Q: Our church recently terminated an employee for budgetary reasons. Are there any tax or other issues for the church, and our former employee, to be aware of under these circumstances?
A: Yes. Consider the following:
- If the church paid severance pay to the employee, it is taxable in the year received and should be reported as taxable wages on the employee's W-2. It is also subject to payroll tax withholding, assuming the employee is not exempt. Note that ministerial employees are exempt from income tax withholding unless they elect voluntary withholding, and a church does not withhold FICA taxes from their wages since they are deemed self-employed for Social Security. In some cases, it may be possible to designate some or all of a terminated ministerial employee's severance pay as a housing allowance. See Chapter 4, Section B.17, in Richard Hammar's annual Church & Clergy Tax Guide (ChurchLawAndTaxStore.com) for details.