Tax preparation software packages, such as TurboTax, TaxAct, H&R Block, and TaxSlayer, are popular ways for individuals to prepare their own income tax returns.
The upside of using tax preparation software packages
Most of the leading income tax preparation software are popular because they are:
Accessible. They come in boxed, downloadable, or online versions.
Affordable. Most are in the $50 to $150 range for the federal self-employed version. There may be an additional cost to prepare a state return. However, some versions are free for lower-income individuals.
Convenient. These packages allow users to e-file federal (and sometimes state) returns. This helps speed along the refund process. A higher-end package usually offers optional (for an additional fee) add-ons such as:
- the ability to import tax data from other sources (e.g., from investment accounts or from Quicken/QuickBooks);
- the ability to track real-time information during the year (such as TurboTax’s ItsDeductible feature for tracking charitable donations);
- an interview interface to guide you through the preparation process;
- error-checking of the return after it has been prepared;
- a deduction finder to alert you to income tax deductions that may be applicable;
- easy access to IRS publications and tax practitioner explanations;
- tax planning assistance;
- audit defense (for example, in the case of an IRS audit, the manufacturer will defend the income tax filer if there is an error resulting from the use of the manufacturer’s product), and
- financial or retirement planning assistance.
Tax preparation software packages often do not address three tax rules applicable to duly ordained, licensed, or commissioned ministers who are paid for services performed in the exercise of their ministry.
These rules do not apply to income or wages earned by a minister outside of the ministerial context (such as in secular employment).
1. Social Security and Medicare taxes
Under federal tax law, ministers employed by a church have a “dual tax status.”
They are considered employees for federal income tax purposes but are considered self-employed for federal employment tax purposes.
Therefore, a minister will generally receive a Form W-2 from his employing church for wages earned, but those wages are not subject to employee- and employer-paid FICA taxes (the 7.65 percent each respective side pays into the Social Security and Medicare systems).
Instead, ministers are responsible for paying the full 15.3 percent due into Social Security and Medicare through the payment of self-employment taxes (also known as SECA), which are computed on Schedule SE of their personal income tax returns.
Ministers who are conscientiously opposed to, or because of their religious principles are opposed to, the acceptance of any public insurance (such as Social Security or Medicare) with respect to their ministerial earnings may elect out of the Social Security and Medicare system by filing Form 4361 with the IRS.
Form 4361 generally must be filed within two years of the first year that a minister has earnings from ministerial work. Ministers who have made this election would not complete Schedule SE but would enter “Exempt-Form 4361” on the dotted line next to Form 1040, Schedule 2, line 4, and/or Form 1040, line 23 (other taxes, including self-employment tax).
Ministers using tax preparation software should check to make sure that the software accepts their Form W-2, since a properly prepared Form W-2 will not show their wages as subject to Social Security or Medicare taxes.
The minister also should make sure that their wages are being treated by the software package as self-employment income, for purposes of computing the self-employment tax, if applicable to the minister.
For ministers opting out of the Social Security and Medicare system, check to make sure that the tax software package makes the notational entry on Schedule 2, line 4, and/or line 23 of the Form 1040.
2. Parsonage or housing allowance exclusion
Ministers may exclude from their taxable income the annual fair rental value of a parsonage provided rent-free by their church as part of their compensation package.
Ministers living in their own homes may exclude from their taxable income cash payments that have been properly designated by their employing church as a ministerial housing allowance, up to the lesser of (1) the amount used to pay for housing-related expenses (such as mortgage payments or rent, utilities, repairs, furnishings, insurance, property taxes, improvements, maintenance, and homeowners’ association dues), or (2) the fair rental value of the home, including furnishings and utilities.
The excess of the amount designated over the excludable amount should be included in taxable income (and the words “Excess Allowance” should be added on the dotted line next to the appropriate Form 1040, Line 1h).
The allowance is excludable for income tax purposes only. For ministers who have not opted out of the Social Security and Medicare system, their parsonage/housing allowance must generally be included in determining their self-employment tax.
