Key point. Ministers may exempt themselves from paying self-employment taxes on their ministerial earnings by filing a timely exemption application with the IRS. The application must be filed by the due date of the federal tax return for the second year in which the minister has net earnings from self-employment of $400 or more, any portion of which comes from the performance of ministerial services. The performance of ministerial services may include services performed by licensed or commissioned ministers prior to their ordination.
Brannon v. Commissioner, T.C. Memo. 1999-370 (1999).
The Tax Court ruled that a minister was not exempt from social security because his exemption application was filed too late.
In order to be exempt from social security (self-employment) taxes, a minister must meet several requirements. One of these requirements is the submission of a timely exemption application (Form 4361) to the IRS. In order to be timely, the application must be filed by the due date of the federal tax return (Form 1040) for the second year in which the minister had net self-employment earnings of $400 or more, any portion of which derived from ministerial services.
The facts of the Tax Court case are easily stated. While enrolled in college, a student (John) was licensed as a "student local pastor" for the United Methodist Church (the Church) and served in a local church in 1983 and 1984. His earnings exceeded $400 each year. John thereafter attended seminary, and during this time he was licensed and served as the local pastor of a church from 1985 to 1987. In 1987, he was ordained a deacon in the Church. In 1990 he was ordained an elder. The ordained ministry of the Church consists of deacons and elders. An individual can be licensed as a local pastor even though the individual has not been ordained a deacon or elder.
In 1989, John filed an application for exemption from social security (self-employment) taxes by filing a Form 4361 with the IRS. Form 4361 asks the applicant to list the date he or she was "ordained, licensed, etc." John answered this question by inserting May 25, 1987, the date that he was ordained a deacon. Form 4361 also asks the applicant to list the first 2 years after becoming a minister that he or she had net self-employment earnings of $400 or more, any part of which came from services as a minister. John reported that 1988 and 1989 were the first 2 years after the date of his ordination in which he had "net self-employment earnings of $400 or more, any part of which came from services as a minister." Relying upon the information reported on the form, the IRS granted John's application for exemption from self-employment tax in 1990.
The IRS later audited John and determined that he was not eligible for exemption from self-employment taxes. The IRS claimed that the services John performed as a local pastor in 1983 and 1984 constituted the performance of services as a "licensed" minister, even though he was not yet an "ordained" minister. And, because he earned more than $400 from the performance of such services in those years, the IRS insisted that the application was not timely because it was not filed by the due date of petitioner's 1984 federal income tax return. John appealed the case to the Tax Court.
On appeal, John argued that his exemption application was timely because he did not perform services as a minister until he was ordained a deacon in 1987. John claimed that providing services as a licensed local pastor in previous years did not constitute the performance of services as a minister for tax purposes because the authority of a local pastor is not as extensive as the authority of an ordained deacon.
The Tax Court began its opinion with the observation that "the income earned by an individual in the performance of services as a minister of a church is subject to the tax on self-employment income unless the individual files a timely application for exemption. To be effective, the application must be timely, and the time limitations set forth in the statute are mandatory and strictly enforced." The court noted that "an application for exemption is timely only if the duly ordained, commissioned, or licensed minister files the application before the due date of the return for the second taxable year for which the minister has net earnings from self-employment of $400 or more, any part of which was derived from the performance of services in the minister's ministry."
The court concluded that John's exemption application was not filed on time, and it rejected his argument that he did not begin to perform the services of a minister until he was ordained as a deacon in 1987:
[John's] argument that the period for filing the application for exemption did not begin to run until the date of his ordination, is incorrect. The phrase "duly ordained, commissioned, or licensed minister", as used in the relevant statutory scheme, is a disjunctive phrase. The statute applies if the individual is either an ordained minister, a commissioned minister, or a licensed minister. Whether an individual performs services as an ordained, commissioned, or licensed minister depends upon the type of services performed, not just on the official title of the person performing those services. Consequently, we focus upon the services that [John] performed as a licensed local pastor during 1983 and 1984 in order to determine whether such services constituted the performance of services as a licensed minister ….
An individual acting pursuant to authority derived from his or her status as a duly ordained, commissioned, or licensed minister of a church, who in the exercise of his or her ministry: (1) Presides over the ministration of sacerdotal functions; (2) conducts religious worship; and (3) participates in the control, conduct, and maintenance of religious organizations (including the religious boards, societies, and other integral agencies of such organizations), under the authority of a religious body constituting a church or church denomination, performs services as a minister within the meaning of [the tax code].
The court then applied these criteria to John's services as a licensed local pastor, and pointed out that he was authorized by the Church to preside over the ministration of sacerdotal functions, such as baptism, communion, and marriage. John himself acknowledged that he performed these services during 1983 and 1984, but he insisted that as a local pastor he was authorized to do so only as long as his license was in effect, and only within the boundaries of his charge. The court conceded that John's authority as a licensed local pastor "was limited by the duration of his license and the designated charge to which it applied." Nevertheless, subject to those limitations, during 1983 and 1984 he conducted religious worship and presided over the ministration of sacerdotal functions and therefore "for those years acted in a manner consistent with the performance of service by a duly ordained, commissioned, or licensed minister within the meaning of [the tax code]."
John argued that a licensed local pastor is considered to be a lay person with no "voice or vote" on official matters of the Church. Consequently, during 1983 and 1984, he could not and did not "serve in the control, conduct and maintenance" of the Church. The court rejected this argument, noting that "to perform services in the control, conduct, and maintenance of the church or organizations within the church, the minister need only have some participation in the conduct, control, and maintenance of the local church or denomination." It concluded that during 1983 and 1984, as a licensed local pastor, John served "in the control, conduct, and maintenance" of his local church even though as a licensed local pastor he might not have done so with respect to the Church as the governing, national organization.
The court concluded that in 1983 and 1984, as a licensed local pastor, John performed services as a minister within the meaning of the tax code. Therefore, because for each of those years he had net earnings of at least $400 derived for the performance of services as a minister, his application for exemption from self-employment tax should have been filed prior to the due date of his 1984 federal income tax return. Because it was not, the IRS was correct in ruling that his earnings as a minister were not exempt from the self-employment tax.
Application. This case illustrates the important point that many ministers are engaged in the performance of ministerial services, for tax purposes, prior to ordination. If they are licensed or commissioned, and perform substantially all the services of an ordained minister, they generally will be deemed to be ministers for federal tax purposes.
This has several consequences, including the following: (1) they are eligible for a housing allowance; (2) they are regarded as self-employed for social security, even though they report their income taxes as an employee; (3) their services constitute the exercise of ministry for purposes of computing the deadline for filing an application for exemption from self-employment taxes; (4) their wages are exempt from federal income tax withholding (they pay their taxes using the estimated quarterly tax procedure, unless they elect voluntary withholding). Ministers who wait until they are ordained to file an application for exemption from self-employment taxes may have waited too long. As has often been noted, such ministers may later be thankful that they were unable to obtain the exemption.