Many churches pay little attention to the concept of “reasonable compensation”.
Nonprofit organizations, of which churches make up by far the largest percentage, must serve public interests not private. As a result, an individual should not receive assets from a nonprofit entity simply because they have a significant relationship with the charity. If this happens, the private inurement might have occurred. If the IRS finds that inurement has occurred, painful penalties, called “intermediate sanctions” may be assessed on the individual receiving the resources. Penalties may also be assessed on the organization’s board for allowing this to happen.
One often overlooked aspect of private inurement is the concept of compensation. Nonprofit organizations can only pay a reasonable compensation to its employees. Like beauty, reasonable can be in the eye of the beholder. So, what is reasonable compensation?
Fortunately, the IRS lays down some guidelines to help answer this question. If a church:
Requires an independent compensation committee to set salaries that,
Based its decisions on comparative data of other similar churches and,
Documents its decisions in writing,
a presumption of reasonableness is established.
Overlooked danger zone – The Pastor’s Discretionary Fund
Many churches, for privacy purposes, establish special funds in which the pastor has total control over to cover sensitive benevolence issues. While it is understandable why some churches take this course there is one point that must be made. If any of the funds can be, at the pastor’s sole discretion, be diverted to the pastor or his family, the entire amount could be considered income. If your church has such a fund it would be a good idea to review the terms the church has established (if any) to administer the account.
The AICPA CPA Letter Daily reported that companies that receive payments from credit cards or third-party settlement agencies may have to keep an eye out for 1099-K forms this year. These forms will be sent to businesses that receive more than $20,000 in gross payments from at least 200 transactions annually. Companies that receive both a 1099-K and a 1099-MISC should make sure their income wasn’t reported twice.
That’s great advice, but how does that apply to churches? Under this new reporting under the tax code, it is likely that churches who receive donations via credit card will receive a 1099-K from their merchant. However, as a tax-exempt organization (automatic for religious institutions), there is no further reporting requirement for churches. Nonprofits who file a 990 and taxable entities will report the information from 1099-K on their respective tax return, but this new regulation doesn’t change the fact that churches are exempt from filing a 990.
Thankfully, this new requirement will have very little impact on churches. But the tax laws change frequently, so it pays to stay informed. Subscribe to our updates by entering your email address in the box to the left so you don’t miss a thing!
Have other church tax questions? Add your comment below.
-Bryan Baughman, CPA, Church and Ministry Principal at PSK, LLP
That’s right! Even though churches normally do not have to file a tax return (most nonprofits have to file an informational return annually – IRS form 990), there is certain information that you must collect and provide to the IRS. And I’m not talking about payroll tax information – 941 and W-2 forms.
If you pay at least $600 in a calendar year for the services of non-employees (and they are not corporations), you must get them to complete form W-9 (provides tax reporting information to you) and you must issue them an IRS form 1099-MISC.
And if the church operates a preschool or private school that is not separately incorporated, you must file IRS form 5578. This is a statement about racial non-discrimination.
And if your church has “unrelated business income” of over $1,000 before deducting related expenses, you must file and IRS form 990-T. Again, I’m not talking about net income of over $1,000; I’m talking about gross receipts of that amount. And you could possibly have to pay income tax! But that’s the subject of a whole new blog entry!
For more information, go to the IRS website – www.irs.gov. Or even better, contact us at www.pskcpa.com.
–Dan Williams, CPA, Church and Ministry partner at PSK LLP.
I have a friend who has reminded me to be thankful for annoying things such as the red light I am stopped at, because I am privileged enough to live in a country that has roads, and orderly ones at that. This same attitude can be applied to taxes—thankfulness for them and for the ability to pay them.
I wanted to start with this thought, because none of us like taxes. But we can be thankful for them, and also take care to report them properly. As additional incentive for excellence in this area, did you know that if payroll taxes are not withheld and paid to the IRS, the Church’s Board of Directors and employees may be personally liable? Some thoughts on ensuring your Church is addressing taxes appropriately:
Who performs the Church’s payroll? Even If the Church is fortunate enough to use an outside payroll service provider, it is still important that the Business Administrator ensure that the following are occurring:
- For all non-minister employees, the Church correctly withheld and paid the employees’ share of FICA taxes.
- IRS form 941 was filed for each quarter of the calendar year.
- The totals from the four quarterly 941 forms agreed with the totals on IRS form W-3, which is prepared at year end and filed with the IRS along with employee W-2s by February 28 each year.
- Timely deposits of payroll taxes are made to the IRS. Required deposits vary. Generally, deposits may be made quarterly if total quarterly payroll taxes are $2,500 or less. Otherwise, deposits must be made monthly, or even more frequently for very large organizations.
- W-2 forms are provided to all employees (including ministers) by January 31.
How about your Church? Do you know for certain that payroll taxes are calculated, withheld, and remitted to the IRS correctly and in a timely manner?
–Justin Baldwin, CPA is a Senior Auditor specializing in church accounting with PSK LLP.
Does your church have 25 or fewer full time employees? If so, the government wants to give you some money. The recently passed health care bill included a tax credit for small businesses that provide health insurance for their employees. Although churches do not typically file income tax returns, they are still eligible for the tax credit.