Therefore, ministers using tax preparation software should check to make sure the package is properly limiting the housing allowance exclusion based on the limitations noted above, including the ”Excess Allowance” notation, and that the package is properly including the parsonage/housing allowance amount in the calculation of self-employment income.
3. Limitation on—or disallowance of—business expense deductions
Many ministers may incur unreimbursed expenses in connection with their church employment. For tax years 2018 through 2025, such unreimbursed employee business expenses are not deductible for federal income tax purposes. (However, such expenses are still deductible for self-employment tax purposes.)
Ministers may also incur expenses, such as travel expenses, in connection with ministerial income earned outside of their employment (such as honorarium payments received for speaking engagements, weddings, or funerals). Business expenses related to ministerial income earned outside of a minister’s employment (reportable on Form 1040, Schedule C) incurred in connection with ministerial earnings are not deductible for federal income tax purposes to the extent that they are allocable to tax-exempt parsonage or housing allowances.
To compute the nondeductible portion, the minister should first determine his total ministerial income, including the parsonage/housing allowance. The minister should then divide the parsonage/housing allowance by the total ministerial income to determine the nontaxable percentage. This percentage should then be applied to any business expenses incurred to determine the nondeductible portion. Only the deductible portion should then be reported on Schedule C.
For detailed tax guidance: Additional information is in Richard Hammar’s annual Church & Clergy Tax Guide. Chapter 13 of Hammar’s guide contains a sample minister’s tax return (prepared by Batts Morrison Wales & Lee, CPAs) illustrating the concepts described in this article. Ministers should also consider seeking the advice of a tax professional with experience in preparing ministers’ tax returns.
Many tax software packages do not automatically calculate the nondeductible portion of business expenses allocable to the tax-free portion of a minister’s income. Ministers will therefore need to manually adjust these expenses and input the reduced figure into the software for purposes of computing the income tax deduction. However, since the parsonage/housing allowance is included in the computation of the amount subject to the self-employment tax, the full amount of the business expenses should be used to compute the net earnings from self-employment reportable on Schedule SE.
Consider a professional tax preparer review
Because these unique rules are so critical to filing accurate and mistake-free returns, ministers who opt to use tax preparation software may wish to have returns reviewed by a tax professional with experience in preparing ministers’ returns.
Michele Wales is a partner and the national director of tax services for BMWL. She has oversight responsibility for the firm’s tax practice, with expertise in federal, state, and local tax issues affecting nonprofit organizations and their affiliates. Michele has more than 25 years of experience in public accounting, and has also served as chief financial officer for a large nonprofit social services agency and controller for an airplane manufacturing company. She has been a conference speaker on nonprofit taxation issues at both the local and national levels. Michele is based in our national headquarters office in Orlando.
Sophie Chevalier is a manager for BMWL. She received her bachelor’s degree in accounting from Burnett Honors College at the University of Central Florida, where she graduated with highest honors. As a manager, Sophie’s responsibilities include communicating directly with clients; performing research and analysis related to technical tax issues at the federal, state, and local levels; providing tax advisory services related to exempt organization corporate structure planning; obtaining and maintaining federal, state, and local tax exemptions; evaluating exempt organizations’ tax compliance; contributing to OnPoint feature articles and special alerts; supervising tax team members; and other related matters. She has been a conference speaker on nonprofit taxation issues at both the local and national levels. Sophie is based in our national headquarters office in Orlando.
Jessica Hebb is a senior team leader for BMWL. She received her master’s and bachelor’s degrees in accounting from the University of Central Florida, where she graduated with highest honors. As a senior team leader, Jessica’s responsibilities include communicating directly with clients; performing research and analysis related to technical tax issues at the federal, state, and local levels; providing tax advisory services related to exempt organization corporate structure planning; obtaining and maintaining federal, state, and local tax exemptions; evaluating exempt organizations’ tax compliance; and other related matters. Jessica participates in appropriate continuing professional education in nonprofit accounting and taxation. Jessica is based in our national headquarters office in Orlando.