Clergy—Income Taxes

The United States Tax Court ruled that the IRS can ignore a pastor’s “tithes” as a “living expense” in evaluating an offer in compromise.

Key point. An offer in compromise is an offer a taxpayer submits to the IRS to settle a tax liability for less than the amount of the liability. The IRS can accept such offers in whole or in part under limited circumstances.

Pixley v. Commissioner, 123 T.C. 15 (2004).

The United States Tax Court ruled that the IRS can ignore a pastor's "tithes" as a "living expense" in evaluating an offer in compromise.

An ordained pastor (Brad) served as the pastor of a local church from 1995 through 2001. He then moved to another state and was employed as a medical technician in a hospital. The IRS sent Brad a letter notifying him that it was going to seize his assets in an attempt to satisfy unpaid tax liabilities of $60,000. Seeking to avoid IRS collection efforts, Brad submitted an "offer in compromise" to the IRS (on Form 656) in which he sought to have his tax liabilities compromised for a reduced amount. His offer listed his assets and liabilities, and included a monthly "tithe" of $520 to his church as a "necessary living expense."

The IRS asked Brad on numerous occasions to submit evidence that the tithe was a condition of his employment. Brad failed to respond to these requests, and the IRS rejected his offer in compromise. It concluded that Brad had the ability to fully pay his tax liabilities. Brad appealed to the Tax Court.

The court began its opinion by observing that "in this case we are called upon to address for the first time, in the context of an offer in compromise, the treatment of a minister's tithing expenses for purposes of determining ability to pay outstanding tax liabilities." On appeal, Brad claimed that tithing expenses were incurred as a condition of his employment as a minister and should be taken into account in determining his ability to pay taxes. He argued that the IRS's disallowance of the tithing expenses violated his first amendment right to the free exercise of religion.

The court noted that the IRS can reduce tax liabilities by accepting a taxpayer's offer in compromise, but only if there is doubt as to the tax liability, doubt as to collectibility of the tax, or to promote effective tax administration. In determining whether there is doubt as to collectibility, the IRS must determine the taxpayer's "ability to pay" the outstanding tax liabilities that are to be compromised. In making this determination, the IRS considers two kinds of expenses. "Necessary" expenses are used for a taxpayer's (and his family's) health and welfare or production of income. Expenses that do not qualify as necessary may nevertheless be allowable in certain limited circumstances as so-called "conditional" expenses. Charitable contributions are necessary expenses if they provide for a taxpayer's (or his family's) health and welfare or are a condition of the taxpayer's employment. The IRS Internal Revenue Manual specifically addresses tithes to religious organizations, as follows:

Question. If, as a condition of employment, a minister is to tithe, a business executive is required to contribute to a charity … will these expenses be allowed?

Answer. Yes. The only thing to consider is whether the amount being contributed equals the amount actually required and does not include a voluntary portion.

Brad insisted that tithing was a condition of his employment, and so should have been considered a necessary expense in evaluating his offer in compromise. The court disagreed, "There is no evidence that Brad was employed as a minister when the notice of determination was issued or that he has been employed as a minister at any time since. Consequently, even if we were to assume as Brad asserts that the Southern Baptist Convention has a doctrine that its members should tithe ten percent of their income to the church, we are unpersuaded that tithing was a requirement of his employment."

The court noted that Brad claimed that he had continued his ministry in an unpaid position while employed full-time as a medical technician, and that he continued to tithe to keep this position. It concluded, "Even if we were to assume that these allegations are true, they do not establish that tithes were paid as a condition of employment."

Brad also claimed that the IRS's disregard of tithing expense in evaluating offers in compromise violates the first amendment guaranty of religious freedom, since the effect of this policy was to reduce the funds that taxpayers have to support their religion and divert those funds to the U.S. Treasury. Once again, the court was not persuaded. It concluded:

It may well be true that paying their taxes will leave Brad with less funds to support his religion. But this is a burden, common to all taxpayers, on their pocketbooks, rather than a recognizable burden on the free exercise of their religious beliefs …. In any event, even if Brad could demonstrate a recognizable burden on the free exercise of religious beliefs, the burden would be justified by the government's compelling interest in collecting taxes and administering a uniform, mandatory, and sound tax system …. This compelling government interest underpins the IRS's authority to compromise tax liabilities and to prescribe guidelines for officers and employees of the Internal Revenue Service to determine whether an offer in compromise is adequate and should be accepted to resolve a tax dispute.

. This case indicates that contributions to one's church will not be taken into account in evaluating offers in compromise except in those extraordinary instances in which the contributions are a condition of continued employment. In other words, had Brad been able to demonstrate that he was employed as a pastor, and that his church required him to tithe and that his job depended on doing so, then this expense could have been considered by the IRS in evaluating his offer in compromise.

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