as to what is or is not a “religious activity” of a church, or to determine what is or is not a “tenet” of religious faith. Within First Amendment limits, all of plaintiffs claimed religiously-based free exercises of faith are unthreatened by a reasoned construction of the NJLAD consistent with its meaning and long enforcement history.

Conclusions

While the definition of a “place of public accommodation” varies from jurisdiction to jurisdiction under laws prohibiting various forms of discrimination by places of public accommodation, the following two generalizations may be helpful.

First, it is likely that a church that does not invite or solicit the public to come onto its premises, whether to raise revenue or not, for events or activities unrelated to the core mission of the church will not be deemed a place of public accommodation and therefore will not be subject to the nondiscrimination provisions in a state or local public accommodations law. This is a generalization that likely will be true in many, perhaps most, cases, but not all.

Second, it is likely that a church that invites the general public onto its premises for purposes unrelated to worship or other activities in furtherance of the church’s religious purposes, will be deemed a place of public accommodation, especially if the primary purpose in doing so is raising revenue.

Key point. The court in the Iowa case referenced above cautioned that its conclusion that the church was not a place of public accommodation might have been different had the church “allowed the use of its facility as commercially available space with no religious limitations placed on such use.”

The cases referenced in this article are no guaranty that a court or state agency will elevate constitutional protections over the nondiscrimination provisions in a public accommodations law.

But after the Supreme Court’s 2023 decision in 303 Creative, the possibility of such an elevation is much greater.

Each of these cases certainly can be cited by churches—whether on First Amendment speech grounds, First Amendment free exercise of religion or non-establishment of religion grounds, or all of the above—in response to attempts by government regulators to apply such laws to them.

Learn more: Dig in to public accommodations laws, including ones affecting your church, through Church Law & Tax’s 50-State Public Accommodations Laws Report, a downloadable resource.

Prior to such a situation, though, church leaders should review the following seven questions, preferably in consultation with qualified legal counsel. Doing so will help identify potential legal liabilities posed by public accommodations laws, and possible ways to minimize those liabilities:
  1. Is there a public accommodations law in my city or state?
  2. If so, what types of discrimination does it prohibit?
  3. Does the law provide an exemption for churches?
  4. If the law provides an exemption for churches, are there any conditions that must be satisfied?
  1. If the law does not contain an explicit exemption for churches, what is the official position of the civil rights agency tasked with enforcement of the law? Does the agency take the position that churches are exempt? And if so, do any conditions apply? For example, does the exemption apply to churches that rent their property to raise revenue?
  2. If a state or local civil rights agency tasked with enforcement of a public accommodations law claims that it applies to churches that are engaged in commercial or other activities unrelated to exempt religious purposes, does church coverage only apply during the use of church property for the unrelated purpose, or more broadly to include all uses of church property?
  3. Does a church’s constitutional rights of religion and speech take priority over a public accommodations law?

Additional Reading

For more about this issue, see the follow:

Go to the next article, “Excess Benefit Transactions” or return to “15 Things Richard Hammar Wants Pastors to Know,” to choose an article of interest or that fits a particular need.

Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Excess Benefit Transactions

Learn what common practices may expose senior pastors to substantial excise tax.

Richard R. Hammar, Attorney, CPA
Bio

 

The Internal Revenue Service defines excess benefit transaction as one in which “an economic benefit is provided by an applicable tax-exempt organization, directly or indirectly, to or for the use of a disqualified person, and the value of the economic benefit provided by the organization exceeds the value of the consideration received by the organization.”

This is an important concept for religious non-profits, churches, church leaders, and pastors, because excess benefit transactions come with sanctions that can extend even to board members.

Intermediate sanctions

If excessive compensation is paid to a “disqualified person,” Section 4958 of the tax code authorizes the Internal Revenue Service (IRS) to impose an excise tax—also called “intermediate sanctions”—against that disqualified person; and in some cases, against church board members individually. A disqualified person generally is any officer or director, or a relative of an officer or director. Most senior pastors will meet the definition of a disqualified person.

These taxes are substantial: up to 225 percent of the amount of compensation the IRS determines to be in excess of reasonable compensation. As a result, governing boards or other bodies that determine clergy compensation should be prepared to document any amount that may be viewed by the IRS as excessive. This includes salary, fringe benefits, and special-occasion gifts. If in doubt, obtain the opinion of a tax attorney.

Automatic excess benefits

In 2004, the IRS announced a new interpretation of section 4958. For the first time, the IRS asserted that some transactions will be considered “automatic” excess benefit transactions resulting in intermediate sanctions regardless of the amount involved. Even if the amount involved in a transaction is insignificant, it still may result in intermediate sanctions.

For example, a church’s payment or reimbursement of a pastor’s personal or business expenses under a nonaccountable arrangement, may constitute automatic excess benefits, regardless of the amount involved, unless they are reported as taxable income by the church on the pastor’s W-2, or by the pastor on Form 1040, for the year in which the benefits are provided.

This was an important development, since it exposed virtually every pastor and some nonministerial church employees to intermediate sanctions that had been reserved for a few highly paid charity CEOs. The term “excess,” in effect, has become irrelevant to the concept of excess benefits.

Check benefits carefully

In addition to a salary, churches often provide benefits to their employees. These benefits may include personal use of church property, payment of personal expenses, and reimbursement of business or personal expenses under a nonaccountable arrangement.

Pastors and church treasurers are often unaware that these benefits must be valued and reported as taxable income. This common practice may expose the pastor, and possibly church board members, to substantial excise taxes, since the IRS views these benefits as automatic excess benefits resulting in intermediate sanctions unless the benefit was reported as taxable income by the church or pastor in the year it was provided.

The lesson is clear: Sloppy church accounting practices can expose ministers, and in some cases church board members, to intermediate sanctions in the form of substantial excise taxes. It is essential for pastors and church treasurers to be familiar with the concept of automatic excess benefits so these penalties can be avoided.

Additional Reading

For more on excess benefit transactions and related topics, see the following:

Go to the next article, “Inspection of Church Records” or return to “15 Things Richard Hammar Wants Pastors to Know,” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Inspection of Church Records

Know when to say “yes” to a request to view confidential information.

Richard R. Hammar, Attorney, CPA
Bio

Pastors should know how to answer a person’s request to inspect church records. Generally, there is no inherent right to inspect church records. However, such a right can be granted in some legal document such as a church’s bylaws or state nonprofit corporation law.

Here four possible justifications for a right of inspection.

1. Nonprofit Corporation Law

Some state nonprofit corporation laws give members of an incorporated church the right to inspect corporate records for any proper purpose at any reasonable time. Other state nonprofit corporation laws give members broad authority to inspect corporate records, but specify that “the articles or bylaws of a religious corporation may limit or abolish the right of a member . . . to inspect and copy any corporate records.”

A right of inspection, however, generally applies only to members. Persons who are not members of a church generally have no right to demand inspection of church records under nonprofit corporation law.

2. Church Charter or Bylaws

A right of inspection may be given by the bylaws or charter of a church corporation or association.

3. State Securities Law

Churches that raise funds by issuing securities (i.e., bonds or promissory notes) may be required by state securities laws to allow investors—whether members or not—to inspect the financial statements of the church.

4. Subpoena

Members and nonmembers alike may compel the production (i.e., disclosure) or inspection of church records as part of a lawsuit against a church if the materials to be produced or inspected are relevant and not privileged. For example, Rule 34 of the Federal Rules of Civil Procedure, adopted by several states and used in all federal courts, specifies that any party to a lawsuit

may serve on any other party a request (1) to produce and permit the party making the request, or someone acting on his behalf, to inspect and copy, any designated documents . . . which are in the possession, custody or control of the party upon whom the request is served; or (2) to permit entry upon designated land or other property in the possession or control of the party upon whom the request is served for the purpose of inspection.

Similarly, Rule 45(b) of the Federal Rules of Civil Procedure states that a subpoena may command the person to whom it is directed “to produce the books, papers, documents, or tangible things designated therein. . . .”

Rule 45 also stipulates that a subpoena may be quashed or modified if it is “unreasonable and oppressive.” Federal, state, and local government agencies are also invested with extensive investigative powers, including the right to subpoena and inspect documents. However, this authority generally may not extend to privileged or irrelevant matters.

Since church records are not inherently privileged, they are not immune from production or inspection. Although most states consider confidential communications to be privileged when they are made to clergy acting in their professional capacity as a spiritual adviser, several courts have held that the privilege does not apply to church records.

Case Studies

The following summaries of court cases offer pertinent insights for this issue.
  • The Alabama Supreme Court ruled that a dismissed church member no longer had a legal right to inspect church records. Lott v. Eastern Shore Christian Center, 908 So.2d 922 (Ala. 2005). Accord Ex parte Board of Trustees, 2007 WL 1519867 (Ala. 2007).
  • A Colorado court ruled that a church member’s legal authority to inspect church records pursuant to state nonprofit corporation law ended when his membership was revoked by the church board. Levitt v. Calvary Temple, 2001 WL 423040 (Colo. App. 2001).
  • A Louisiana court ruled that an incorporated church had to allow members to inspect church records. Four members asked for permission to inspect the following records of their church: (1) bank statements; (2) the check register and cancelled checks for all the church’s bank accounts; (3) the cash receipts journal; and (4) monthly financial reports.The pastor denied the members’ request. The members then sought a court order compelling the church to permit them to inspect the records. The pastor insisted that such an order would interfere with “internal church governance” in violation of the First Amendment.A state appeals court ruled that allowing the members to inspect records, pursuant to state nonprofit corporation law, would not violate the First Amendment. The court quoted from an earlier Louisiana Supreme Court ruling:

A voting member of a nonprofit corporation has a right to examine the records of the corporation without stating reasons for his inspection. Since the judicial enforcement of this right does not entangle civil courts in questions of religious doctrine, polity, or practice, the First Amendment does not bar a suit to implement the statutory right. First Amendment values are plainly not jeopardized by a civil court’s enforcement of a voting member’s right to examine these records. No dispute arising in the course of this litigation requires the court to resolve an underlying controversy over religious doctrine.