You are correct, there is a catch! There are three primary factors that would qualify your church:
- The church must pay for a portion of its employees’ health insurance
- The church must have less than 25 full-time employees
- The average wage of a full-time church employee must be below $50,000
If your church meets the criteria above, the church could be reimbursed up to 25% of the health insurance costs that were paid by the church.
As of now, the credit is good for 2010 to 2013 and then the maximum rate increases to 35% (good news). This could be money in your church's pocket! Let PSK assist you in determining if your church qualifies for the health care tax credit.
Some churches give pastors (or other employees) monthly expense allowances in their paycheck. The allowances provide a way to advance cash to employees so that they can purchase items needed for the church or to carry out their role within the church. There are two important things to keep in mind if your church does this.
1. The church needs to be aware that the expenses must be substantiated under an accountable plan, the same way a reimbursement would. Among other things, proper substantiation includes a receipt as well as a documented business purpose. Otherwise, the allowance is taxable income.
2. Further, some churches will allow the employee to keep the portion of the allowance that wasn't used and call it a "bonus". Taking this action would not only cause the "bonus" to be taxable income, but would also cause the entire allowance to be taxable (even the portion that was properly substantiated). This is not recommended and can cause church employees heartache come tax time.
Expense allowances are one of many ways to allow pastors to purchase items for the church. Purchase orders, expense reimbursements and credit cards are a few others. Each have their own advantages and pitfalls. Which methods work well for your church?
Great news for the small nonprofits. The filing threshold has finally increased from $25,000 in gross receipts to $50,000 in gross receipts for tax years ending on or after December 31, 2010. This means if the nonprofit’s gross receipts are normally $50,000 or less you can file the simple 990-N e-postcard as opposed to the more detailed 990-EZ or 990 forms. To read more about how to determine if you gross receipts are considered $50,000 or less, check out the IRS's website.
It is simple to file an 990-N. Simply go to the IRS's website and follow the instructions. The process takes less than 15 minutes.
The increase in the filing threshold for 990-N is part of the 2006 Pension Protection Act of 2006 which mandated most tax exempt organizations file an annual return.
The Tax Relief, Unemployement Insurance Reauthorization & Job Creation Act that was signed into Law in December 2010 has made changes to the way you calculate your social security deductions on your employee paychecks for 2011.
Social Security tax rates will be reduced by two percentage points. The employee-portion of Social Security taxes will be reduced from the current 6.2% to a temporary rate of 4.2% for 2011 only. The employer-portion remains the same at 6.2%; and the Social Security wage base remains the same at $106,800 for 2011. Medicare tax rates are not changed: remaining at 1.45% each for employees and employers. Freelancers, farmers and other self-employed persons will see a corresponding reduction in their self-employment tax. The total 15.3% self-employment tax rate is temporarily reduced for 2011 to 13.3%. Self-employed persons will still be able to deduct the full amount of the employer's portion as an adjustment to income.
You have until January 31, 2011 to make sure you are calculating your employee deductions correctly and until March 31, 2011 to correct any payroll in January that might have been calculated using the old 6.2% deduction rate.
Please give us a call if you have any questions.
Millions of small employers received postcards from the IRS last Spring that alerted them to the new small business health care tax credit and encouraged them to check their eligibility. Perhaps your church did not receive this notice because it does not file a tax return. Even if you didn’t receive a postcard, your church still may be eligible.
• Providing health care coverage. A qualifying employer must cover at least 50 percent of the cost of health care coverage for some of its workers based on the single rate.
• Church size. A qualifying employer must have less than the equivalent of 25 full-time workers (for example, an employer with fewer than 50 half-time workers may be eligible).
• Average annual wage. A qualifying employer must pay average annual wages below $50,000.
Amount of Credit
• Maximum Amount. The credit is worth up to 25 percent of a church’s premium costs in 2010. On Jan. 1, 2014, this rate increases to 35 percent.
• Phase-out. The credit phases out gradually for churches with average wages between $25,000 and $50,000 and for churches with the equivalent of between 10 and 25 full-time workers.
The church will use new Form 8941, Credit for Small Employer Health Insurance Premiums, to calculate the health care tax credit. It will then include the amount of the credit on Line 44f of revised Form 990-T, Exempt Organization Business Income Tax Return. Form 990-T (draft available for viewing) will be revised for the 2011 filing season to enable eligible tax-exempt organizations –– even those that owe no tax on unrelated business income –– to claim the health care tax credit.
This could be money in your church’s pocket! Let PSK assist you in determining if your church qualifies for the health care tax credit. www.pskcpa.com.
Tax exempt organizations are required to file an annual return with the IRS. If the organization fails to do so for three consecutive years, the exempt organization automatically loses its exempt status. The IRS announced today one-time relief benefits for Form 990-N and Form 990-EZ filers that have failed to file for the previous three years.
Please note that the relief does not include organizations that are required to file a Form 990. To read more about this one time exemption, click here. The IRS provided a list of organizations that are at risk of automatic revocation. You can view the list here.
If you need help with your annual filing requirements, please contact us. We will walk you through the process and help you stay in compliance.