1.) Salary. The most basic component of church staff compensation is salary. There are two important considerations to keep in mind with respect to staff salaries: the amount of the salary, and the use of “salary reduction agreements.”
If a church pays unreasonably high compensation to a pastor or other employee, it may lose its tax-exempt status or face intermediate sanctions, including tax on disqualified persons, additional tax on disqualified persons, and tax on organization matters.

Recommendation. Churches that pay a minister (or any staff member) significantly more than the highest 25 percent for comparable positions should obtain a legal opinion from an experienced tax attorney confirming that the amount paid is not “unreasonable” and will not expose the employee or the board to intermediate sanctions.

Many churches have established “salary reduction agreements” to handle certain staff expenses. The objective is to reduce an employee’s taxable income since only the income remaining after the various “reductions” is reported on the employee’s W-2 at the end of the year. It’s important for churches to understand that they cannot reduce an employee’s taxable income through salary reductions unless specifically allowed by law. There are three ways taxable income can be reduced through salary reduction agreements: (1) tax-sheltered annuity contributions, (2) “cafeteria plans” and (3) housing allowances.

2.) Housing and equity allowances. The most important tax benefit available to ministers who own or rent their homes is the housing allowance. Ministers who own or rent their home don’t pay federal income taxes on the amount of their compensation that their employing church designates in advance as a housing allowance, to the extent that the allowance represents compensation for ministerial services is used to pay housing expenses and doesn’t exceed the annual fair rental value of the home (furnished, plus utilities).

Housing-related expenses include mortgage payments, rental payments, utilities, repairs, furnishings, insurance, property taxes, additions and maintenance.

Ministers who live in a church-owned parsonage that’s provided “rent-free” as compensation for ministerial services don’t include the annual fair rental value of the parsonage as income in computing their federal income taxes. The annual fair rental value isn’t “deducted” from the minister’s income. Rather, it’s not reported as additional income anywhere on Form 1040 (as it generally would be by non-clergy workers).

Further, ministers who live in a church-provided parsonage don’t pay federal income taxes on the amount of their compensation that their employing church designates in advance as a parsonage allowance, to the extent that the allowance represents compensation for ministerial services and is used to pay parsonage-related expenses such as utilities, repairs and furnishings.

Note that the parsonage and housing allowance exclusions only apply in computing federal income taxes.

Ministers can’t exclude them when computing their self-employment (Social Security) taxes.

Recommendation. Be sure that the designation of a housing or parsonage allowance for the subsequent year is on the agenda of the church board for one of its final meetings of the current year. The designation should be an official action of the board or congregation, and it should be duly recorded in the minutes of the meeting. The IRS also recognizes designations included in employment contracts and budget line items — assuming in each case that the designation was duly adopted by the church board (or the congregation in a business meeting). Also, if the minister is a new hire, be sure the church designates a housing allowance prior to the date he or she begins working.

Ministers who live in church-owned parsonages are denied one very important benefit of home ownership: the opportunity to accumulate “equity” in a home over the course of many years. Many ministers who have lived in parsonages during much of their active ministry often face retirement without housing. To avoid the potential hardship of no equity and no housing, some churches increase their minister’s compensation as an “equity allowance” to provide the equivalent of equity in a home. This is an excellent idea that should be considered by any church having one or more ministers living in church-provided housing. The equity allowance shouldn’t be accessible by the minister until retirement, so it should be placed directly in a minister’s tax-sheltered retirement account.

Equity allowances also should be considered by a church whose minister rents a home.

Accountable Business Expense Reimbursement Policy. Under such an arrangement, a church (1) reimburses only those business expenses that are properly substantiated within a reasonable time as to date, amount, place and business purpose, and (2) requires any excess reimbursements (in excess of substantiated expenses) to be returned to the church. Churches should seriously consider adopting an accountable reimbursement policy for reimbursing staff business expenses. Such a policy has the following advantages:

• Church staff reports their business expenses to the church rather than to the IRS.
• Church staff who report their income taxes as employees, or who report as self-employed and who are reclassified as employees by the IRS in an audit, avoid the limitations on the deductibility of employee  business expenses. These limitations include (1) the elimination of any deduction if the employee cannot itemize deductions on Schedule A (most taxpayers can’t), and (2) the deductibility of business expenses on Schedule A as an itemized expense only to the extent that these expenses exceed 2 percent of the employee’s  adjusted gross income.
• The so-called Deason allocation rule is avoided. Under this rule, ministers must reduce their business expense deduction by the percentage of their total compensation that consists of a tax-exempt housing allowance.
• The “50 percent limitation” that applies to the deductibility of business meals and entertainment expenses is avoided.
• Unless these expenses are reimbursed by an employer under an accountable plan, only 50 percent of them are deductible by either employees or self-employed workers.
• Church staff who report their income taxes as self-employed avoid the risk of being reclassified as an employee by the IRS in an audit and assessed additional taxes.