Jefferson v. Franklin, 692 So.2d 602 (La. App. 1997). The court quoted from the Louisiana Supreme Court’s decision in Burgeois v. Landrum, 396 So.2d 1275 (La. 1981).

  • A New York court ruled that a church member had the legal authority to inspect church records despite the pastor’s refusal to allow him to do so. The court acknowledged that only members had a legal right to inspect records, but it concluded that the member had not lost his status as a member of the church. It concluded:

The member is simply trying to enforce his secular rights as a member, using the church’s own criteria of membership and the pastor’s own admission that he has not been expelled as a member. Nor are the church’s First Amendment rights violated by the inspection of the records, as the questions involved here are not concerned with internal ecclesiastical or religious issues, but purely secular ones.

Watson v. The Manhattan Holy Bible Tabernacle, 732 N.Y.S.2d 405 (2001). Accord Smith v. Calvary Baptist Church, (N.Y.A.D. 2006).

  • The Texas Supreme Court ruled that a state nonprofit corporation law that granted a limited right to inspect corporate records did not mandate the disclosure of donor records. The Texas Nonprofit Corporation Act specifies that nonprofit corporations “shall maintain current true and accurate financial records with full and correct entries made with respect to all financial transactions of the corporation.” It further specifies that “all records, books, and annual reports of the financial activity of the corporation shall be kept at the registered office or principal office of the corporation . . . and shall be available to the public for inspection and copying there during normal business hours.”Based on these provisions, a group of persons demanded that a charity turn over documents revealing the identities of all donors and the amounts of donors’ annual contributions. The charity resisted this request, claiming that the inspection right provided under the nonprofit corporation law did not refer to inspection or disclosure of donor lists, and that even if it did, such a provision would violate the First Amendment freedom of association.The state supreme court ruled that the right of inspection did not extend to donor lists. It noted that “the statute does not expressly require that contributors’ identities be made available to the public.” And, it found that the intent of the legislature in enacting the inspection right “was not to force nonprofit corporations to identify the exact sources of their income; rather, it was to expose the nature of the expenditures of that money once received from the public and to make nonprofit organizations accountable to their contributors for those expenditures.” As a result, the statute “can be upheld as constitutional when interpreted as not requiring disclosure of contributors’ names.” In re Bacala, 982 S.W.2d 371 (Tex. 1998).

Additional Reading

For more on inspection of church records, see the following:

Go to the next article, “Embezzlement Prevention,” or return to “15 Things Richard Hammar Wants Pastors to Know” to choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.

Embezzlement Prevention

Implement an effective system of internal control.

Richard R. Hammar, Attorney, CPA
Bio

As hard as it may be to believe, embezzlement is an all-too-common occurrence in churches. The risk of embezzlement can be substantially reduced by adopting a strong system of internal control. Internal control is an accounting term that refers to policies and procedures adopted by churches to safeguard its assets and promote the accuracy of its financial records.

What policies and procedures has your church adopted to ensure that cash receipts are properly recorded and deposited? What policies and procedures has your church enacted to ensure only those cash disbursements that are properly authorized are made? These are the kinds of questions that are addressed by a church’s system of internal control.

Key point. The most important point to emphasize when it comes to internal control is “division of responsibilities.” The more that tasks and responsibilities are shared or divided, the lower the risk of embezzlement.

Key point. Many churches refuse to implement basic principles of internal control out of a fear of “offending” persons who may feel that they are being suspected of misconduct. The issue here is not one of hurt feelings, but accountability. The church, more than any other institution in society, should set the standard for financial accountability. After all, its programs and activities are rooted in religion, and it is funded with donations from persons who rightfully assume that their contributions are being used for religious purposes. The church has a high responsibility to promote financial accountability.

Church leaders can reduce the risk of embezzlement by reviewing common examples of poor internal controls, such as one person counts church offerings.

Additional reading

For more on internal controls and embezzlement, see the following:

Return to “15 Things Richard Hammar Wants Pastors to Know” to see the full list and choose an article of interest or that fits a particular need.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.
Image: Westend61 | Getty

Another Option for Tax Preparation: Enrolled Agents

They cost less and are certified by the IRS. But they still need to be vetted before hiring.

Matthew Branaugh, Attorney | Editor, Content and Business Development
Bio

Pastors and church leaders often ask accountants and attorneys to help prepare their taxes but may overlook another tax preparer worth considering: the enrolled agent (EA). The EA is the highest credential given by the Internal Revenue Service (IRS), and it is earned either by passing a comprehensive three-part test or based on the individual’s prior experience as an IRS employee.

“Elite status”

“Enrolled agents, like attorneys and certified public accountants (CPAs), have unlimited practice rights,” the IRS explains on its website. “This means they are unrestricted as to which taxpayers they can represent, what types of tax matters they can handle, and which IRS offices they can represent clients before.”

The agency describes the EA as “elite status,” and indicates high ethical standards must be followed, including at least 72 hours of continuing education requirements to be completed every three years.

The IRS’s EA test is challenging, and the ongoing continuing education requirement is substantial, says attorney and CPA Frank Sommerville, a Church Law & Tax senior editorial advisor who was an EA prior to earning his CPA license.

Lower fees and more experience in tax prep

“I personally know of enrolled agents to whom I would confidently refer ministers for tax prep,” says CPA Michael Batts, a senior editorial advisor for Church Law & Tax. “In reality, few tax attorneys actually prepare individual tax returns. Fees for EAs can also be less than those of a CPA.”

The lower rate for an EA becomes especially compelling, Sommerville notes, when considering that tax preparation is not part of the practice of law for attorneys and also the fact that there is a “very small percentage of CPAs who concentrate on tax, and an even smaller number who concentrate on tax return preparation.”

Experience is essential

The key criteria for selecting an EA, advisors say, mirrors the same one for choosing a tax attorney or CPA: experience.

“The focus needs to be their level of experience with ministers’ tax returns, whether it is an attorney, a CPA, or an EA,” says CPA Vonna Laue, another Church Law & Tax senior advisor. “EAs may be very knowledgeable about taxes, but this is a specialized area.”

Sommerville says, “I would not hesitate to recommend an EA if they prepared at least 50 minister returns per year and had practiced for 10 years or more—the same standard I have for CPA and attorney referrals.”

While EAs are not regulated by any state supreme courts (as attorneys are) or state boards of accountancy (as accountants are), or by any “self-regulating professional bodies” like both of those professions, the IRS oversight still lends credibility to EAs’ qualifications, says Ted Batson, a tax attorney and CPA with CapinCrouse who serves as a Church Law & Tax advisor-at-large. Their ability to represent clients before the IRS is especially useful, he says.

The screening steps Senior Editor Richard Hammar recommends for attorneys and CPAs should still be followed for EAs, though, Batson adds.

Hammar also believes an EA with proper experience can handle “routine tax returns.” But note that he still recommends hiring “a CPA or tax attorney for more complex tax questions requiring legal research.”
Matthew Branaugh is an attorney, and the content editor for Christianity Today's Church Law & Tax.
Image: nzphotonz | Getty

How Church-Run Coffee Shops, Bookstores, and Other Ventures Can Trigger Tax Liability

Seven articles to help you understand unrelated business income.

The Editors

What is unrelated business income tax, or UBIT for short? Should your church be concerned? It depends, and that’s why knowing the rules will help the leaders at your church make wise decisions.

“A church is permitted to conduct an insubstantial amount of unrelated business activity,” explains CPA Michael E. Batts. “However, if a church engages in a substantial amount of unrelated business activity, the church could lose its tax-exempt status under Section 501(c)(3) of the Internal Revenue Code,” he notes.

For several years, ChurchLawAndTax.com has followed both court decisions regarding UBIT, addressed subscriber questions, and offered expert guidance about what to consider when ministry becomes business. Learn more about UBIT with the articles listed below.

Advantage Member Exclusive

What’s the Best Giving App for Your Church?

A brief look at 14 different options available on the App Store and Google Play.

Matthew Branaugh, Attorney | Editor, Content and Business Development
Bio


Editor’s Note: This article is part of the Advantage Membership. Learn more on how to become an Advantage Member or upgrade your membership.

In early 2020, at least 14 giving apps vendors serving churches existed. Which one to choose? That’s for you and your church to decide, and these seven points should help.

“I don’t often make recommendations because I’m only an expert in the products we use,” notes Jonathan Smith, director of technology at Faith Ministries in Lafayette, Indiana. “I view software as function over fashion. Pick what works best based on your needs. Every church is different; what works well for me may not work well for you.”

Based on research conducted in Apple’s App Store and the Android-based Google Play, here are the 14 giving apps, listed in alphabetical order:

The Church App

This giving app is embedded as one feature among many; also connects to Church Management Software. | Ratings: 4.4 stars out of 5 stars on 38 ratings in the App Store; 4.1 stars out of 5 stars on 80 reviews in Google Play | Category: Lifestyle | Owner: Subsplash Inc.

EasyTithe/EasyTithe Giving

Ratings: 2.4 stars out of 5 stars on 30 ratings in the App Store; 3.6 stars out of 5 stars on 103 reviews in Google Play | Category: Finance | Owner: Matt Murph/EasyTithe

FellowshipOne Giving

Part of FellowshipOne Church Management Software. |
Ratings: 3 stars out of 5 stars on 3 reviews in the App Store; 5 stars out of 5 stars on 1 rating in Google PlayApp | Category: Finance | Owner: FellowshipOne (FO Newco, LLC)

The Giving App

Ratings: 5 stars out of 5 stars on 4 ratings in the App Store; no version found in Google Play | App Category: Finance | Owner: Giving Funds LLC

Givelify

Ratings: 4.9 stars out of 5 on 7,440 ratings in the App Store; 4.9 stars out of 5 on 4,000 reviews in Google Play | Category: Finance | Owner: CONTROL-Z LLC

Give+/GivePlus

Ratings: 3.3 stars out of 5 stars on 40 ratings in App Store; 3.4 stars out of 5 stars on 69 reviews in Google Play | Category: Finance | Owner: Vanco Payment Solutions

Givers App

Ratings: 3.5 stars out of 5 stars on 6 ratings in the App Store; 4.2 stars out of 5 on 5 ratings in Google Play | Category: Finance | Owner: Continue to Give, Inc.

