Tax Planning Rules for Ministers

CPA Journal, The, Sep 2008 by Englebrecht, Ted D, Cameron, Jonathan A

The Tax Court (Bennett v. Comm'r, TC Memo 2007-355, 2007) found no evidence that Bennett properly filed a Form 4361 in 1980. The court held that, although the IRS's letter indicated the due date for a timely Form 4361 was April 15, 2001, the correct due date was April 15, 1999, because Bennett received more than $400 in self-employment income in 1997 and 1998. The fact that Bennett paid self-employment tax for 1998 weakened his claim that he believed he was exempt from self-employment tax. The court held that the Forms 4361 and letters filed with Bennett's 1997 through 2002 returns were all either untimely or lacked supporting documentation and therefore were not approved by the IRS. Bennett's 2002 ministerial income was not exempt from self-employment taxes.

Other Tax Snares to Avoid

Example: Tithing Expenses. Bradley Pixley was an ordained Baptist minister. In 2000, the IRS sent Pixley and his wife a notice of intent to levy regarding unpaid tax liabilities of $19,367 for 1992 and $39,851 for 1993. The Pixleys requested a due process hearing and submitted an offer in compromise. On Form 433-A, Collection Information Statement for Individuals, they listed a $520 "tithe to church" as a necessary monthly living expense. In the hearing, the IRS officer requested multiple times that Pixley provide evidence of his ministerial status and the fact that the tithe was a condition of his employment. Pixley failed to provide the necessary evidence, so the IRS disallowed the tithing expenses and determined that the Pixleys were able to fully pay the taxes in question.

The Pixleys petitioned the Tax Court, alleging that the disallowance of the tithing expenses violated their First Amendment right to free exercise of religion. The court ruled in favor of the IRS, stating that tithing expenses a minister is required to pay as a condition of employment are allowed as necessary expenses in determining the ability to pay taxes (Pixley v. Comm 'r, 123 TC 269,2004). In this case, however, Pixley failed to provide evidence that he was a minister or that the tithes were required. The court stated that contributing to religious organizations is a common burden on all taxpayers' pocketbooks, not a burden on their free expression of religion. The court allowed the IRS to proceed to collect the unpaid taxes by levy.

Example: Trusts. A Catholic priest, Father Tamulis, died in 2000, leaving most of his $3.4 million estate to a living trust. The trust was to continue for the longer of 10 years or the joint life of Tamulis's brother and his brother's wife, who had a life estate in a home owned by the trust for which the trust paid the real estate taxes. The net income was to be paid to Tamulis's two grandnieces, less $10,000 to be paid annually to a third niece until she graduated from medical school. Upon termination of the trust, the assets would be paid to a Catholic diocese.

The executor of Tamulis's estate took a deduction of $1.5 million in order to represent the present value of the charitable remainder. The trust instrument did not specify a percentage of the trust's fair market value to be paid to the noncharitable beneficiaries to qualify as a charitable remainder unitrust (CRUT), nor did it specify a fixed dollar amount to be paid to noncharitable beneficiaries to qualify as a charitable remainder annuity trust (CRAT). The IRS disallowed the deduction because the trust did not qualify as a CRUT or CRAT under IRC section 2055.