Key point. Pastors who take money from their church without authorization, and fail to report it on their tax return, may be subject to criminal liability for willfully making a false tax return. Their punishment can be “enhanced” under federal sentencing guidelines if their acts amounted to an abuse of a position of trust, or a taking of over $10,000 from an illegal source without reporting it.
* A federal appeals court affirmed the enhanced prison sentence of a pastor who failed to report on his income tax return more than $500,000 in compensation and benefits received from his church. A church hired a new pastor (Pastor James) under whose leadership the church membership grew from 500 to 2,000 people. Weekly church income grew from $7,000 to $40,000. The church provided Pastor James with compensation of $110,000. However, Pastor James chose to supplement his salary by taking money directly from the Sunday collection without reporting it on his tax returns. According to church board members, shortly after Pastor James began his employment he demanded $1,000 from the Sunday collection, a practice that he followed on most Sundays. Pastor James explained that he wanted the money as cash rather than as part of his salary in order to “avoid taxes.”
Although the congregation was not aware of Pastor James’ actions, some officials apparently knew and raised questions about the practice. The chairman of the board, for instance, questioned Pastor James about it, telling him it amounted to “stealing” and “deceiving God’s people.” Pastor James rationalized his actions by saying “I bring it in, and I take it out.” He also warned the chairman of the board not to “muzzle the ox.” When a deacon told him that his actions were wrong, Pastor James responded, “You have a lot to learn about how to take care of your pastor.” In order to cover themselves, several church officials who were aware of Pastor James’s practice made notes about the payments to him in the records of the weekly offering sheets. Pastor James instructed them to stop making the records. Despite assurances that the church would raise his salary if it was not enough, Pastor James refused such an arrangement.
In addition to the money taken from the Sunday collections, Pastor James also failed to include on his tax returns various fringe benefits, such as a Mercedes that he used for both personal and church business, making personal credit card and life insurance payments with church funds, and using the church credit card for personal expenditures. From these benefits and the weekly draws on the collection plate, the government calculated that Pastor James had additional gross income in the amount of $520,602 in the years of 1996 through 2001, resulting in a large tax deficit.
The government indicted Pastor James on five counts of willfully making and subscribing a false income tax return, and one count of failure to file an income tax return. Pastor James pleaded guilty to one count of making a false tax return for the year 1997. At the sentencing hearing, the court heard testimony and arguments regarding potential “enhancements” of the prison sentence based on abuse of a position of trust and obtaining over $10,000 in income from illegal sources without reporting it. The court imposed both enhancements. Pastor James appealed, challenging the enhancements of his sentence imposed by the trial court.
Abuse of a position of trust
Federal sentencing guidelines specify that if a defendant “abused a position of public or private trust, or used a special skill, in a manner that significantly facilitated the commission or concealment of the offense,” his or her sentence can be enhanced. The appeals court noted that for the enhancement to apply, Pastor James must have: (1) occupied a position of trust and (2) abused that position in a manner that significantly facilitated the commission or concealment of his offense. The court concluded that both requirements were met:
Here, there can be no doubt that Pastor James held a position of trust in the church and used his position to facilitate this crime. Specifically, Pastor James, who was in complete control of the church, demanded cash payments directly from the Sunday offering. The church did not authorize this; the few people who knew about the practice challenged him, but were cowed by haughty rebukes about the proper treatment of a pastor. Pastor James also attempted to thwart the members of the church who were keeping track of these payments in order to better conceal his crime. Pastor James’s tax fraud was only possible because of his [position].
The court rejected Pastor James’ argument that the enhancement of his sentence was improper because the church, whose trust he abused, was not a victim of his tax fraud because it was financially prospering under his pastoral care. The court concluded:
It is clear that the church was a victim. Pastor James claims that the offers to improve his salary by the head of the church board (while trying to talk Pastor James out of stealing from the collection plate) and the healthiness of church finances prove his point that he deserved (and thus took) more. They do not. While the church might have been willing to increase his salary, that was a decision for the church, not for him. What Pastor James committed was theft; he did not tell the church that he wanted an increased salary and had not received permission for the additional money. Nor can the overall healthiness of church finances salvage his actions. Pastor James’ argument, essentially a slightly more sophisticated version of “I bring it in, and I can take it out,” betrays a fundamental misapprehension. The funds were not his. While no doubt his skillful ministry explains to a large extent the uptick in contributions, they were contributions to the church, not to him. The church was not entitled to just a healthy cut of the increased revenues; it was entitled to all of it. Clearly, the church was a victim of Pastor James’s scheme to extract tax-free income.
Failure to report more than $10,000 in income from an illegal source
Federal sentencing guidelines also permit an enhancement in a prison sentence for a crime involving a failure to report more than $10,000 in income from an illegal source. The appeals court upheld the trial court’s enhancement of Pastor James’ sentence on this ground. It concluded: “Pastor James stole from the Sunday offerings, taking thousands of dollars without permission from the church. Moreover, he used church funds to pay his personal credit cards and life insurance, and racked up thousands more on church credit cards for personal expenditures. Pastor James contends that the government failed to show his intent to commit theft by deception, but such intent can be shown from circumstantial evidence and has been shown by the evidence here. The more than $500,000 that Pastor James took from the church during the course of his episcopacy was derived from his illegal activities, making the enhancement completely appropriate.”
The court concluded its opinion by observing that “Pastor James committed a serious crime. He abused his position while pursuing his scheme to cheat the IRS. The district court thoughtfully weighed the various considerations bearing on Pastor James’s sentence and selected a reasonable one. Therefore, we affirm the decision of the district court.”
Application. This case illustrates three important points.
First, a church employee’s failure to report compensation and taxable fringe benefits as taxable income on his or her income tax return may result in criminal liability for making a false income tax return. Section 7206(1) of the tax code specifies that “any person who willfully makes and subscribes any return, statement, or other document, which contains or is verified by a written declaration that it is made under the penalties of perjury, and which he does not believe to be true and correct as to every material matter … shall be guilty of a felony and, upon conviction thereof, shall be fined not more than $100,000 or imprisoned not more than 3 years, or both, together with the costs of prosecution.”
Second, the sentence prescribed by section 7206(1) can be “enhanced” due to several factors, including abuse of a position of trust, and obtaining over $10,000 in income from illegal sources without reporting it.
Third, Pastor James failed to report several fringe benefits as taxable income, including personal use of a church-owned Mercedes automobile, making personal credit card and life insurance payments with church funds, and using the church credit card for personal expenditures. These kinds of activities are not uncommon, and it is important for church leaders to understand the tax implications of failing to report them as taxable compensation. Chapter 4 of Richard Hammar’s 2007 Church & Clergy Tax Guide lists 22 different kinds of taxable income that are common in churches, and being familiar with this material can help to ensure that taxable benefits are being reported as taxable income.
Fourth, while the court did not address the issue, Pastor James could be assessed substantial excise taxes called “intermediate sanctions” as a result of excess benefits. Such benefits include (1) taxable benefits not reported as taxable compensation, regardless of amount, and (2) compensation and benefits reported as taxable income, if they exceed “reasonable” compensation. In either case, the recipient (if an officer or director, or relative of an officer or director) can be assessed excise taxes of up to 225% of the amount of the “excess benefit.” This significant issue is addressed fully in chapter 4 of Richard Hammar’s 2007 Church & Clergy Tax Guide. United States v. Ellis, 440 F.3d 434 (7th Cir. 2006).