Givi

Ratings: 5 stars out of 5 on 1 rating in the App Store; no version found in Google Play | Category: Lifestyle | Owner: Qgiv Inc.

My Well Giving

Ratings: 4.7 stars out of 5 stars on 10 ratings in the App Store; not rated in Google Play | Category: Finance | Owner: My Well Ministry

Pushpay
Parent company recently purchased Church Community Builder, a Church Management Software platform. | Ratings: 2.7 stars out of 5 stars on 96 ratings in App Store; 4.4 stars out of 5 stars on 553 reviews in Google Play | Category: Finance | Owner: Pushpay Limited

SecureGive/SecureGive Vision

Ratings: 3.2 stars out of 5 stars on 18 ratings in App Store; 3 stars out of 5 stars on 25 reviews in Google Play | Category: Finance | Owner: Automated Giving Solutions, LLC

ShelbyNEXT

Part of Shelby Systems, a Church Management Software platform. | Ratings: 3.1 stars out of 5 stars on 12 reviews in the App Store; 3.1 stars out of 5 stars on 15 reviews in Google Play | Category: Lifestyle | Owner: Shelby Systems, Inc.

SimpleGive

Ratings: 3.8 stars out of 5 on 4 ratings in the App Store; 3.4 stars out of 5 on 11 reviews in Google Play | Category: Finance (App Store); Lifestyle (Google Play) | Owner: SimpleGive

Tithe.ly

Links to the Tithe.ly Church App. | Ratings: 3.1 stars out of 5 stars on 58 ratings in the App Store; 4 stars out of 5 stars on 118 ratings in Google Play | Category: Finance | Owner: Your Giving, Inc.
Matthew Branaugh is an attorney, and the content editor for Christianity Today's Church Law & Tax.
Posted:

Advantage Member Exclusive

Seven Points to Consider Before Selecting a Mobile Giving App

Sorting the crowded field of options and wide array of features and functions.

Matthew Branaugh, Attorney | Editor, Content and Business Development
Bio


Editor’s Note: This article is part of the Advantage Membership. Learn more on how to become an Advantage Member or upgrade your membership.

In the years that have passed since Apple released its first iPhone, smartphones have become as ubiquitous to Americans as car keys—few people go anywhere, much less do anything, without them.

The rise in dominance by this mobile device has transformed the ways people communicate, connect, and collaborate, whether for work, recreation, dating, entertainment, philanthropy, or even worship. This transformation has even reshaped the smartphone itself: Initially fashioned in the spirit of the landline telephone and the cellphone, it now has evolved to the point where phone calls themselves are increasingly rare. Text messaging and software-based apps are the primary uses.

Consequently, the number of first-time phone app downloads worldwide continues to explode. And phone apps devoted to financial-related activities are among the fastest-growing categories in the industry, with consumers accessing them more than 1 trillion times in 2019—double the pace from just two years prior, according to data and analytics firm App Annie. Research firm eMarketer, another analytics company, estimates the average American adult spent just shy of three hours per day in 2019 using their smartphones—and 90 percent of that time was spent using apps.

Church leaders must take note. These trends have implications for reaching people in their congregations and surrounding communities. They also have ramifications about the way people interact with their churches, especially in the realm of financial giving. Sensing this latter point, at least 14 vendors have emerged to serve the church and nonprofit world, particularly with giving apps designed to help facilitate regular contributions. That’s been both a blessing and a curse, say church leaders and consultants serving churches.

“Everyone and their uncle—and their uncle’s equity fund—are getting into that business because they’re trying to grab a slice of the not-for-profit donation pie,” says church IT consultant Nick Nicholaou, an advisor-at-large for ChurchLawAndTax.com. “There’s just no way I’ve figured out to try to keep up with them, much less evaluate them. It’s akin to a wildfire.”

Nevertheless, with smartphone and app trends expanding as they are, leaders need to somehow still keep up—and do so without letting it become an all-consuming distraction.

“The short story for me is that churches need to do their homework, do their research, make informed decisions, implement them, and then get back to the business of winning people to the kingdom,” says Jonathan Smith, director of technology at Faith Ministries in Lafayette, Indiana. “Too many times software is a revolving door of endless decision-making for very little gain.”

Toward that end, we asked Smith, Nicholaou, and Lisa Traina, a partner at CapinCrouse’s CapinTech, to help us develop a framework that church leaders can use to assess mobile giving options.

This framework doesn’t tell leaders what they should choose—although a companion article provides names and basic information about the 14 giving apps that churches might consider if they decide a giving app makes sense. Rather, it offers a framework of seven points regarding how to choose.

Point #1: The mobile trend isn’t going away

Some leaders immediately embrace new technologies, while others take the wait-and-see approach, and still others lag behind. For those who typically lag, it’s time to stop: mobile is mainstream and isn’t going away.

Aside from the stats above about smartphone use and apps, it is also worth noting that 60 percent of all time spent on a device in the United States is through a smartphone, while only 30 percent occurs on desktop and laptop computers, and 10 percent on tablets, according to eMarketer.

“There is a younger generation that organizations have to appeal to—and that generation wants mobile,” Traina says. “The younger generations want to be able to give and support to the causes they care about easily. The challenge is that there are lots of organizations that have similar messages, goals, and so on, and the organizations that can provide ease will benefit.”

Vanco Payment Services, which offers the GivePlus giving app serving churches, similarly noted generational considerations in its “The Churchgoer Giving Study,” a November 2019 report based on survey responses from 1,000 people.

Not surprisingly, younger age groups were more enthusiastic about electronic giving in general. Among ages 24 to 34, 50 percent said they want electronic giving options, and 7 percent said they use giving apps. Among ages 35 to 44, 14 percent said they use giving apps. And 30 percent of those ages 45 to 54 said they preferred using credit or debit cards for making donations.

Point #2: There are numerous types of mobile giving options

Don’t assume a mobile giving app is your church’s only option.

“The trend is toward apps, but mobile websites are often effective,” Smith notes. His church doesn’t have a giving app, but its website is responsive to mobile devices “as is our giving portal, so the issue is not so much having an app as having a web presence that displays properly on a variety of devices and platforms.”

The focused attention on a website—rather than both on a website and an app—may better utilize resources, too. Apps require more frequent programming and security updates, whereas a mobile-friendly website will not, he adds, and while apps must be designed to work both on the iOS (Apple) and Android platforms, websites do not face that problem. And online giving offers many of the same primary perks that giving apps do: setups for recurring payments; behind-the-scenes tracking and reporting to help with administrative tasks and reporting functions; and faster abilities to generate contribution statements.

However, market research shows smartphone users don’t use mobile browser apps nearly as much as their other apps. Business of Apps, a data analytics company, said only 12 percent of a smartphone owner’s average daily use in 2019 involved a mobile browsing app. This underscores the need for church leaders to research their attenders’ phone use habits and preferences. If few congregants say they regularly use their phone’s browsing app, then that may be a sign a dedicated giving app is a better way to go.

Apps offer unique benefits, too. Some, including Subsplash Inc.’s The Church App, are comprehensive in nature, allowing congregants to find and register for events, receive church news, and watch recorded sermons—and also make their regular financial contributions.

Apps also can send push notifications, and some even incorporate abilities to accept mobile wallet payments set up on users’ phones.

Those features may be helpful, but Smith cautions church leaders to make certain those features are necessary for success. They may not always be.

Lastly, don’t overlook two other electronic-based options: Automated Clearing House (ACH), also known as “eCheck” for electronic payments and automated money transfers; and, text-based giving services, which congregants may like, given how commonplace texting has become. These can be used by churches, often at a lower cost, without needing an online giving or mobile giving app solution.

Point #3: Get a high-level view on giving apps

Do some initial, high-level research about the giving app options available to churches. For starters, figure out which payment methods each app processes. Credit and debit cards are staples, while some also can handle ACH/eCheck. Less clear is how vendors might incorporate cryptocurrencies, such as bitcoin, so ask.

Also verify whether certain basic functions come standard. Recurring payment setups for individual givers is one. Reporting functions is another.

Additionally, if your church uses church management software (ChMS), the provider may either already offer a companion giving app or it may partner with a vendor whose giving app is compatible. Such synchronization isn’t a necessity—different software solutions can work together well. But a unified approach can be effective because it automatically connects contributions made through the app with the back-end databases, reporting tools, and administrative work tasks the ChMS organizes and generates.

A unified approach “may simplify operations the most,” Nicholaou says.

If your church doesn’t have the ability to use a unified approach, or it prefers to bring solutions from different vendors together, then Traina recommends investigating a few additional pieces of information. Find out what types of application controls are available for church staff members to use, she says, and determine how integration will work, as well as the automating of different processes, and the report-generating mechanisms your church will need for financial reports and budgets. “These are key features that should be available to make things efficient while also giving you the ability to research or investigate transactions” in the event concerns about possible embezzlement or fraud arise, she adds.

Another early step is to identify which giving app options are available in both Apple’s App Store and the Android-based Google Play. Statista, a web research firm, says 52 percent of the US-market is Android-based, while 47 percent uses iOS. Most giving apps are available through both stores, but not all. Your church will not want to select one that is only available in one, but not the other.

One more initial step: read through the ratings and reviews of the apps on the respective stores. While wading through these may feel cumbersome, and separating fact from fiction isn’t always easy, these still offer a general vibe from the marketplace about the vendor and the app. Smith notes that app reviews sometimes are given by individuals who use an app the least, making their feedback less valuable. Adds Traina: “Apple has always had a really stringent process for getting in the App Store. The process is less stringent for Android-type apps.”

