Designation by the Employing Organization
Business Expenses and Excluded Income
Vows of Poverty
Self-Employment Tax Exemption
Members of the clergy are taxed on not just their salary but on other fees and contributions that they receive in exchange for performing services such as marriages, baptisms, funerals, and masses. As a result, clerics will generally report their income in two ways:
As Employees – As employees, clerics receive from the church W-2 forms that show the amount of their income that is subject to tax, any amount paid as a nontaxable housing allowance (discussed later), and any withholding.
As Self-Employed Individuals – Income received by a cleric other than as an employee of a church is reported as self-employment income. Typically, this would include fees received for services provided for baptisms, weddings, funerals, and other religious ceremonies that are not included in the W-2 from the church. This income and any expenses associated with it are reported on Schedule C and are subject to the self-employment tax.
Members of the clergy may qualify for two unique tax benefits: a tax-free parsonage allowance and an exemption from the self-employment tax on their ministerial earnings. Here are the details for both.
Parsonage/Rental Allowance Exclusion from Income – A member of the clergy can qualify to have a rental allowance excluded from taxable income if that allowance is provided as remuneration for services that are ordinarily the duties of a minister of the gospel. The following are the qualifications and details of the exclusion allowance:
The allowance is excludable only to the extent that it is used for expenses related to the minister’s housing (e.g., rent, mortgage payments, utilities, and repairs).
The rental allowance is not excludable to the extent that it exceeds reasonable compensation for the minister’s services.
The allowance only applies to the minister’s primary residence.
The allowance cannot exceed a home’s fair rental value, including furnishings and appurtenances such as garages, plus the cost of utilities.
In advance of the payment, the employing organization must designate the allowance by an official action. If a minister is employed by a local congregation, the designation must come from the local church instead of from the church’s national organization.
The portion of the minister’s business expenses that is attributable to tax-free income is not deductible. This rule does not apply to home-mortgage interest or to taxes that are deductible in full if the minister itemizes deductions.
Retired clerics can exclude a home’s rental value or a rental allowance if it is furnished as compensation for past services and authorized under a convention of a national church organization. However, this exclusion does not extend to the widow or widower of a retired cleric.
Although it is not subject to income tax, a parsonage allowance is subject to the self-employment tax unless the minister is exempt (as discussed below).
Minister’s Exemption from Self-Employment Tax – A minister who hasn’t taken a vow of poverty is subject to self-employment tax on income from services performed as a minister. Non-reimbursed business expenses are deductible when computing which earnings are subject to the self-employment tax, even though the expenses for income tax purposes are not deductible by employees due to suspension of the deduction for miscellaneous itemized deductions in years 2018 through 2025.
An ordained minister may be granted an exemption from the self-employment tax for ministerial services only. To qualify, the church employing the minister must qualify as a religious organization under Code Section 501(c)(3). The application for an exemption is filed with Form 4361 (Application for Exemption from Self-Employment Tax for Use by Ministers, Members of Religious Orders, and Christian Science Practitioners).
To claim an exemption from the self-employment tax, the minister must meet all of the following conditions and file Form 4361 to request exemption from the self-employment tax. The minister must:
Be conscientiously opposed to public insurance because of his or her individual religious considerations or because of the principles of his or her religious denomination (not because of general conscience).
File for noneconomic reasons.
If a minister or a member of a religious order (other than a vow-of-poverty member), inform the church’s or order’s ordaining, commissioning, or licensing body that he or she is opposed to public insurance. This requirement doesn’t apply to Christian Science practitioners or readers.
Establish that the organization that ordained, commissioned, or licensed him or her (or his or her religious order) is a tax-exempt religious organization.
Establish that the organization is a church (or a convention or association of churches).
Not have previously filed Form 2031 (Revocation of Exemption from Self-Employment Tax for Use by Ministers, Members of Religious Orders, and Christian Science Practitioners) to elect for Social Security coverage.
Form 4361 must be filed on or before the return’s extended due date for the second tax year in which the individual has net self-employment earnings of $400 or more (part of which is from services as a minister). A late application will be rejected.
The time for application starts over when a minister who previously was not opposed to accepting public insurance (i.e., Social Security benefits) enters a new ministry (e.g., joins a new church and adopts beliefs that include opposition to public insurance). However, the IRS has said that there is no second chance to apply for exemption if a minister is ordained in a different church but does not change his or her beliefs regarding public insurance (i.e., the minister opposed the acceptance of public insurance in both faiths).
Careful consideration should be made before applying for an exemption from the self-employment tax, as once the decision is made, the election is irrevocable.
If you have questions related to any of these issues or how they may apply to your situation, please give this office a call.
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Tim Thompson CPA PLLC is located in Dallas, Texas and is an expert in all areas of Texas taxes. We can help with individual or business taxes, tax resolution, tax preparation, and tax planning services.