THE QUESTION: WHAT HAPPENS WHEN A PASTOR . . .

• Determines his compensation at his own direction with no input from the Board of Directors or approval from the congregation?

• Tries to prevent the finance committee from issuing him a Form 1099?

• Instructs the church finance committee not to include “love offerings” in his compensation?

• Receives such high levels of compensation that the church is forced to deplete its building fund to make payroll?

• Instructs the church finance committee to “doctor” the financial report given to the congregation so that it appears that the church is in the “black” when the church is really in the “red?”

• Uses one of the church’s credit cards to make personal expenditures and for which no receipts of other accounting was provided?

• Has unrestricted use of gas credit cards in the name of the church and cell phones paid for by the church without any requirement to account for personal use of the cards and phones;

• Receives payments from the church to fund a retirement plan?

• Has a travel allowance of almost $25,000.00 in one year and also submits requests for reimbursements for travel expenses?

• Receives payments for his child’s school tuition of more than $30,000.00?

• Has unlimited use of a Mercedes-Benz leased by the church with a value of nearly $83,000.00?

• Fails to report more than $2.3 million in taxable income to the IRS?

THE ANSWER:  A WHOLE LOT OF TROUBLE

Bishop Anthony Jinwright, Pastor at Greater Salem City of God, a church in Charlotte, North Carolina, was recently convicted on federal tax evasion and mail fraud charges.  Both Bishop Jinwright and his wife were convicted of tax evasion and can anticipate spending many years in prison.  The Jinwrights are scheduled for sentencing later this year.

The conviction of Bishop Jinwright provides a picture perfect example of how your church or ministry should not handle compensation issues.

At first glance, you may think that there is no reason why you should be concerned about these issues as they relate to compensation—your salary is set by the church’s board of directors and there is no way you would even consider using the church’s credit card without accounting for it.  However, you need to consider these issues for the simple reason that the Internal Revenue Service is considering whether your compensation is reasonable or whether it is excessive.

In recent years, the IRS has expressed concern with the level of compensation that nonprofit organizations provide to their employees, and it has enacted penalties against organizations that “overly compensate” their employees.  The following two concerns have been specifically identified by the IRS with respect to compensation issues:

(1) Excessive Compensation: For purposes of computing compensation, the IRS considers every benefit an individual receives from the organization as part of that individual’s total compensation.  Therefore, salary is only one component that the IRS will consider when determining if compensation is excessive.  The IRS is clearly concerned about the payment of excessive compensation by exempt organizations.  Tax-exempt organizations must be aware that payments of any kind and for any reason that direct the resources of the organization toward an individual are also considered in the calculation of an individual’s compensation.

(2) Fringe benefits: The IRS has expressed concern over the failure by many exempt organizations to recognize that some fringe benefits constitute taxable income to their employees.  Fringe benefits include enrichments such as the private use of a vehicle that is owned or leased by the organization, payment of an individual’s automobile insurance premiums, payment of a child’s school tuition, and an organization’s payment of an employee’s personal expenses, including some household expenses, country club dues, maid services, and vacations.

For example, the pastor in the above real-life example allegedly received a compensation package that approximately included all of the following benefits:

• $300,000.00 annual salary  +

• $160,000.00 housing allowance +

• $45,000.00 vehicle allowance +

• $52,000.00 annual bonuses +

• $44,000.00 for vacations +

• $130,000.00 in federal income tax liability and social security payments +

• $30,000.00 tuition payments for his daughter +

• And a variety of other “fringe benefits.”

What are the Penalties?

When a pastor receives excessive compensation, as determined by the IRS, he will also face “intermediate sanctions.”  Federal law imposes a series of intermediate sanctions on individuals who are involved in any transaction that results in any disqualified person receiving an excess benefit from a nonprofit organization.  A disqualified person receives an excess benefit if that person directly or indirectly receives an economic benefit from a tax-exempt organization that exceeds the value of the consideration received by the organization.  A “disqualified person” is any person in a position to exercise substantial influence over the affairs of the organization at any time.

For example, if the IRS were to determine that the salary of the pastor in our real-life scenario should only be $100,000.00, then our pastor has received an “excess benefit” of approximately $661,000.00.  Under existing law, the pastor must repay the $661,000.00 excess benefit to his church.  In addition, he must pay an excise tax to the IRS equal to 25% of the excess benefit.  If the pastor does not or cannot repay the excess benefit to his church within the same tax period (defined as the date of the transaction to the date of the assessment or notice of deficiency), then a 200% excise tax on the excess benefit is further imposed on the pastor by the IRS.