Point #4: Security is crucial

As your church begins to identify the short list of options, your attention should turn to security.

“If you have a breach because of a weak application, and donors’ information is compromised or you lose funds, you’re not just losing that existing money. Your donors could lose faith in you, affecting future giving,” Traina says.

When evaluating a giving app, she recommends the following:
  • Verify the app includes built-in encryption and other security measures;
  • Determine what types of access controls to the app are in place;
  • Confirm compliance with Payment Card Industry (PCI) security standards, especially if the church ends up storing, accessing, or transferring card data. (Adds Smith: Request both documentation showing how the vendor complies with PCI, plus documentation from an outside, independent security auditor affirming that compliance.); and
  • Ask the vendor whether it also has access to the collected donor data, and what steps it takes to secure its access to that data.

Point #5: Costs and contract terms

One of the more controversial topics in the giving app industry is pricing, and it represents one of the most important factors your church will need to address. Each vendor uses differing approaches, making it complex—and sometimes difficult—to compare competitors. With your church’s short-list of vendor options in hand, request pricing in writing so that you and your team can spend time privately reviewing and discussing how each app’s potential costs will add up.

The costs to anticipate often include some combination of the following:
  • One-time initial setup fee;
  • A plan fee (usually charged monthly); and/or
  • A percentage fee per transaction (usually ranging between 1.99 percent and 3.95 percent, with some also tacking on an extra 25 cents to 30 cents per transaction).

Some vendors also offer tiered pricing, either with the plan fees, transaction fees, or both, depending on the size of church or the volume of transactions the church processes.

“Run the numbers,” Smith says. “Ask [vendors] for a cost analysis, including all fees based on your current giving [activity].”

Be cautious, too, about vendors who say churches should encourage their donors to slightly increase their donation amounts to help cover transaction fees. Smith says he finds donors are reluctant to do this—and in his experience, when a donor finds out a high fee is associated with processing a contribution, the donor usually opts to use a lower-cost alternative, such as cash or check, even if it creates inconvenience.

Be sure to also ask about the type of contract involved, Traina notes. How long is the agreement for? What is considered a breach by either side? Does the church pay a penalty to terminate the deal before it ends? Is advanced notice required if the church doesn’t plan to renew? What types of warranties and customer service do the vendor include as a part of the arrangement, particularly when problems or glitches arise?

Point #6: Get references—and find out how well the vendor understands churches

Like any other major purchase, ask the vendor for references, preferably from other churches who use their app. Then make certain you contact those customers and ask, among other things, “what you don’t like and what the vendor can and should do better,” Smith says.

The majority of vendors are for-profit companies. Find out whether they share your church’s faith background, or at least can demonstrate a working knowledge of how things work within churches. “I believe you always want to work with someone who understands the church world and how we make our money,” Smith says. “Not everyone along the transaction fee chain is going to get that but I believe you want your primary service provider to understand who you are, what you do, and that there is a heart [behind] your mission that makes this all possible.”

Point #7: Mobile giving, including giving apps, is a tool—nothing more

Remember that your church likely offers a variety of ways to give. Cash and checks physically given at church, either through the passing of the offering plate or a box inside the sanctuary, remains the overwhelmingly single-biggest way people give. But a holistic approach involving multiple options likely will serve your church well. The 2019 National Study of Congregations’ Economic Practices, a survey of 1,231 congregations nationwide, found “a positive relationship between congregations that embrace innovative donation technologies and reported growth in both revenue and size.” Among those offering a smartphone app, the survey found, 60 percent said giving increased at their church.

Still, the survey emphasized that digital giving is but one tool among many. In other words, don’t get hung up on the idea that a mobile giving app should be your central focus. It should serve your church, not the other way around.

“Ignore promises [an app will] increase giving. Compare actual costs and evaluate them against your desired return on investment,” Smith says. “Giving solutions are tools that make it easier for folks to give money, but don’t desire to be hip and cool to the point where you don’t actually increase income versus passing the plate.”
Matthew Branaugh is an attorney, and the content editor for Christianity Today's Church Law & Tax.
Posted:

Important Notice for Churches Involved in Disaster Relief

Remind donors of special higher contribution deduction limits before they expire on February 18.

Michele Wales, CPA, and Sophie Brown

Churches and charities engaged in providing relief for victims of qualified disasters may wish to notify their donors now of special higher contribution deduction limits. This special provision in recently passed legislation expires on February 18, 2020.

Recent legislation provides additional tax relief to disaster victims

On December 20, 2019, President Trump signed into law H.R. 1865, the “Taxpayer Certainty and Disaster Tax Relief Act of 2019” (the Disaster Act), as part of an omnibus spending package, the “Further Consolidated Appropriations Act, 2020.” The Disaster Act provides additional federal tax relief to victims of “qualified disasters,” which were declared as major disasters during the period from January 1, 2018, through February 18, 2020 (except for the California wildfire disaster). For a list of qualified disasters that fall into this category, see the Federal Emergency Management Agency (FEMA) database.

Key provision suspends limitations for “qualified contributions”

A key provision of this legislation—described further below—includes a temporary suspension of the charitable contribution deduction limits for “qualified contributions” paid in cash during the period beginning on January 1, 2018, and ending on February 18, 2020, for relief efforts in one or more qualified disaster areas.

Generally, charitable contribution deductions by individuals and businesses are subject to certain percentage limitations based on the individual’s adjusted gross income or the business’s taxable income, depending on the type of property contributed and the type of organization receiving the donation. For example, cash charitable contributions by individuals to public charities are generally deductible up to 60 percent of adjusted gross income and contributions by corporations are generally limited to 10 percent of the company’s pretax income calculated before taking the deduction.

Under the Disaster Act, these percentage limitations are temporarily suspended for qualified contributions made to organizations of the types described below. For individuals, total charitable contributions can be deducted up to the taxpayer’s adjusted gross income. (Non-disaster-related contributions continue to be subject to the regular limits.) For corporations, total charitable contributions can be deducted up to the company’s taxable income calculated before taking the charitable deduction. (Non-disaster-related contributions continue to be subject to the regular limits.)

Additionally, qualified contributions that are made in the contribution year that exceed the taxpayer’s adjusted gross income, or the business’s taxable income, can be carried forward for five years.

How to qualify for special treatment

To qualify for this special treatment, contributions must be paid in cash (including checks and contributions made by credit card) during the period from January 1, 2018, through February 18, 2020, to a charitable organization (other than a supporting organization or a donor advised fund) for relief efforts in a qualified disaster area. Taxpayers also must obtain a contemporaneous written acknowledgment from the recipient organization indicating that the contribution was used (or will be used) for such relief efforts. Taxpayers must make an election on their applicable tax return to apply these relief provisions.

Adapted from a Nonprofit Special Alert originally published by Batts Morrison Wales & Lee (BMWL). Used with permission.

For help with written acknowledgments and other areas related to charitable contributions, see chapter 8 in Richard Hammar’s annual Church & Clergy Tax Guide.

15 Things Richard Hammar Wants Pastors to Know

Insights to help you successfully navigate the complexities of church administration.

Your training to serve as a pastor prepared you to write sermons and guide the spiritual life of a congregation. But what about the administrative side of ministry? Attorney and CPA Richard R. Hammar knows only too well that pastors struggle with budgeting, understanding housing allowances, or running a business meeting.

In his 30-plus years of working with churches, he’s discovered 15 areas that frequently trip up new, and seasoned, pastors. Below are short reads on each topic to give you an overview and then links to in-depth articles for greater insight.

Child Abuse Reporting

Learn what it means to be a mandatory reporter and state-by-state reporting requirements.

Richard R. Hammar

Incorporation

Learn the fundamentals of incorporating a church and how it affects church governance.

Richard R. Hammar

Taxable Income

Correctly report tax liability with this helpful reference guide.

Richard R. Hammar

Six Provisions from the SECURE Act Offer Greater Incentives to Save For Retirement

A detailed review of how these changes will benefit churches and staff.

Richard R. Hammar, Attorney, CPA
Bio

In the waning hours of 2019, Congress enacted the “Setting Every Community Up for Retirement Enhancement Act of 2019” (the SECURE Act). The Act included several previous legislative initiatives that had not been enacted, and generally incentivizes taxpayers to save for retirement.

Here are six provisions most relevant to churches and church staff:
  • increases to 72 the age after which required minimum distributions from certain retirement accounts must begin;
  • repeals the prohibition on contributions to a traditional Individual Retirement Account (IRA) by an individual who has reached age 70½;
  • allows penalty-free distributions from qualified retirement plans and IRAs for births and adoptions;
  • specifies those individuals who may be covered by pension plans maintained by church-controlled organizations;
  • expands “section 529” education savings accounts to cover costs associated with registered apprenticeships, student loan repayments, and certain costs associated with elementary and secondary education and homeschooling;
  • increases the penalty for failure to file to the lesser of $435 or 100 percent of the amount of the tax due.

Required minimum distributions

You cannot keep retirement funds in your account indefinitely. Under prior law, you generally had to start taking withdrawals (called required minimum distributions or RMDs) annually from all employer sponsored retirement plans (including 403(b) plans) starting with the year that you reached age 70½ or, if later, the year in which you retired (if allowed by your plan). The beginning date for your first RMD was December 31 of the year you turned age 70½, although you were allowed to delay your first RMD until April 1 of the following year. But doing so meant that you had two RMDs for that year, due on April 1 and December 31.

The RMD rules apply to all employer-sponsored retirement plans, including 403(b) plans and traditional IRAs and IRA-based plans such as SEPs, SARSEPs, and SIMPLE IRAs. Retirement plan participants and IRA owners are responsible for taking the correct amount of RMDs on time every year from their accounts. They face stiff penalties for failure to do so.

Key point. If you do not take any distributions, or if the distributions are not large enough, you may have to pay a 50 percent excise tax on the amount not distributed as required.

