Ministers have a unique tax situation. Even though they are employed by a religious institution, they follow unconventional rules when it comes to their tax return.
Who qualifies as a minister for tax purposes?
The IRS has determined that the word “minister” does not reference any specific religion and is used broadly to describe a leader in any religion. For tax purposes, ministers must meet the requirements and be licensed, commissioned, or ordained by their specific religion to perform ministerial duties. These can include preaching, conducting worship, and maintaining a religious organization.
Are ministers traditional employees?
Ministers are treated as a hybrid of a self-employed worker and a traditional employee for tax purposes. In most cases, the church is a tax-exempt entity. That means the church, who is the minister’s employer, does not withhold income tax from the minister’s wages. However, in almost every other aspect of the law, ministers are considered employees. In short, a minister must pay taxes like a self-employed worker, but they are not eligible for all the tax benefits many self-employed workers enjoy.
What is included in a minister’s gross income?
A minister receives pay in exchange for many different services and from many people outside of the church. When it comes to reporting their annual income, a minister must include amounts received for performing marriages, baptisms, funerals, counseling, and other services in addition to their church salary. If they receive a housing allowance, they must also include the portion that exceeds the fair value of the home. These amounts should be entered on a Schedule C.
Any goodwill or love offerings given to a minister by a member of a church must also be included in gross income. The only time offerings made directly to the minister are tax-exempt is when they are retiring or leaving the church and given a farewell gift.
If a minister gets sent on a missionary trip to a foreign country by the church, the income earned during this time is still subject to federal income tax. They might also owe tax to the foreign country. Ministers can take the foreign earned income exclusion, the foreign housing exclusion, and the foreign tax credit to avoid being taxed twice on this income.
What is the housing allowance exclusion for ministers?
Many churches give their ministers a housing allowance. This might be a cash amount or, if the church provides a home, the value of monthly rent. This money must be part of the minister’s salary and be used exclusively for providing a home. It can cover the following costs:
- Mortgage payments
- Real estate taxes
- Home Insurance
- Other expenses
This allowance can be excluded on a minister’s tax return, but it should not exceed the fair rental value of the home, including furniture and utilities. If the amount does exceed the fair value, the extra portion is taxable.
Some districts allow ministers to exclude a housing allowance for two homes. However, Alabama, Georgia, and Florida only allow one home.
In addition, a minister must reduce the deductions they take for business expenses by the percentage of compensation attributable to the tax-free housing allowance. Itemized deductions for mortgage interest and real estate taxes can still be taken for the full amount.
What taxes are ministers responsible for?
In some cases, ministers can request that the church withhold income taxes from their paycheck. But usually, ministers must use Schedule SE to calculate their self-employed tax. Even though a minister can exclude the housing allowance from their gross income, they must include it when calculating the self-employment tax. To avoid being charged an underpayment penalty on their tax return, ministers should also pay quarterly estimated payments.
Even though a minister pays the self-employment tax, they are not eligible to file a Schedule C to deduct business expenses related to their wages from the church. However, they can file a Schedule C to deduct expenses incurred from marriage, funeral, and other services performed.
How can a minister apply for an exemption?
Self-Employment Tax Exemption
A minister can apply to be exempt from paying the self-employment tax. This exemption will only apply to their wages from the church, not other services performed. They must fill out Form 4361 and attach a statement stating they have taken a vow of poverty or oppose public insurance. Ministers should complete this application in the second tax year in which they earned at least $400. Then they must meet one of the following tests:
- A religious test based on the doctrine of their church, or
- A conscientious opposition test
One stipulation worth noting is that if a minister applies to be exempted from the Social Security tax (included in the self-employment tax), they will not be eligible to receive benefits from Social Security in the future. Once the exemption is in place it can’t be undone.
Federal Income Tax Withholding Exemption
If a minister wishes for a church to withhold income tax from their paycheck, they may apply for an exemption with Form W-4.