Key point. "Love gifts" made by churches and church members to clergy constitute taxable compensation for services performed rather than nontaxable gifts.
The United States Tax Court ruled that "love gifts" made by a church to its pastor represented taxable compensation.
A church had 25 to 30 active members and as many as 7 ministers, and offered services three days each week. The lead pastor had informed the church's board of directors that he did not want to be paid a salary for his pastoral services but would not be opposed to receiving "love offerings," gifts, or loans from the church.
The pastor and his wife managed the church's checking account, and jointly signed all of the church's checks. They signed numerous checks in 2012, made payable to the pastor, with handwritten notations such as "Love Offering" or "Love Gift" on the memo line. The church transferred "love offerings" to other members of the church, including the pastor's wife.
In 2012, the church's bookkeeper prepared and sent to the pastor a Form 1099-MISC reporting that he had received nonemployee compensation of $4,815 from the church. When the bookkeeper left the church in late 2015, the pastor's daughter became the church's bookkeeper.
The pastor filed a joint federal income tax return for 2012, claiming a deduction for a charitable contribution of $6,478 to the church. He did not, however, include as an item of income the $4,815 of nonemployee compensation reported on Form 1099-MISC. Although the pastor did not dispute that he had received $4,815 from the church, he insisted that the amounts transferred to him were improperly reported as nonemployee compensation when in fact they were nontaxable "love offerings," gifts, or loans.
The IRS audited the pastor's 2012 tax return, and determined that the $4,815 represented taxable income, and not a nontaxable love gift. The IRS also ruled that none of this amount could be characterized as a tax-free loan since neither the church nor the pastor was able to produce objective evidence, such as bank records or a promissory note, showing that the church made any loans to the pastor.
The pastor appealed to the Tax Court, which affirmed the decision of the IRS. The court concluded:
In Commissioner v. Duberstein, 363 U.S. at 284-285, the United States Supreme Court stated that the problem of distinguishing gifts from taxable income "does not lend itself to any more definitive statement that would produce a talisman for the solution of concrete cases." The Supreme Court concluded that, in cases such as this one, the transferor's intention is the most critical consideration, and there must be an objective inquiry into the transferor's intent. In other words, rather than relying on a taxpayer's subjective characterization of the transfers, a court must focus on the objective facts and circumstances.
The record shows that the transfers were made to compensate [the pastor] for his services as pastor. As the pastor candidly explained at trial, he had informed the board of directors that he would accept "love offerings" and gifts as substitutes for a salary. The church's bookkeeper at the time considered the payments to be compensation as is reflected in the Form 1099-MISC that she issued to him. In the light of these facts, the pastor's subjective characterization of the transfers as nontaxable "love offerings" and "love gifts" is misguided.
The pastor did not offer the testimony of any members of the congregation (including the other directors) or [the former bookkeeper] that would allow the court to conclude that the transfers were anything other than compensation for services. The frequency of the transfers and the fact that they purport to have been made on behalf of the entire congregation is further objective evidence that the transfers represented a form of compensation.
In conclusion, we hold that the amounts that the pastor received from the church in 2012 represented compensation for services and, thus, constituted taxable income to him.
What this means for churches
This case addresses the recurring question of the distinction between nontaxable gifts and taxable compensation for the performance of services. Note the following points:
1. Ministers often receive "love gifts" from their employing church or directly from individuals. Love gifts from a church typically are funded by a "love offering" collected by the church from members. Whether collected in an offering, or paid directly by members to their minister, the question is whether such payments represent taxable compensation or tax-free gifts. The tax code excludes "gifts" from taxable income. IRC 102. But it also broadly defines taxable income as "all income from whatever source derived, including (but not limited to) the following items … compensation for services, including fees, commissions, fringe benefits, and similar items." IRC 61. This means that any "love gift" provided to a minister, whether from individuals or a church, constitutes taxable income if the transferor's intent was to more fully compensate the pastor for services rendered.
2. The Tax Court stressed that a donor's intent must be assessed in light of objective facts and circumstances. The court concluded that in this case the facts unequivocally demonstrated that the intent of donors and the church itself was to compensate the pastor for services he performed. The court pointed to the following facts:
The pastor informed the board of directors that he would accept "love offerings" and gifts as substitutes for a salary. The church's bookkeeper at the time considered the payments to be compensation as is reflected in the Form 1099-MISC that she issued to him. The pastor did not offer the testimony of any members of the congregation (including those on the board) that would allow the court to conclude that the transfers were anything other than compensation for services. The frequency of the transfers and the fact that they purported to have been made on behalf of the entire congregation is further objective evidence that the transfers represented a form of compensation.
3. The court referenced section 102(c) of the tax code, which specifies that the definition of the term gift does not include "any amount transferred by or for an employer to, or for the benefit of, an employee." However, it noted that the IRS did not raise this issue or contend that the pastor was an employee of the church.
4. Love gifts almost always will constitute taxable income rather than tax-free gifts because the donor's intent is to more fully compensate the pastor for services performed. There is a significant risk of getting this wrong. If a love gift is not reported as taxable income by the church or the recipient in the year it is provided, the IRS may be able to assess intermediate sanctions in the form of substantial excise taxes against the recipient, and possibly members of the church board, regardless of the amount of the benefit, under section 4958 of the tax code.
Jackson v. Commissioner of Internal Revenue, T.C. Summ. 2016-69 (2016).