Generally, an RMD is calculated for each account by dividing the prior December 31 balance of that IRA or retirement plan account by a life expectancy factor that the IRS publishes in tables in Publication 590-B, Distributions from Individual Retirement Arrangements (IRAs). Choose the life expectancy table to use based on your situation.

Key point. When mandatory distributions from qualified retirement plans based on age were added to the tax code in 1962, the life expectancy of Americans was shorter. In addition, increasing numbers of Americans are continuing to work past traditional retirement ages. Based on these circumstances, Congress concluded that it is appropriate to increase the age by which RMDs must be made to more accurately reflect present-day conditions.

The SECURE Act changes the age on which the beginning date for RMDs is based, from the calendar year in which the employee or IRA owner attains 70½ years to the calendar year in which the employee or IRA owner attains 72 years. However, prior law continues to apply to employees and IRA owners who attain age 70½ prior to January 1, 2020.

This provision is effective for distributions required to be made after December 31, 2019, for employees and IRA owners who attain age 70½ after December 31, 2019. In all other respects, prior law treatment of RMDs is not affected.

Caution. The terms of your employer-sponsored retirement plan may allow employees to wait until the year they actually retire to take their first RMD. Alternatively, a plan may require employees to begin receiving distributions by April 1 of the year after they reach age 72 even if they have not retired. In some cases, employers will need to amend their plan to enable employees to benefit from the new rule.

Key point. What has not changed is the requirement to actuarially adjust accrued benefit for an employee who retires in a calendar year after the year the employee attains age 70½, to take into account the period after age 70½ in which the employee was not receiving any benefits under the plan.

After the first RMD, you must take subsequent RMDs by December 31 of each year beginning with the calendar year containing your required beginning date. The first year following the year you reach age 72 you will generally have two required distribution dates: an April 1 withdrawal (for the year you turn 72), and an additional withdrawal by December 31 (for the year following the year you turn 72). To avoid having both of these amounts included in your income for the same year, you can make your first withdrawal by December 31 of the year you turn 72 instead of waiting until April 1 of the following year.

To avoid having both of these amounts included in your income for the same year, you can make your first withdrawal by December 31 of the year you turn 72 instead of waiting until April 1 of the following year.

Example. Pastor John reaches age 72 on August 20, 2022. He must receive his first RMD by April 1, 2023, based on his 2022 year-end balance. He must receive his second required minimum distribution by December 31, 2023, based on his 2022 year-end balance. If Pastor John receives his initial RMD for 2022 on April 1, 2023, then both his 2022 and 2023 distributions will be included in income on his 2023 income tax return. To avoid this problem, Pastor John should receive his first RMD by December 31, 2022.

Note the following additional developments regarding RMDs:
  • One effect of increasing the age for an initial RMD is that the RMD calculation will be based on fewer years and more retirement assets meaning that RMDs will be slightly larger.
  • Increasing the initial RMD from April 1 of the year following the year in which you turn 70½ to the year following the year in which you turn 72 comports more with how we naturally reckon time.
  • Many retired workers depend on income from their employer-sponsored retirement plan (including 403(b) plans) for living expenses, and many will be exceeding their applicable RMD without legal compulsion.
  • The cable news network CNBC has estimated that under the new rules “a theoretical $500,000 portfolio, earning 5 percent annually, would have $33,500 more at age 89 if the RMDs started at age 72.”
  • An earlier version of the SECURE Act would have raised the initial RMD age to 75. This provision had substantial bipartisan support, but in the end was dropped.
  • Although the IRA custodian or retirement plan administrator may calculate the RMD, the IRA or retirement plan account owner is ultimately responsible for calculating the amount of the RMD.
  • The 50 percent penalty on undistributed amounts may be waived if the account owner establishes that the shortfall in distributions was due to reasonable error and that reasonable steps are being taken to remedy the shortfall. In order to qualify for this relief, you must file Form 5329 and attach a letter of explanation.
  • In the past, a modified required minimum distribution applied to IRA beneficiaries following the death of the IRA account holder. A 5-year rule required most IRA beneficiaries to withdraw 100 percent of the IRA by December 31 of the year containing the fifth anniversary of the owner’s death. For example, if the owner died in 2018, the beneficiary would have had to fully distribute the plan by December 31, 2023. The beneficiary was allowed, but not required, to take distributions prior to that date. The 5-year rule never applied if the owner died on or after his or her required beginning date. The SECURE Act extended this to a 10-year rule.

IRA contributions for persons who have reached age 70½

Under prior law, an individual who had attained age 70½ by the close of a year was not permitted to make contributions to a traditional IRA. This restriction did not apply to contributions to a Roth IRA. In addition, employees over age 70½ were not precluded from contributing to employer-sponsored plans.

The SECURE Act repeals the prohibition on contributions to a traditional IRA by an individual who has attained age 70½. This change was based on the reality that as Americans live longer, increasing numbers are continuing to work past traditional retirement ages. This provides such working individuals with current income, as well as the potential for additional retirement savings. An individual working past age 70½ may contribute to an employer-sponsored retirement plan, if available, or to a Roth IRA or to a traditional IRA.

This provision applies to contributions made for taxable years beginning after December 31, 2019.

Penalty-free distributions from qualified retirement plans and IRAs for births and adoptions

Under prior law, a distribution from a qualified retirement plan, a tax-sheltered annuity plan (a ‘section 403(b) plan), or an IRA generally is included in taxable income for the year distributed. These plans are referred to collectively as ‘‘eligible retirement plans.’’ In addition, unless an exception applies, a distribution from a qualified retirement plan, a section 403(b) plan, or an IRA received before age 59½ is subject to a 10-percent additional tax (referred to as the ‘‘early withdrawal tax’’) on the amount includible in income.

The SECURE Act creates an exception to the 10-percent early withdrawal penalty in the case of qualified birth or adoption distributions from an applicable eligible retirement plan. This provision was based on the following excerpt from the House Ways and Means Committee report:

Births and adoptions are important life events that can come with significant financial costs for a family. The Committee believes that, in these situations, individuals should have access to portions of their retirement savings to help pay for these costs. The ability to access retirement savings on a penalty-free basis at the time of the birth of a child or adoption will provide such flexibility. As a result, the Committee believes this will encourage younger workers to save earlier for their retirement, whether through participation in an employer-sponsored plan or an IRA.

In addition to an exception to the 10-percent early withdrawal penalty, qualified birth or adoption distributions may be recontributed to an individual’s applicable eligible retirement plans, subject to certain requirements. The report of the House Ways and Means Committee providers this clarification:

A qualified birth or adoption distribution is a permissible distribution from an applicable eligible retirement plan which, for this purpose, encompasses eligible retirement plans other than defined benefit plans, including qualified retirement plans, section 403(b) plans, and IRAs.

A qualified birth or adoption distribution is a distribution from an applicable eligible retirement plan (including qualified retirement plans, section 403(b) plans, and IRAs) to an individual if made during the one-year period beginning on the date on which [including qualified retirement plans, section 403(b) plans, and IRAs] a child of the individual is born or on which the legal adoption by the individual of an eligible adoptee is finalized. An eligible adoptee means any individual (other than a child of the taxpayer’s spouse) who has not attained age 18 or is physically or mentally incapable of self-support. The provision requires the name, age, and taxpayer identification number of the child or eligible adoptee to which any qualified birth or adoption distribution relates to be provided on the tax return of the individual taxpayer for the taxable year.

The maximum aggregate amount which may be treated as qualified birth or adoption distributions by any individual with respect to a birth or adoption is $5,000. The maximum aggregate amount applies on an individual basis. Therefore, each spouse separately may receive a maximum aggregate amount of $5,000 of qualified birth or adoption distributions (with respect to a birth or adoption) from applicable eligible retirement plans in which each spouse participates or holds accounts.

An employer plan is not treated as violating any tax code requirement merely because it treats a distribution (that would otherwise be a qualified birth or adoption distribution) to an individual as a qualified birth or adoption distribution, provided that the aggregate amount of such distributions to that individual from plans maintained by the employer and members of the employer’s controlled group does not exceed $5,000. Thus, under such circumstances an employer plan is not treated as violating any tax code requirement merely because an individual might receive total distributions in excess of $5,000 as a result of distributions from plans of other employers or IRAs.

Key point. Generally, any portion of a qualified birth or adoption distribution may, at any time after the date on which the distribution was received, be recontributed to an applicable eligible retirement plan to which a rollover can be made. Such a recontribution is treated as a rollover and thus is not includible in income.

If an employer adds the ability for plan participants to receive qualified birth or adoption distributions from a plan, the plan must permit an employee who has received qualified birth or adoption distributions from that plan to recontribute only up to the amount that was distributed from that plan to that employee, provided the employee otherwise is eligible to make contributions (other than recontributions of qualified birth or adoption distributions) to that plan.

Any portion of a qualified birth or adoption distribution from an individual’s applicable eligible retirement plans (whether employer plans or IRAs) may be recontributed to an IRA held by such an individual which is an applicable eligible retirement plan to which a rollover can be made.

This provision applies to distributions made after December 31, 2019.

Specifies those individuals who may be covered by pension plans maintained by church-controlled organizations

Assets of a tax-sheltered annuity plan (a section 403(b) plan), generally must be invested in annuity contracts or mutual funds. However, the restrictions on investments do not apply to a retirement income account, which is a defined contribution program established or maintained by a church, or a convention or association of churches, to provide benefits under the plan to employees of a religious, charitable, or similar tax-exempt organization.

Certain rules prohibiting discrimination in favor of highly compensated employees, which apply to section 403(b) plans generally, do not apply to a plan maintained by a church or qualified church-controlled organization. For this purpose, church means a church, a convention or association of churches, or an elementary or secondary school that is controlled, operated, or principally supported by a church or by a convention or association of churches, and includes a qualified church-controlled organization.