It is important to note that in addition to the penalties that will be levied against the pastor who receives the excess compensation, the nonprofit organization’s managers (i.e. the Board of Directors) who were aware of and participated in the excess benefit transaction will also be personally liable for paying an excise tax equal to 10% of the excess benefit, up to a maximum of $10,000.00, to the IRS for each excess benefit transaction that took place.

What should a Church do?

To avoid encountering problems with executive compensation, a nonprofit organization must establish good compensation practices.  Such practices include:

• Having your Board of Directors appoint an independent compensation committee to conduct a compensation study;

• Setting compensation in advance using appropriate comparability data;

• Making sure the Board of Directors has appropriate oversight of compensation; and

• Documenting all decisions on compensation;

If you have specific questions regarding the topic of compensation issues, contact The Church Law Group for more extensive legal advice.

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Entitlement to a clergy housing allowance is not as straightforward as is often imagined.  Right now, religious nonprofit organizations are under heavy assault by the IRS, so a conservative approach is warranted.

The Internal Revenue Code allows a tax-free housing benefit for a “minister of the gospel” in two situations.  First, the employer can allow the minister to live rent-free in a home (parsonage) owned by the church.  The minister can exclude this benefit from gross income up to the home’s fair rental value.  The value of the parsonage must be clearly distinguished from other compensation, and includes items such as furniture, insurance, utilities, and taxes.  Second, if a parsonage is not provided to the minister, a nontaxable housing allowance can be provided so that the minister can rent or buy a home.  This is the option used most frequently.  It provides ministers with the freedom to choose their preferred type of housing.  The allowance covers items such as mortgage payments (principal and interest), insurance, repairs, utilities, and other expenses to keep the home in working order.

Although the term “minister” is not defined in the Internal Revenue Code, the IRS and courts have specified five factors that should be used to identify a minister.  The factors include:

• Performing sacerdotal functions (i.e. weddings and funerals, etc.);
• Conducting worship services;
• Controlling or maintaining the organization;
• Considered a spirtual leader; and
• Ordained, licensed, or commissioned.

Only the last factor is required in all cases: the individual must be ordained, licensed, or commissioned.  Although it is clear from existing caselaw that the remaining four factors need not all be present for a person to be considered a minister for tax reporting, it is unclear how many of the remaining four factors must be met.

It is not uncommon for an employee’s job duties to include both ministerial and nonministerial functions.  However, if more than 50% of an employee’s time is devoted to nonministry (i.e. secular) duties, the church will be put in a tenuous position if it grants a housing allowance to the employee.  Many churches think it seems unfair to exclude employees from the benefits of a housing allowance if part of their job involves performing the typical duties of a minister.  However, the church cannot ignore the fact that if most of the employee’s duties are secular, in the eyes of a court they will fail to meet the definition of a minister. 

The Church Law Group has released a Guide to Executive Compensation (with forms) that is now available for purchase. Email churchlawgroup@amlawteam.com or call 972-444-8777 if you have any questions about clergy housing allowances or are interested in the Church Law Group Guide to Executive Compensation.

You can also visit us on You Tube to hear David Middlebrook speak about some important  information on housing allowances!!!

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The congregation at New York’s Riverside Church thinks a compensation package allegedly offered to their new Senior Pastor is just too much. The compensation package is allegedly in excess of $600,000.00, and supposedly includes an “annual base salary of $250,000.00, a monthly housing allowance of $11,500.00, pension and life insurance benefits; entertainment, travel and “professional development” expenses; an equity allowance for the future purchase of a home; money for a full–time maid; and private school tuition” for his young daughter. (See New York Times for the full article).

The congregation has even taken the matter to court trying to stop the new pastor—along with the $600,000.00 price tag—from being installed as senior pastor of their church. Although the court has effectively denied the congregant’s motion, we can all learn an important lesson from this church dispute: the IRS is not the only one watching how much your pastor or nonprofit executive is taking to the bank.

While it is typically the IRS that raises a red–flag warning when compensation paid to ministers or other nonprofit executives is too high, this recent story demonstrates that a Pastor’s compensation can also raise concerns among the congregation itself.

We often stress to our clients how important it is for their church or ministry to carefully assess and evaluate whether the compensation that they are paying to their senior pastors, key executives, and other insiders, is reasonable as required by the Internal Revenue Service. One of the best ways to assess whether compensation is reasonable is to conduct a compensation study.

The Church Law Group has released a Guide to Executive Compensation (with forms) that is now available for purchase. Email churchlawgroup@amlawteam.com or call 972-444-8777 if you have any questions about executive compensation or are interested in the Church Law Group Guide to Executive Compensation.

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