Tax Court Rejects Pastor's Attempt to Avoid Taxes Through Vow of Poverty, Salary Renunciation

Key point. Ministers cannot avoid taxes by making a vow of poverty, renouncing a salary, and having their church pay for all of their expenses, if they maintain effective control over the payment of expenses.

The United States Tax Court rejected an attempt by a pastor to avoid income taxes by making a "vow of poverty," renouncing a salary, having his church pay all of his expenses, but retaining effective control over the funds.

In 2001 a pastor recommended to his church's board of advisers that the church be restructured to include a "corporation sole" as an office of the church. The board of advisers unanimously agreed with this recommendation, and a nonprofit corporation sole was created in the name of "the Office of Presiding Head Apostle" currently held by the pastor. The church was located in Florida, which does not recognize corporations sole, so the corporation sole was established under the laws of Nevada

Later that year, the pastor signed a document titled "Vow of Poverty" in which he agreed to divest his property and future income to the church and in turn the church would provide for his physical, financial, and personal needs. By resolution, the church resolved that "the church accepts … the pastor's declaration and will provide all his needs as Apostle of this church ministry," and affirmed that "the church shall pay his housing, all ministry expenses, and any other needs necessary for his care." The church established an apostolic bank account, and the pastor had "signatory authority over this account for his use."

The IRS audited the pastor for four years during which he did not file a Federal income tax return nor did he file a timely certificate of exemption from self-employment tax. The IRS assessed unreported income of $46,642, $18,430, $16,824, and $26,865 for the four years being examined. Most of these amounts represented payments made by the church on the pastor's behalf. The pastor did not dispute that the church made those payments on his behalf for his personal expenditures. The only issue was whether the vow of poverty insulated him from paying Federal income tax and self-employment tax on those amounts.

Income taxes
The Tax Court agreed with the IRS that the amounts in question represented taxable income. The court began its opinion by rehearsing basic facts:

Section 61(a) [of the tax code] defines gross income as "all income from whatever source derived", including compensation for services. This definition includes all accessions to wealth, clearly realized, and over which the taxpayers have complete dominion. A taxpayer has dominion and control when the taxpayer is free to use the funds at will. The use of funds for personal purposes indicates dominion and control, even over an account titled in the name of a church or other religious organization.

The court noted that in previous decisions it held that a vow of poverty does not insulate a pastor from tax liability even when the pastor receives funds directly from his church in exchange for services rendered if the pastor "does not remit those funds to the church in accordance with his vow of poverty, has control over the funds, and uses the funds for personal expenditures." The pastor insisted that such rulings did not apply to him since they dealt with clergy who earned money from a secular employer and thereafter "assigned" the funds to a church or religious order, whereas in the present case the pastor executed a vow of poverty to his church and received payments for his well-being from the church.

The court acknowledged that "income earned by a member of a religious order on account of services performed directly for the order or for the church with which the order is affiliated and remitted back to the order in conformity with the member's vow of poverty is not includible in the member's gross income." But such was not the case here. The "critical difference in this case" was that the pastor did not remit income to his church pursuant to his vow of poverty, he had signatory authority over the "apostolic bank account," and the payments the church made on his behalf served only to benefit him in meeting his living expenses." Therefore, "the compensation he received from his church in the form of the church or its related entities made on his behalf must be included in his gross income."

Self-employment taxes
The court also agreed with the IRS that the amounts in question were subject to self-employment tax:

Unless an exemption certificate is timely filed, the minister is liable for self-employment tax on income derived from the ministry. The time limitation [for filing for exemption] is mandatory and is to be complied with strictly. [The pastor] did not file a timely application for exemption from self-employment tax for any of the years at issue. He therefore does not qualify for an exemption from self-employment tax.

What this means for churches

The lesson of this case is that schemes to avoid income taxes by vows of poverty and "corporations sole" never work, at least if a minister retains effective control over the funds and their distribution. As the court noted, the tax code defines taxable income broadly to include "all income from whatever source derived," and this includes "all accessions to wealth, clearly realized, and over which the taxpayers have complete dominion." A taxpayer has dominion and control "when the taxpayer is free to use the funds at will. The use of funds for personal purposes indicates dominion and control, even over an account titled in the name of a church or other religious organization." T.C. Memo. 2016-167.