A qualified church-controlled organization is any church-controlled tax-exempt organization other than an organization that:
  • offers goods, services, or facilities for sale, other than on an incidental basis, to the general public, other than goods, services, or facilities that are sold at a nominal charge substantially less than the cost of providing the goods, services, or facilities; and
  • normally receives more than 25 percent of its support from either governmental sources, or receipts from admissions, sales of merchandise, performance of services, or furnishing of facilities, in activities that are not unrelated trades or businesses, or from both. Church-controlled organizations that are not qualified church-controlled organizations are generally referred to as ‘‘nonqualified church-controlled organizations.’’

In recent years, a question has arisen as to whether employees of nonqualified church-controlled organizations may be covered under a section 403(b) plan that consists of a retirement income account. The SECURE Act clarifies that a retirement income account may cover:
  1. a duly ordained, commissioned, or licensed minister of a church in the exercise of his ministry, regardless of the source of compensation;
  2. an employee of an organization, whether a civil law corporation or otherwise, that is exempt from tax under section 501 and is controlled by or associated with a church or a convention or association of churches; and
  3. an employee who is included in a church plan under certain circumstances after separation from the service of a church, a convention or association of churches, or an organization described above.

This provision applies to years beginning before, on, or after the date of enactment.

Expansion of “Section 529” education savings accounts

A section 529 plan (also known as a “qualified tuition plan”) is a plan operated by a state or educational institution with tax advantages and potentially other incentives to make it easier to save for college and other post-secondary training for a designated beneficiary, such as a child or grandchild.

The main tax advantage of a 529 plan is that earnings are not subject to federal tax and generally are not subject to state tax when used for the qualified education expenses of the designated beneficiary, such as tuition, fees, books, as well as room and board. Contributions to a 529 plan, however, are not deductible.

Contributions to a 529 plan cannot exceed the amount necessary to provide for the qualified education expenses of the beneficiary. If you contribute to a 529 plan, however, be aware that there may be gift tax consequences if your contributions, plus any other gifts, to a particular beneficiary exceed $15,000 during the year.

The Tax Cuts and Jobs Act of 2017 modified section 529 plans to allow such plans to distribute not more than $10,000 in expenses for tuition incurred during the taxable year in connection with the enrollment or attendance of the designated beneficiary at a public, private, or religious elementary or secondary school. This limitation applies on a per-student basis, rather than a per-account basis. Thus, although an individual may be the designated beneficiary of multiple accounts, that individual may receive a maximum of $10,000 in distributions free of tax, regardless of whether the funds are distributed from multiple accounts. Any excess distributions received by the individual would be treated as a distribution subject to tax under the general rules of section 529.

The final text of the Tax Cuts and Jobs Act deleted a provision modifying the definition of higher education expenses to include certain expenses incurred in connection with a homeschool.

The SECURE Act makes the following three changes to 529 plans.

First, the Act allows tax-free treatment to apply to distributions made for certain expenses in connection with a homeschool. Under the provision, distributions for certain homeschool expenses are treated in the same manner as distributions for qualified higher education expenses, and like distributions for elementary and secondary school tuition are also subject to an annual limit of $10,000 in aggregate 529 distributions, per beneficiary.

For these purposes, qualifying homeschool expenses are those expenses, with respect to a beneficiary, which are incurred in connection with a homeschool and are for: curriculum and curricular materials; books or other instructional materials; online educational materials; tuition for tutoring or educational classes outside of the home if the tutor or instructor is unrelated to the student; dual enrollment in an institution of higher education; and educational therapies for students with disabilities.

Second, the Act allows tax-free treatment to apply to distributions of certain amounts used to make payments on principal or interest of a qualified education loan. No individual may receive more than $10,000 of such distributions, in aggregate, over the course of the individual’s lifetime. To the extent that an individual receives in excess of $10,000 of such distributions, they are subject to the usual tax treatment of 529 distributions (i.e., the earnings are included in income and subject to a 10-percent penalty).

The provision contains a special rule allowing such amounts to be distributed to a sibling of a designated beneficiary (i.e., a brother, sister, stepbrother, or stepsister). This rule allows a 529 account holder to make a student loan distribution to a sibling of the designated beneficiary without changing the designated beneficiary of the account. For purposes of the $10,000 lifetime limit on student loan distributions, a distribution to a sibling of a designated beneficiary is applied toward the sibling’s lifetime limit, and not the designated beneficiary’s lifetime limit. The deduction available for interest paid by the taxpayer during the taxable year on any qualified education loan is disallowed to the extent such interest was paid from a tax-free distribution from a 529 plan.

Third, the Act allows tax-free treatment to apply to distributions made for certain additional qualifying expenses on behalf of designated beneficiaries attending elementary or secondary

school. Under the provision, in addition to tuition, tax-free treatment would apply to a distribution made for expenses for fees, academic tutoring, special needs services, books, supplies, and other equipment, incurred in connection with enrollment or attendance at such elementary or secondary school.

Increases failure-to-file penalty

Regarding the failure-to-file penalty, the Taxpayer First Act of 2019 stated the following:

The Federal tax system is one of ‘‘self-assessment,’’ i.e., taxpayers are required to declare their income, expenses, and ultimate tax due, while the IRS has the ability to propose subsequent changes. This voluntary system requires that taxpayers comply with deadlines and adhere to the filing requirements. While taxpayers may obtain extensions of time in which to file their returns, the Federal tax system consists of specific due dates of returns. In order to foster compliance in meeting these deadlines, Congress has enacted a penalty for the failure to timely file tax returns.

A taxpayer who fails to file a tax return on or before its due date is subject to a penalty equal to five percent of the net amount of tax due for each month that the return is not filed, up to a maximum of 25 percent of the net amount. If the failure to file a return is fraudulent, the taxpayer is subject to a penalty equal to 15 percent of the net amount of tax due for each month the return is not filed, up to a maximum of 75 percent of the net amount. The net amount of tax due is the amount of tax required to be shown on the return reduced by the amount of any part of the tax that is paid on or before the date prescribed for payment of the tax and by the amount of any credits against tax that may be claimed on the return. The penalty will not apply if it is shown that the failure to file was due to reasonable cause and not willful neglect.

If a return is filed more than 60 days after its due date, and unless it is shown that such failure is due to reasonable cause, then the failure to file penalty may not be less than the lesser of $205 or 100 percent of the amount required to be shown as tax on the return. If a penalty for failure to file and a penalty for failure to pay tax shown on a return both apply for the same month, the amount of the penalty for failure to file for such month is reduced by the amount of the penalty for failure to pay tax shown on a return. If a return is filed more than 60 days after its due date, then the penalty for failure to pay tax shown on a return may not reduce the penalty for failure to file below the lesser of $205 or 100 percent of the amount required to be shown on the return.

The failure to file penalty applies to all . . . income tax returns of an individual, fiduciary of an estate or trust, or corporation, self-employment tax returns, and estate and gift tax returns).

The SECURE Act increases the failure-to-file penalty to the lesser of $435 or 100 percent of the amount of tax due for returns due after December 31, 2019.

The House Ways and Means Committee noted that the penalties for failing to file tax returns have not been increased in several years, and it believes that increasing the penalties will encourage the filing of timely and accurate returns which, in turn, will improve overall tax administration.

Additional reading

For important details of other areas related to retirement plans, see chapter 10 in the annual Church & Clergy Tax Guide.
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.
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How to Prepare W-2s for Church Employees, Including Ministers

How a church reports taxable income and withheld income taxes for employees and ministers on the Form W-2.

Richard R. Hammar, Attorney, CPA
Bio

Last Reviewed: January 2, 2024

How a church reports taxable income and withheld income taxes for employees and ministers on the Form W-2.

A church should furnish copies B, C, and 2 of the 2023 Form W-2 to each employee by January 31, 2024. File Copy A with the Social Security Administration by January 31, 2024. If filing paper copies, send all Copies A with Form W-3, Transmittal of Wage and Tax Statements.

Key update: If a church files 10 or more forms of any combination of W-2 or 1099, it must submit the forms electronically beginning with the 2023 filings due January 31, 2024. Churches new to the electronic filing requirements may be able to utilize the Social Security Administration’s Business Services Online option to electronically file the forms.

Become a Church Law & Tax Advantage Member today, and gain access to exclusive webinars, cohorts, advisor-generated content, and much more.

For a complete guide to preparing W-2s and more helpful tips on all of the forms your church is required to file, see the annual 2024 Church & Clergy Tax Guide.

Although W-2s are not difficult to prepare, there are some tips you should know.

First, be sure to add cents to all amounts. Make all dollar entries without a dollar sign and comma, but with a decimal point and cents. For example, $1,000 should read “1000.00.” Government scanning equipment assumes that the last two figures of any amount are cents. If you report $40,000 of income as “40000,” the scanning equipment would interpret this as 400.00 ($400)!

Second, here are some details on how to fill in specific boxes.

Box a. Report the employee’s Social Security number. If you do not provide the correct employee’s name and Social Security number on Form W-2, you may owe a penalty unless you have reasonable cause.

Insert “applied for” if an employee does not have a Social Security number but has applied for one. If you are filing the forms electronically, you will need to leave the box blank as most systems will not accept “applied for.” Additionally, most systems may not allow the box to be blank, so steps should be taken to avoid this situation.

Box b. Insert your church’s federal employer identification number (EIN). This is a nine-digit number that is assigned by the IRS. (See previous section on obtaining an EIN, if you do not have one.) Some churches have more than one EIN (for example, some churches that operate a private school have a number for both the church and the school). Be sure that the EIN listed on an employee’s Form W-2 is the one associated with the employee’s actual employer.

KEY POINT A church should not have more than one employer identification number. If your church has more than one, then steps should be taken to bring all payroll reporting under one number and discontinue use of the second number.

Box c. Enter your church’s name, address, and ZIP Code. This should be the same address reported on your Form 941.

Box d. You may use this box to identify individual W-2 forms. You are not required to use this box.

