Do you know all the ins and outs of the housing allowance for pastors? If not, don’t worry; you’re not alone. Many people don’t fully understand the legal intricacies of this tax benefit for ministers and clergy.
The Ministers’ Compensation & Housing Allowance (as the IRS calls it) is also referred to as a parsonage allowance or rental allowance. Whether you are a pastor or minister who qualifies for the benefit or work in the realm of church finance or human resources, it’s essential to know how this policy affects full-time pastors and clergy.
In this ultimate guide to the housing allowance for pastors, we will cover the basics and answer the major questions related to this subject. We also encourage you to consult a professional accountant or lawyer for questions related to your personal situation. You want to be sure to verify all the details of the tax law in your state as well.
So, let’s dive into the details of the housing allowance for pators.
Estimated reading time: 10 minutes
Table of contents
- What is the Pastors Housing Allowance?
- Who Can Take Advantage of the Housing Allowance for Pastors?
- Who Determines the Housing Allowance?
- Calculating the Housing Allowance
- What Expenses Can You Include in Your Housing Allowance?
- What Do You Need to Know About the Housing Allowance for Tax Purposes?
- Other FAQs About the Housing Allowance for Pastors
What is the Pastors Housing Allowance?
First, let’s lay out the definition of the housing allowance and clarify who can take advantage of it. According to the Internal Revenue Code (IRC) Section 107, a minister may be provided a parsonage or paid housing allowance as part of their salary compensation and exclude the value from their reported taxable income.
Pastors can use this housing allowance to rent or purchase a home and pay utilities, furnishings, and necessary maintenance and repairs. Note that you can exclude the allowance from gross income for federal income tax purposes but not self-employment tax purposes.
According to Christianity Today, 81% of full-time senior pastors take advantage of the housing allowance. In addition, this is saving pastors a total of about $800 million a year.
For example, suppose a minister has an annual salary of $50,000, but their total housing allowance is $25,000. They would be taxed on salary minus living expenses, which is now $25,000, half the original salary.
Instead of owing taxes of $6,000 (a 12% tax rate on $50,000), the minister would owe $3,000 (12% tax rate on $25,000). The tax savings add up to $3,000 in this scenario, which is a significant tax break for many families.
Who Can Take Advantage of the Housing Allowance for Pastors?
The housing allowance is available to ordained, licensed, or commissioned ministers of the gospel. Workers in this category can include missionaries, evangelists, Christian counselors, youth pastors, music ministers, or any minister who performs religious worship or service as their primary job function.
However, this doesn’t apply to everyone who works at a church or for a ministry. For example, administrative staff, maintenance workers, and other support staff are not considered ministers for the purposes of this exemption.
To qualify for the housing allowance, a person must meet the following criteria:
- Be an ordained, licensed, or commissioned minister of the gospel
- Serve as a primary religious leader of the congregation as designated by the church and/or denomination
- Spend a majority of their working hours in religious activities and functions or performing “ministerial services”
- Receive a salary or housing allowance from the church as part of their compensation
If you are a pastor or minister who meets the criteria above, you are eligible to claim the housing allowance.
Now let’s look at how to calculate and claim the housing allowance on your taxes.
Who Determines the Housing Allowance?
The church’s governing body designates the housing allowance each year. Depending on the church, this may be a board, council, or denominational authority. It’s important to note that the housing allowance cannot be more than the reasonable salary compensation paid to the minister.
The housing allowance should be set up in advance, before the beginning of the tax year or when the pastor is hired. Although the housing allowance resolution can be adopted or amended at any time, it can only be applied prospectively, not retroactively.
If you’re a pastor going through the hiring process, the housing allowance may be part of your total compensation package. It’s one type of benefit along with cash salary, benefits, paid leave, and other reimbursements. The housing allowance may be negotiable, but you should have that conversation with your church leaders before accepting the position.
Calculating the Housing Allowance
The housing allowance is limited to the fair rental value of your home, plus utilities, but limits do exist. The total amount cannot be more than the reasonable salary for your position, as determined by the church.
For the housing allowance, you can exclude the lesser of the following amounts from your gross income:
- the officially designated housing allowance
- the amount used to provide or rent a home
- the fair market rental value of your home which includes utilities, furnishings, etc.
It’s important to note that you cannot choose which of these parameters to use; your exclusion must be the lesser amount.
The definition of “fair rental value” is the amount you could reasonably expect to receive from renting your home on the open market. You can look at local real estate prices or consult a realtor to determine accurate pricing based on comparable listings in your community.
So, even if your expenses are more significant than your allotted housing allowance due to mortgage and home operations, the amount you claim as a housing allowance exclusion cannot exceed the fair rental value of your home.
For example, if your housing allowance is $24,000 per year and the fair rental value of your home is $22,000 per year, you can only exclude $22,000 from your gross income.
In addition, suppose $20,000 of your salary is designated as a housing allowance, but the actual expenses of your home are only $18,000. You’re required to include that extra $2,000 in your gross, taxable income. Any unused portion of your housing allowance will become part of your total income subject to taxes.