This excerpt was adapted from the 2012-2013 Compensation Handbook for Church Staff (Christianity Today) available at YourChurchResources.com. Used with permission. The handbook provides reliable church employee compensation breakdowns for 13 part- and full-time positions all organized by a variety of factors, including church size, income budget and geographical setting. In addition, compensation levels based on personnel characteristics are provided, including years employed, denomination, region, gender and educational training. Worksheets with step-by-step directions are included for each position to help leaders establish ranges based on this data. With this information, leaders can compare their plans to other churches that have similar positions and demographics.

Richard R. Hammar is an attorney, CPA and best-selling author specializing in legal and tax issues for churches and clergy. He is senior editor of Christianity Today’s Church Law & Tax Group, which includes the Church Law & Tax Report and Church Finance Today newsletters, and ChurchLawAndTax.com.

Deciding whether an individual worker is an employee or independent contractor is an increasingly important decision and deserves every church and ministry’s full attention. It is often tempting for churches and ministries to classify workers as independent contractors so as to avoid paying employment and payroll taxes and providing employee benefits and otherwise minimize costs.

However, this is a very short-sided view that may cause some very real financial harm and liability exposure to your church or ministry if care is not exercised.

Misclassifying a worker as an independent contractor can cause liability for failing to withhold and to pay the employer’s share of payroll taxes; exposure for failing to include the individuals in employee benefits plans; the tax disqualification of retirement plans; and back wages, add-on damages, and penalties for failing to comply with wage-hour requirements. Also, even tougher penalties are being contemplated by state and federal agencies.

Classify correctly
So, how can your church or ministry avoid misclassification? First, begin with the realization that there is a presumption by the Internal Revenue Service (IRS) and other agencies that everyone working for an employer (such as your church or ministry) is an employee. This presumption can be overcome by the right facts establishing a worker is not an employee; however, the default position is that a worker is an employee and the burden is on the church or ministry to overcome this presumption.

Unfortunately, a bright-line rule for making the fact-based determination of when someone becomes an independent contractor is not available. It just is not possible given the sometimes complicated nature of the analysis, including multi-tiered tests subject to differing interpretations and the fact that different agencies apply differing rules.

For instance, the Department of Labor (DOL) and Internal Revenue Service (IRS) apply slightly different criteria. But, there is a general framework of analysis that can greatly assist your church or ministry in making the correct classification. In addition to working through this general analysis, it is important to ultimately check with an experienced attorney who can not only help with the analysis, but also draft the appropriate legal agreement to document the classification and nature of the relationship depending on the context of the relationship.

Steps in classifying well
In regards to the general framework of analysis to follow when classifying workers, the first step is to follow the DOL’s analysis by considering the “economic realities test,” which encompasses several factors. Courts sometimes apply different factors or weigh similar factors differently in evaluating whether an individual has been properly classified as an independent contractor, but the “economics realities test” is probably the best general test we have at this time. The following factors are examined as part of this test:

Under the DOL “Economics Realities Test,” your church or ministry should consider:

1. The degree to which the person’s work is controlled by the organization;
2. The individual’s investment in facilities and equipment, if any;
3. The individual’s opportunities for profit or loss, if any;
4. The amount of any initiative, judgment or foresight the person uses in open-market competition;
5. The permanency of the relationship; and
6. Whether, and to what extent, the individual’s work is an integral part of the organization’s business or activities.

No one factor is necessarily determinative. The ultimate question is whether as a cumulative matter they demonstrate that, in reality, the workers are economically dependent upon the organization for their livelihoods and, if so, then they are employees; but, if the factors demonstrate a fair amount of independence from the organization, then it is more likely an independent contractor relationship exists.

Economic realities test
Second, as indicated above, the IRS does have its own analytical framework, which is thankfully not necessarily contrary to DOL’s analysis. The IRS framework can also be considered in concert with the DOL’s “economic realities test.” Before examining IRS’ current analytical framework, note that IRS used to advocate for a “Twenty Factor Test.”

However, Congress and the labor and business industries all pressed the IRS to simplify the test and make it more user-friendly. As a result, the “Twenty Factor Test” was transformed into an analytical framework that has 11 main tests organized into three main groups: (1) behavioral control, (2) financial control and (3) the type of relationship of the parties.

There are also separate Tax Court and Supreme Court tests that have been used, but such analysis is beyond the scope of this article. Fortunately, there is a lot of overlap and commonality among the various tests.

So what should your church or ministry do once it realizes that the organization has made a mistake in the classification of a worker and/or has been contacted by the IRS? Don’t panic. Contact experienced legal counsel.  Experienced legal counsel can guide the organization through a worker classification audit and help determine whether the IRS classification is correct and whether the organization qualifies for relief under what is known as IRS Section 530 Relief.

