• Key point. The first amendment guaranty of religious freedom does not permit churches to avoid their federal payroll tax obligations, including the withholding and payment of income taxes and social security taxes, even if compliance interferes with a church’s religious beliefs.
A federal court in Indiana ruled that an independent church was not exempt from paying more than $5 million in unpaid payroll taxes. The church in question describes itself as a “New Testament Church.” One of its principal tenets is that Jesus Christ is the sole and exclusive head of the church. The church was founded in 1950, and was incorporated as a nonprofit corporation the same year. It later obtained a federal employer identification number. In 1983, the church’s membership decided to operate the church as an unincorporated religious society rather than as a corporation. As part of the transition, the church’s assets were transferred to the unincorporated religious society. The original corporation later was dissolved. In 1994, the IRS made an assessment of tax, interest, and penalties totaling nearly $3.5 million against the church for unpaid social security and federal income tax withholdings, interest, failure to deposit penalties, delinquency penalties, and failure to pay penalties for the years 1987 through 1992. Despite notice and demand for payment, the church did not pay any of the taxes, interest, or penalties. With accrued interest and penalties, the church’s obligation increased to $5.3 million by 1998. The IRS asked a federal court to enter a summary judgment in its favor and against the church for the full $5.3 million, and to foreclose on a tax lien the IRS had imposed on the church’s property. The church asserted that the first amendment barred the government’s claims, and that the IRS had mistakenly assessed these taxes against the defunct church corporation rather than the successor unincorporated church. Specifically, the church claimed that the federal tax system violates the first amendment’s “free exercise of religion” and “nonestablishment of religion” clauses by forcing it to pay taxes in violation of its religious convictions, and by giving preference to religions whose doctrine is not offended by the federal tax system. The court summarily rejected the church’s first amendment defense, noting that “the United States Supreme Court does not share its creative interpretation of the first amendment, making resolution of this issue rather straightforward.”
Free Exercise of Religion
In rejecting the church’s “free exercise of religion” defense under the first amendment, the court relied on a 1982 Supreme Court ruling in United States v. Lee, 455 U.S. 252. In the Lee case, the Supreme Court addressed the question of whether Amish employers can be compelled to withhold social security taxes from the wages of their employees, contrary to their religious beliefs. The Court recognized that compulsory participation in the social security system may “interfere with the free exercise [of religion] rights of [religious groups].” The Court also recognized, however, that the state may justify such an infringement by demonstrating that it is essential to the accomplishment of an overriding governmental interest. The Court then found that the broad public interest in maintaining the income tax and social security tax was of such a high order that religious belief in conflict with the payment of such taxes provides no constitutional basis for avoiding them.
The Indiana court concluded that the Lee case compelled it to reject the church’s “free exercise of religion” defense.
Nonestablishment of Religion
The church also asserted that the attempt by the IRS to collect $5.3 million in unpaid payroll taxes violated the first amendment’s “nonestablishment of religion” clause. The court concluded that this argument “also falls flat.” It noted that government actions (including tax assessments) do not violate the nonestablishment of religion clause if they have a clearly secular purpose, a primary effect that neither advances nor inhibits religion, and do not create an “excessive entanglement” between church and state. The court referred to a 1990 decision in which the Supreme Court ruled that “it is undeniable that a generally applicable tax has a secular purpose and neither advances nor inhibits religion.” Jimmy Swaggart Ministries v. Board of Equalization, 493 U.S. 378 (1990). As a result, the only remaining issue was whether federal tax law “fosters an excessive entanglement with religion.” The court concluded that it did not, noting that “carving out an exception to account for conflicting religious beliefs would result in the very entanglement that [the church] seeks to prevent, since it would require the IRS to examine the sincerity of a person’s religious beliefs.”
The court also relied on an earlier federal appeals court decision rejecting a church’s claim that requiring it to withhold social security taxes from nonminister employees’ wages violated the first amendment since it required government supervision and inspection of church records. The court, in rejecting this argument, concluded that the “entanglement” between church and state was minimal. Bethel Baptist Church v. United States, 822 F.2d 1334 (3rd Cir. 1987).
In summary, subjecting churches to the requirements of federal tax law does not violate the first amendment’s nonestablishment of religion clause, since “the tax system has a secular purpose, neither advances nor inhibits religion, and does not foster an excessive entanglement with religion.”
A “New Testament Church”
The church attempted to disregard all previous court decisions addressing the obligation of churches to pay taxes by pointing out that none of them involved a “New Testament Church.” The court rejected this argument, noting that “this is a distinction without a difference. We find no reason not to apply the clear principles set forth by the Supreme Court to [the church] simply because it designates itself as a New Testament Church.”
Neither a Corporation nor Unincorporated
The court also rejected the church’s novel argument that it was neither a corporation nor an unincorporated entity, but rather a New Testament Church and nothing more. The court observed that this position “fails to recognize the legal nature of [the church], which the record establishes to be that of an unincorporated religious society.”
The Correct Entity
The church asserted that the IRS was attempting to collect unpaid payroll taxes from the wrong entity. It pointed out that the IRS assessment of taxes was directed at the church corporation (which had been dissolved), rather than at the unincorporated church or New Testament Church. Part of the confusion no doubt was caused by the unincorporated church’s refusal to obtain an employer identification number. The court assumed that the IRS intended to direct its assessment against the unincorporated church entity, but that it failed to do so. The court warned that the unincorporated New Testament Church “could be held liable for the assessed taxes,” and it ordered the parties to file additional briefs on this issue.
Application. It is now clear, based on this case as well as those cases cited by the court, that any attempt by a church to avoid compliance with applicable federal payroll tax obligations (including the withholding and payment of income taxes and social security taxes) on the basis of the first amendment, its religious beliefs, or its unique structure or status, will be summarily rejected by the civil courts. United States v. Indianapolis Baptist Temple, ___ F. Supp.2d ___ (S.D. Ind. 1999).
Tip. The church was assessed a substantial amount of penalties for failure to file, failure to deposit, and failure to pay penalties. These penalties are explained in chapters 1 and 10 of Richard Hammar’s 1999 Church and Clergy Tax Guide.
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