Pastors living in a furnished parsonage provided by their church can still claim a housing allowance for other home costs. These include things like home maintenance, repairs, utilities, and furnishings. Next, we’ll look at what you can and cannot include.
What Expenses Can You Include in Your Housing Allowance?
You are able to include home operations expenses in your housing allowance in addition to basic mortgage and rent.
These housing operations expenses can include:
- Utilities: electric, water, sewer, trash
- Homeowners insurance
- Real estate taxes
- Home repairs and remodeling
- Furnishings and appliances for your home (including repairs)
- Pest control
- Lawn care and snow removal services
- Homeowners or renters association dues
You are not able to include the following expenses in your housing allowance:
- Food and other groceries
- Cleaning or domestic help
- Auto expenses like gas, car payments, and insurance
The list of items you can include in your housing allowance for pastors is quite lengthy. Many churches also add an additional “buffer” amount to the housing allowance to allow for unexpected expenses such as repairs that may come up throughout the year.
You do need to remember a couple of things when it comes to these expenses. First, you need to keep accurate records and receipts of the expenses you’re looking to include. Second, you can only designate expenses you incur within the designated year.
You should consult a tax advisor before filing your taxes if you have any questions about what you can or cannot include in your housing allowance.
What Do You Need to Know About the Housing Allowance for Tax Purposes?
So what steps do you need to take to maintain proper legal records and prepare for tax season?
First, all agreements should be in writing. The pastor and church should maintain signed copies of the housing allowance resolutions and any amendments on file. It’s important that there is a clear paper trail indicating that the funds have been set aside expressly for housing expenses.
Next, save all receipts related to your housing expenses throughout the year. These include mortgage statements, rental agreements, property tax bills, and insurance premiums.
It’s also a good idea to keep a monthly ledger of your housing expenses. This record can be a simple Excel spreadsheet that includes the date, type of expense, and amount spent for each month.
By taking these steps throughout the year, you can be confident that you have everything accounted for and in place when it comes time to file your taxes.
While the housing allowance provides an exclusion from gross income, there are still some essential details to know come tax time.
The housing allowance excludes a portion of the income from federal taxes but not SECA (Self-Employment Contributions Act) taxes. So this means that you will still have to pay social security and Medicare taxes on the housing allowance.
In addition, if you live in a state with income tax, you will still be required to pay state taxes on the housing allowance.
According to the IRS, “For services in the exercise of the ministry, members of the clergy receive a Form W-2 but do not have social security or Medicare taxes withheld. They must pay social security and Medicare by filing Schedule SE (Form 1040), Self-Employment Tax.”
If you receive housing allowance payments in advance, you’ll need to include those amounts in your gross income for the year in which you receive them. On the other hand, if you accept housing allowance payments after the end of the year they were earned, you’ll need to include those amounts in your gross income for the following year.
Finally, if you receive housing allowance payments that exceed your actual housing expenses, you’ll need to include the excess amount in your gross income. For example, if your housing allowance is $12,000 per year and you only spend $11,000 on housing expenses, you’ll need to include the $1000 in your gross income.
The housing allowance provides an excellent benefit for pastors and their families to offset the cost of living expenses.
Other FAQs About the Housing Allowance for Pastors
What is the “Clergy Housing Allowance Clarification Act of 2002?”
The Clergy Housing Allowance Clarification Act of 2002 amended the 1986 parsonage allowance exclusion and clarified a few points.
Section 107 of the IRC reads:
In the case of a minister of the gospel, gross income does not include –
(1) the rental value of a home furnished to him as part of his compensation, or
(2) the rental allowance paid to him as part of his compensation, to the extent used by him to rent or provide a home and to the extent such allowance does not exceed the fair rental value of the home, including furnishings and appurtenances such as a garage, plus the cost of utilities.
Is There a Legal Threat to the Housing Allowance?
The Housing Allowance was challenged in 2011 by the Freedom From Religion Foundation (FFRF) in a lawsuit, Gaylor v.Mnuchin. The FFRF sued the IRS and claimed the housing allowance created an unconstitutional preference for religion.
A number of Chicago pastors from various denominations intervened in the lawsuit to defend the housing allowance.
In November 2019, a federal appeals court ruled in favor of the Housing Allowance, stating that the tax code provision does not violate the Establishment Clause.
Where Can I get a Worksheet to Help Calculate the Housing Allowance?
If you’re looking for tools and resources to help track your expenses and activity to prepare for taxes, we’ve found a few helpful worksheets online. Of course, be sure you’re using the most up-to-date resources year to year and verify with your church board, accountant, or tax assistant.
These tools may be a helpful start for you:
- Clergy Housing Allowance Worksheet from clergytaxnet.com
- Clergy Housing Allowance Designation and Federal Income Tax Exclusion Worksheet for Cleric Who Owns or Rents Housing from dioceseli.org
- Understanding Clergy W-2 Forms from clergyfinancial.com
The housing allowance for pastors is a great benefit that allows them to save money on their taxes. By understanding the rules and regulations surrounding the housing allowance, pastors can take full advantage of this benefit.