Some pastors find themselves saying something along the lines of, "I am so upset that I owe $5,875.00 on my tax return!" Or you may hear another pastor saying how excited they are because they would be receiving a refund of $9,167.
While we celebrate the refund the one pastor is getting, the sad fact is that both pastors made exactly the same amount of income last year. How can two pastors with the same income and number of dependents have completely different tax returns? It all has to do with knowing the special rules that favor pastors.
Every year, thousands of pastors overpay on their taxes because they are not aware of the IRS special rules that, when correctly applied, give one minister a $9,000 refund while another minister, in the exact same bracket, but unaware of the special rules, owes nearly $6,000.
Two Pastors, Same Salary
Believe it or not, the current tax code actually favors pastors. However, the laws within the tax code only favor a minister if they are well acquainted with those special rules. Let's take a closer look at the two pastors.
Both pastors earned a salary of $55,000 from their churches. Additionally, each minister was married and had four kids. However, each minister had very different results on their tax return. Below is the difference:
— Pastor 1 with a salary of $55,000.00 and 4 kids had to pay $5,875.00.
— Pastor 2 with a salary of $55,000.00 and 4 kids got a refund of $9,167.00.
Let's consider the difference between the two. Pastor 1 did not have a properly set up housing allowance, nor did he have a self-employment tax exemption. Pastor 2 had set up his housing allowance using StartCHURCH services with the help and knowledge of their StartCHURCH bookkeeper, and they combined it with a self-employment tax exemption.
What is the Difference?
Many pastors do not know that when they combine the housing allowance and self-employment tax exemption afforded to pastors, it results in powerful tax savings and refundable tax credits. In fact, the pastor in the second example received a $9,167 refund even though he did not have any taxes withheld. In other words, they kept 100% of their paycheck with no withholdings and still received a $9,167 refund. Let me show you the difference between the two pastors.
— Pastors 1 and 2 received salaries of $55,000.
— After paying his tax bill, Pastor 1 ended up with $49,125 in his pocket.
— After filing his tax return, Pastor 2 ended up with $64,167.
Let those numbers sink into your mind. Pastor 2 ended up with $15,042 more than Pastor 1. After two years, that savings results in $30,084, and after five years, it is $75,210. With that kind of savings, the pastor and his family could pay off their house, car or their children's college tuition. For many pastors, it is like getting a big raise. Unfortunately, for other pastors, it is not their reality because the tax preparers they hire are not familiar with these tax privileges.
Here are three major tax benefits available to pastors and ministry leaders:
— Maximize your housing allowance.
— Secure your self-employment tax exemption.
— Deduct your business miles from your home.
Three Great Tax Privileges for Pastors
1. Maximize your housing allowance. Maximizing your housing allowance takes some planning and careful documentation from the beginning. Once you have done the hard work on the front end, it becomes quite simple to manage each year.
The key to maximizing the housing allowance is to set it up as a designation of salary and not necessarily as a part of compensation. Because of the IRS' "least of these" rules, when a pastor receives a housing allowance payment instead of a designation, they will likely leave money on the table each year when it comes to taxes.
You may be thinking this does not make much sense. It may take a little bit of time soaking in this concept to understand it fully. But trust me, once you learn it, you will be pleasantly surprised at how much you will save each year.
2. Understand Self-Employment Tax Exemption. This is a big one. Over the last several years, many of the tax professionals with whom I have spoken were not familiar with the rules concerning the self-employment tax exemption afforded to ordained pastors.
However, to the surprise of many pastors, one can apply for exemption from paying the 15.3% self-employment tax without losing Social Security benefits. Using the example of the two pastors who both made $55,000 per year, we can gather that an exemption from having to pay the self-employment tax means a tax savings of more than $8,000 because of the Earned Income Credit rules that apply. That is huge! This tax advantage is found in section 1402. I believe that the majority of pastors, once they gain a proper understanding of the term "public insurance," will easily qualify for the self-employment tax exemption.
3. Deduct those business miles from your home. For pastors who do not have a self-employment tax exemption, this is the next best thing. Did you know that if you meet certain requirements, you are able to deduct your miles from your home to the church office? From our experience in helping thousands of pastors with their income tax returns, this is the deduction that many pastors do not know exists.
In Revenue Ruling 99-7, the IRS ruled that travel between your home office and the church office (or other church/ministry-related travel) is a deductible expense. When 100% of all your miles from your home office to your church office are deductible, it lowers your self-employment tax.
A Partner You Can Trust
You are not alone in this journey. Each year we serve hundreds of pastors, just like you, with their personal income tax returns through our minister's tax service. Our team of CPAs and bookkeepers understand the many benefits available for minister's taxes. If you have pressing questions, give us a call at (888) 642-4070 and ask to speak with one of our helpful specialists. We would love to find out more about how we are able to serve you.
Raul Rivera has had ample experience in the church planting world. His current venture, StartCHURCH, has helped thousands of churches to start right. He has compiled an array of manuals and software tools that help churches stay compliant with the IRS. He also hosts over 35 national conferences per year, training pastors on how to launch their churches. He is married to his wife, Genel, and they live in Atlanta, Georgia, with their five children.
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