Box e. Enter the employee’s name.

Box f. Enter the employee’s address and ZIP Code.

Box 1. Report all federal taxable wages paid to workers who are treated as employees for federal income tax reporting purposes. This includes:

•  Salary, bonuses, prizes, and awards.

•  Taxable fringe benefits (including cost of employer-provided group term life insurance coverage that exceeds $50,000).

•  The value of the personal use of an employer-provided car.

•  Most Christmas, birthday, anniversary, retirement, and other special occasion gifts (including “love” gifts) paid by the church.

•  Business expense reimbursements paid under a nonaccountable plan (one that does not require substantiation of business expenses within a reasonable time or does not require excess reimbursements to be returned to the church or reimburses expenses out of salary reductions). Also note that such reimbursements are subject to income tax and Social Security withholding if paid to nonminister employees.

•  Generally, payments made under an accountable plan are excluded from the employee’s gross income and are not reported on Form W-2. However, if you pay a per diem or mileage allowance and the amount paid for substantiated miles or days traveled exceeds the amount treated as substantiated under IRS rules, you must report as wages on Form W-2 the amount in excess of the amount treated as substantiated. The excess amount is subject to income tax withholding and Social Security and Medicare taxes (or railroad retirement taxes, if applicable). Report the amount treated as substantiated (that is, the nontaxable portion) in box 12 using code L.

•  Moving expenses and expense reimbursements (except for reimbursements of the travel expenses of members of the US armed forces on active duty).

•  Any portion of a minister’s self-employment taxes paid by the church.

•  Amounts includible in income under a nonqualified deferred compensation plan because of section 409A.

•  Designated Roth contributions made under a section 403(b) salary reduction agreement.

•  Church reimbursements of a spouse’s travel expenses incurred while accompanying a minister on a business trip represent income to the minister unless the spouse’s presence serves a legitimate and necessary business purpose and the spouse’s expenses are reimbursed by the church under an accountable plan.

•  Churches that make a “below-market loan” to a minister of at least $10,000 create taxable income to the minister (some exceptions apply). A below-market loan is a loan on which no interest is charged, or on which interest is charged at a rate below the applicable federal rate.

•  Churches that forgive a minister’s debt to the church create taxable income to the minister.

•  Severance pay.

•  Payment of a minister’s personal expenses by the church.

•  Employee contributions to a health savings account (HSA) unless contributed through a Section 125 cafeteria plan.

•  Employer contributions to an HSA if includable in the income of the employee.

•  Employee contributions towards group health insurance premiums unless they are contributed through a Section 125 cafeteria plan.

For ministers who report their income taxes as employees, do not report in box 1 the annual fair rental value of a parsonage or any portion of a minister’s compensation that was designated (in advance) as a housing allowance by the church. Also, some contributions made to certain retirement plans out of an employee’s wages are not reported. If the nontaxable portion of a housing allowance (the lessor of actual expenses or the FRV plus utilities) is less than the church-designated allowance, it is the minister’s responsibility to report the excess housing allowance as additional income on line 1 of his or her Form 1040 (if an employee) or on Schedule C (if self-employed, however, such a status would be rare).

CAUTION Taxable fringe benefits not reported as income in box 1 may constitute an automatic excess benefit transaction exposing the recipient and members of the church board to intermediate sanctions in the form of substantial excise taxes.

KEY POINT Churches should not include in box 1 the annual fair rental value of a parsonage or a housing allowance provided to a minister as compensation for ministerial services.

Box 2. List all federal income taxes that you withheld from the employee’s wages. The amounts reported in this box (for all employees) should correspond to the amount of withheld income taxes reported on your four 941 forms.

Box 3. Report an employee’s wages subject to the “Social Security” component (the 6.2 percent rate for 2023) of FICA taxes. Box 3 should not list more than the maximum wage base for the “Social Security” component of FICA taxes ($160,200 for 2023, $168,600 for 2024). This box usually will be the same as Box 1, but not always. For example, certain retirement contributions are included in Box 3 that are not included in Box 1. To illustrate, contributions to a 403(b) plan by salary reduction agreement may be excludable from income and not reportable in Box 1, but they are subject to FICA taxes and accordingly they represent Social Security and Medicare wages for nonminister employees.

KEY POINT Remember that ministers (including those who report their income taxes as employees) are self-employed for Social Security with respect to their ministerial services, and so they pay self-employment taxes rather than the employee’s share of Social Security and Medicare taxes. There should never be any amounts in Boxes 3, 4, 5 or 6 on a minister’s Form W-2.

Churches that filed a timely Form 8274 exempting themselves from the employer’s share of FICA taxes do not report the wages of nonminister employees in this box since such employees are considered self-employed for Social Security purposes.

Box 4. Report the “Social Security” component (6.2 percent) of Social Security and Medicare taxes that you withheld from a nonminister employee’s wages. This tax is imposed on all wages up to a maximum of $160,200 for 2023 and $168,600 for 2024. Do not report the church’s portion (the “employer’s share”) of Social Security and Medicare taxes. Ministers who report their income taxes as employees are still treated as self-employed for Social Security with respect to compensation from the performance of ministerial services. For ministers, this box should be left blank.

Box 5. Report a nonminister employee’s current and deferred (if any) wages subject to the Medicare component (1.45 percent) of FICA taxes. This will be an employee’s entire wages regardless of amount. There is no ceiling. For persons earning less than the annual maximum earnings subject to the 6.2 percent Social Security tax of $160,200 for 2023 ($168,600 for 2024) Box 3 and Box 5 both should show the same amount. If you pay more than $160,200 to a nonminister employee in 2023, Box 3 should show $160,200 and Box 5 should show the full amount of wages paid.

Box 6. Report the Medicare component of FICA taxes that you withheld from the nonminister employee’s wages. This tax is imposed on all wages, current and deferred (if any), regardless of amount. The box will also include the additional Medicare tax withheld on wages greater than $200,000 and previously discussed. For ministers, this box should be left blank.

Box 10. Show the total dependent care benefits under a dependent care assistance program (section 129) paid or incurred by you for your employee. Include the fair market value of employer-provided daycare facilities and amounts paid or incurred for dependent care assistance through a section 125 cafeteria plan. Report all amounts paid or incurred including those in excess of the $5,000 exclusion. Include any amounts over $5,000 in Boxes 1, 3, and 5. For more information, see IRS Publication 15-B.

Box 11. The purpose of box 11 is for the Social Security Administration (SSA) to determine if any part of the amount reported in Box 1 or Boxes 3 or 5 was earned in a prior year. The SSA uses this information to verify that they have properly applied the Social Security earnings test and paid the correct amount of benefits. Report distributions to an employee from a nonqualified plan in Box 11. Also report these distributions in Box 1. Under nonqualified plans, deferred amounts that are no longer subject to a substantial risk of forfeiture are taxable even if not distributed. Report these amounts in Boxes 3 (up to the Social Security wage base) and 5. Do not report in Box 11 deferrals included in Boxes 3 or 5 and deferrals for current year services (such as those with no risk of forfeiture).

If you made distributions and also are reporting any deferrals in Boxes 3 or 5, do not complete Box 11. See IRS Publication 957.

Unlike qualified plans, nonqualified plans do not meet the qualification requirements for tax-favored status. Nonqualified plans include those arrangements traditionally viewed as deferring the receipt of current compensation, such as a rabbi trust. Welfare benefit plans and plans providing termination pay, or early retirement pay, are not generally nonqualified plans.

KEY POINT  Nonqualified retirement plans are subject to many difficult technical rules and substantial penalties for compliance failures. Additional information is available in IRS Publication 15 and IRS Publication 957, but qualified professional guidance is also recommended.

Box 12. Insert the appropriate code and dollar amount in this box. Insert the code letter followed by a space and then insert the dollar amount on the same line within the box. Do not enter more than four codes in this box. If more are needed, use another Form W-2. Use capital letters for the codes and remember not to use dollar signs or commas. For example, to report a $3,000 contribution to a section 403(b) tax-sheltered annuity, you would report “E 3000.00” in this box. The codes are as follows:

A—This will not apply to church employees.

B—This will not apply to church employees.

C—You (the church) provided your employee with more than $50,000 of group term life insurance. Report the cost of coverage in excess of $50,000. It should also be included in Box 1 (and in Boxes 3 and 5 for nonminister employees).

D—Generally not applicable to churches, however, some churches have adopted 401(k) plans and would use this box to report elective deferrals into those plans.

E—The church made contributions to a 403(b) plan pursuant to a “salary reduction agreement” on behalf of the employee. Report the amount of the contributions. While this amount ordinarily is not reported in Box 1, it is included in Boxes 3 and 5 for nonminister employees since it is subject to Social Security and Medicare taxes with respect to such workers.

F—Generally not applicable to churches.

G—Generally not applicable to churches.

H—Generally not applicable to churches.

J—You (the church) are reporting sick pay. Show the amount of any sick pay that is not includable in the employee’s income because he or she contributed to the sick pay plan.

K—Generally not applicable to churches.

L—You (the church) reimbursed the employee for employee business expenses using the standard mileage rate or the per diem rates, and the amount you reimbursed exceeds the amounts allowed under these methods. Enter code “L” in Box 12, followed by the amount of the reimbursements that equal the allowable standard mileage or per diem rates. Any excess should be included in Box 1. For nonminister employees, report the excess in Boxes 3 (up to the Social Security wage base) and 5 as well. Do not include any per diem or mileage allowance reimbursements for employee business expenses in Box 12 if the total reimbursements are less than or equal to the amount deemed substantiated under the IRS-approved standard mileage rate or per diem rates.

M, N—Generally not applicable to churches.

P—Not applicable to churches. 

Q—Generally not applicable to churches.

R—Report employer contributions to a medical savings account on behalf of the employee. Any portion that is not excluded from the employee’s income also should be included in Box 1.

S—Report employee salary reduction contributions to a SIMPLE individual retirement account. However, if the SIMPLE account is part of a 401(k) plan, use code D.

