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Although a minister is considered an employee under the common law rules, payments for services as a minister are considered income from self employment pursuant to IRC §§ 1402(c ) and 3121(b)(8). A minister, unless exempt, pays social security and Medicare taxes under the Self-Employment Contributions Act (SECA) and is not subject to Federal Insurance Compensation Act (FICA) taxes or income tax withholding.
Payment for services as a minister, unless statutorily exempt, is subject to income tax, therefore the minister should make estimated tax payments to avoid potential penalties for not paying enough tax as the minister earns the income. If the employer and employee agree, an election can be made to have income taxes withheld. IRC § 3402(p)(3). Even though a minister may receive a Form 1099-MISC for the performance of services, he or she may be a common law employee and should in fact be receiving a Form W-2.
The determination of whether a minister is an employee or an independent contractor follows the same rules as any other industry determination. The challenge with a minister is the same as with any professional. The control test must be applied only after taking into account the nature of the work to be performed.
How a minister is classified for income tax purposes effects how they treat their expenses. A minister that is a common law employee must claim their trade or business expenses incurred while working as an employee as an itemized deduction on Form 1040 Schedule A, which is subject to the 2% -of-adjusted-gross-income (AGI) limitation and alternative minimum tax.
A minister is frequently provided a parsonage or is paid a housing allowance, which is exempt from income tax under IRC § 107. The “allowable” allowance is subject to self employment tax under SECA and IRC § 1402(a)(8). The “allowable” allowance is computed subject to limitations imposed by law as to the amount and the required designation by the employing church which is discussed in detail under the section on the parsonage allowance. Please be aware of the special rules for retired ministers. See 42 U.S.C. § 411(a)(7).
Because of the exemption from income tax for the “allowable” parsonage or housing allowance, the operation of IRC § 265 requires business expenses to be allocated between taxable and non taxable income. Other business expenses discussed in this guide are common to all other professionals.
Some other issues of ministers you may see in a smaller number of cases are:
- The earnings for qualified services a member of an exempt religious order, who has taken a vow of poverty, performs as an “agent” of their church or its agencies, may be exempt from income tax and self employment tax.
- Gifts given to a minister, other than retired ministers, may actually be compensation for services, hence includible in gross income under IRC § 61.
To summarize the topics unique to ministers are:
- Income Issue: Parsonage/Housing Allowance
- Income Issue: Gift or Compensation
- Income/SE Issue: Members of Religious Orders and Vow of Poverty
- SE Issue: Exemption
- SE Issue: Computing SE Income
- Employee or Independent Contractor
- Business Expenses: Operation of Section 265
Please refer to the table of contents for the location of each issue.