T—Report amounts paid (or expenses incurred) by an employer for qualified adoption expenses furnished to an employee under an adoption assistance program that are not included in Box 1.

V—Generally not applicable to churches.

W—Report employer contributions to a health savings account (HSA). Include amounts the employee elected to contribute using a cafeteria plan.

Y—It is no longer necessary to report deferrals under a section 409A nonqualified deferred compensation plan in Box 12 using code Y.

Z—Report all amounts deferred (including earnings on deferrals) under a nonqualified deferred compensation (NQDC) plan that are included in income under section 409A of the tax code because the NQDC fails to satisfy the requirements of section 409A. Do not include amounts properly reported on Forms 1099-NEC or W-2 for a prior year. Also, do not include amounts considered to be subject to a substantial risk of forfeiture for purposes of section 409A. The amount reported in Box 12 using code Z is also reported in Box 1.

AA—Generally not applicable to churches unless a church operates a 401(k) plan.

BB—Report designated Roth contributions under a section 403(b) salary reduction agreement. Do not use this code to report elective deferrals under code E.

DD—The Affordable Care Act requires employers to report the cost of coverage under an employer-sponsored group health plan. IRS Notice 2011-28 provided relief for smaller employers filing fewer than 250 W-2 forms by making the reporting requirement optional for them until further guidance is issued by the IRS. The reporting under this provision is for information only; the amounts reported are not included in taxable wages and are not subject to new taxes.

EE—Generally not applicable to churches.

FF– Use this code to report the total amount of permitted benefits under a QSEHRA. The maximum reimbursement for an eligible employee under a QSEHRA for 2023 is $5,850 ($11,800 if it also provides reimbursements for family members). Report the amounts of payments and reimbursements the employee is entitled to receive under the QSEHRA for the calendar year, not the amount the employee actually receives. For example, a QSEHRA provides a permitted benefit of $3,000. If the employee receives reimbursements of $2,000, report a permitted benefit of $3,000 in Box 12 with code FF.

Box 13. Check the appropriate box.

Statutory employee. Churches rarely if ever have statutory employees. These include certain drivers, insurance agents, and salespersons.

Retirement plan. Mark this checkbox if the employee was an active participant (for any part of the year) in any of the following: (1) a qualified pension, profit-sharing, or stock bonus plan described in section 401(a) (including a 401(k) plan); (2) an annuity contract or custodial account described in section 403(b); (3) a simplified employee pension (SEP) plan; or (4) a SIMPLE retirement account.

Third-party sick pay. Churches generally will not check this box.

Box 14. This box is optional. Use it to provide information to an employee. Some churches report a church-designated housing allowance in this box. The IRS uses Box 14 for this purpose in a comprehensive minister tax example in the current edition of its IRS Publication 517, but this is not a requirement.

TAX TIP The IRS has provided the following suggestions to reduce the discrepancies between amounts reported on Forms W-2, W-3, and Form 941: First, be sure the amounts on Form W-3 are the total amounts from Forms W-2. Second, reconcile Form W-3 with your four quarterly Forms 941 by comparing amounts reported for: (1) Income tax withholding (Box 2). (2) Social Security and Medicare wages (Boxes 3, 5, and 7). (3) Social Security and Medicare taxes (Boxes 4 and 6). Amounts reported on Forms W-2, W-3, and 941 may not match for valid reasons. If they do not match, you should determine that the reasons are valid. The Social Security Administration will issue an inquiry notice when these amounts do not match.

 
Richard R. Hammar is an attorney, CPA and author specializing in legal and tax issues for churches and clergy.
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Smart Budgeting for Church Tech Purchases

Why it’s time to rethink the three-year replacement rule for hardware.

Jonathan Smith

Computers are like cars. As soon as you buy one, a newer, faster, nicer—and let’s face it, cooler—one comes out to replace it. An upside to technology advances is improved longevity. Both cars and computers last longer and this reality can have a positive impact on a church budget.

Here are ways your church can further maximize the technology it uses and get more bang for its buck.

Why the three-year rule made sense

Many church have operated under the general rule of thumb of refreshing computer hardware every three years. This approach existed because computers really could only last three years. Desktops and laptops featured many moving parts: internal fans kept them cool (dragging in all the dust they could find, too) and the hard drives relied upon spinning disks inside. Sooner than later, all of these moving parts wore out.

The three-year rule of thumb also worked because operating systems and software upgrades continually created more demand for computer processing resources. These new versions needed more power than the existing machines could provide, so upgrading hardware every three years meant you could keep running the latest versions of your operating system and software.

Lastly, the three-year rule reflected a final variable: users. Replacing computers every three years allowed two things to happen. First, the approach avoided frustrating the skilled users on the church staff, since their frequent and heavy use would make them become quickly aware of slower, poorer performances by their machines. And second, it prevented novice users from falling too far behind everyone else as far as operating systems and applications are concerned.

How computers have changed

As computer hardware evolved, some flexibility emerged with the every-three-year-refresh cadence. Fans and hard drives became more reliable, additional memory became cheaper, and software demanded less of the computer’s hardware. Now, depending on the needs of the user and the demands placed on the computer, churches can rethink the old rule of thumb.

What’s the new rule of thumb?

Now, hardware refresh rates can be in the five- to eight-year range. Here’s why:
  • Computer hardware, in general, has become cheaper;
  • Desktops, laptops, and tablets are all solid state, meaning there are no moving parts and very few, if any, fans. Fewer moving parts, less heat to dissipate, and less dirt and dust to contend with allow computer hardware to last much longer; and
  • New computers also have significant processing resources. This allows operating systems and software to run on them for a long time, regardless of how many times updates are released. As operating systems upgrade, existing hardware is often able to easily meet the minimum requirements to run the latest versions.

The great news about these advances is that your church’s pastors and other staff will be much happier. Skilled users won’t experience decreases in performance, while novice users won’t fall behind. And all users will be satisfied since they no longer have to reinstall their apps and try to remember their settings each time they get a new computer. Fewer computer replacements increases user productivity.
For more help staying current with technology needs, check out Nick Nicholaou’s book, Church IT: Using Information Technology for the Mission of the Church.

A word of caution

So, what’s the catch? If it sounds too good to be true, it probably is and that applies here. Longer hardware life cycles will save churches money, but stewardship requires effort. Here are three ways your church needs to put forth good effort.

Know your church. There are very few absolutes with technology. While five to eight years for hardware replacements may be a good general guide, it may not work for every user and every organization. Study your church’s needs, systems, and users to make certain the replacement cycle you choose is a good fit.

Know your warranties. Most computers come with a standard three-year warranty, which you can extend to four years, sometimes even five years. If you are going to keep your computer for, say, six years, what happens when the warranty runs out? For some users, you may want to make sure their machine is always under warranty and rotate machines no longer under warranty to other users. You can also stock a spare machine or two, since that may be cheaper than extending warranty coverages that provide next-day service.

The same is true for servers. Servers no longer live in a closet somewhere. With access to state-of-the-art datacenters for servers, they too are lasting longer—but warranty coverage and how long users can tolerate downtime, or being without a computer, must be considered.

Know your software support. While it is great your computer is running longer, what happens when Microsoft stops supporting your version of Windows 10 (similar to what happened in early 2020 when Microsoft ended support for Windows 7)?

This is a legitimate, but manageable, concern. You must make sure you keep your operating system and all other applications current, so that they remain supported, patched, and secure. Otherwise, your hardware will work fine, but your software will become out of date and a security hole will develop on your network.

Rethink your refresh cycle

Proper stewardship of hardware can save churches money and prevent wasteful spending on new computers that may not be needed. But churches must be willing to spend time understanding their computer needs, software needs, and user needs. Such a time investment can create a “refresh cycle plan” for technology that not only saves money, but increases productivity for God’s kingdom.

Jonathan Smith is an author, conference speaker, and the director of Technology at Faith Ministries in Lafayette, Indiana. You can reach Jonathan at jsmith@faithlafayette.org and follow him on Twitter @JonathanESmith.

Tips on Selecting a Tax Preparer

Choose a person with experience preparing ministers’ tax returns.

Richard R. Hammar

Let’s assume you’ve decided to have your tax return prepared by a professional. The next step is to find someone who is experienced and competent in the preparation of ministers’ tax returns. Here are some tips to help you find such a person:
  • If possible, stick with a CPA or tax attorney. These professionals have completed a rigorous educational program, passed a difficult qualifying examination, and are subject to a comprehensive body of professional ethics.
  • Try to use someone local.
  • Find other ministers in your community who have their tax returns prepared by a professional, and ask questions. Who do they use? Are they pleased? What is the cost? How many ministers’ tax returns does the person prepare?
  • Call CPAs listed in your telephone directory; ask if they prepare ministers’ tax returns and, if so, ask how many they prepare.
An Enrolled Agent is another option to consider. Find out what some experts have to say.

When you find one or more possible candidates, consider asking a few simple questions that should be answered easily by anyone with any experience in handling ministers’ tax returns. Here are four examples:
  1. Are ministers employees or self-employed for Social Security purposes? Ministers always are self-employed for Social Security purposes with respect to their ministerial income.
  2. Can I claim my housing allowance exclusion in computing my self-employment taxes? No.
  3. If I report my church wages as an employee, are my wages subject to FICA taxes? No. Ministers pay the self-employment tax rather than FICA taxes on their ministerial income.
  4. If I report my church wages as an employee, are my wages subject to income tax withholding? No, unless a minister elects voluntary withholding.
  5. What is the minister’s housing allowance?The portion of a minister’s salary designated in advance by an employing church for housing expenses. This amount is not taxable in computing a minister’s income taxes to the extent it is used to pay housing expenses and does not exceed the home’s fair rental value.
  6. Persons who are familiar with ministers’ taxes should be able to answer these questions.
  7. Adapted from chapter 1 of the Church & Clergy Tax Guide. Order it now for tax help throughout the year.
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