David Middlebrook is a partner with Anthony and Middlebrook of The Church Law Group, Grapevine, TX. www.ChurchLawGroup.com

The extensive use of social media, including Facebook, Twitter, streaming sermon videos, podcasts and blogging, has placed many churches into a public arena with potential legal and public relations consequences. Social media has been a good thing for the spreading of the Gospel, allowing churches to have an immediate and global impact for Christ as well as the opportunity to create a sense of community within the church. However, as with all human endeavors, problems can and do occur.

One example involves First Baptist Church of Jacksonville, FL, that recently settled a defamation lawsuit against a formerly anonymous blogger who filed a complaint in 2009 after having been labeled by the pastor from the pulpit as “obsessive compulsive” and a “sociopath.” The pastor was reacting to statements made on a blog deemed to be critical of the church.

Another example of defamation involves a lawsuit filed in 2012 against a former church member of Beaverton Grace Bible Church, OR, who was apparently blogging about her experience and allegedly making negative online reviews of the pastor and the church.

Neither of these examples involved a church employee using social media to make allegedly defamatory remarks, but there have been instances where church blogs have resulted in legal trouble for the church and its leadership, whether culminating in a judgment from a lawsuit or an expensive legal settlement of a pending lawsuit.

Common sense can go a long way
Be careful what you say and what you type. Since most people are more likely to “hide behind the keyboard” and type something they wouldn’t say in person, ask yourself: “If the recipient of the e-mail was standing next to me, would I say or type the same words?”

Church defamation lawsuits seem to be increasing, and churches need to address this issue with all staff and volunteers, especially those whose job description (employee) or position description (volunteer) entails interacting with social media on behalf of the church.
Libel is written defamation and slander is spoken defamation. Context does matter practically though and while it is true that truth is always a possible defense, keep in mind that proving something is true can be a time-consuming and expensive legal and public relations process.

Develop a social media policy
Generally, you want to establish guidelines and rules for social media use, including the various roles and responsibilities of key employees and/or volunteers. A key point is recognizing that social media sites are never really private and information can and does become public. When responding to church critics via social media, it is a good idea to run it by legal counsel for the church before “returning volley” or placing a “warning shot across the bow” of critics.

It is best to have the social media policy and Christian code of conduct within the employee handbook or otherwise signed by the responsible employee or volunteer. If you adopt an appropriate and comprehensive written policy and train staff and volunteers about the legal environment, including the need to avoid making defamatory remarks or any kind of knee-jerk response to a situation or criticism in the use of social media, you will likely avoid defamation lawsuits and other forms of liability from your church’s use of social media.

David Middlebrook is a partner with Anthony and Middlebrook of The Church Law Group, Grapevine, TX. www.churchlawgroup.com

Thanks to the “Employment At Will Doctrine,” employers have historically been granted broad latitude in the area of hiring and firing employees. Under the Employment At Will Doctrine an employer has the right to fire an employee at any time with or without notice, and with or without cause.

Presently, the doctrine is still a viable legal doctrine, but it has been weakened over the years by numerous court decisions, federal and state laws and regulations and employment contracts.  So while churches must strive to comply with all of these enforced employment rules and regulations, how can they protect their religious beliefs, teachings, morals and values?

An employer may always discharge an employee for good cause, even if an employment contract provides for a definite term of employment. Good cause for discharging an employee is defined as the employee’s failure to perform the duties in the scope of employment that a person of ordinary prudence would have done under the same or similar circumstances.

An employee’s act constitutes good cause for discharge if it is inconsistent with the continued existence of the employer‑employee relationship. The standard for measuring an employee’s job performance is whether the employee performed the duties involved “substantially” or “reasonably well,” rather than whether the employee achieved specific results, unless the employment agreement required specific results.

Employees may sue
However, sometimes ex-employees will sue their former employer (i.e. the church) if they do not agree with the church’s position or reasoning for terminating their employment. If an employee, particularly a pastor, is terminated for a moral failure, and then that terminated employee brings suit against the church for wrongful termination, then the courts will usually apply what is known as the “ministerial exception.”

This exception generally prohibits the civil courts from resolving employment disputes between churches and their ministers because those disputes often involve questions of religious doctrine (which the courts will not touch).  However, it is important to note that the ministerial exception does not apply when the employee in question is one whose duties are primarily secular (for example, the church secretary).  So, what can a church do to protect itself in this area, allowing themselves to terminate an individual who may be living in direct contradiction to the moral values and teachings of the organization?

One possibility would be to include a morals clause in the employment agreements of all employees that allows for termination of the employee if the employee engages in morally offensive conduct or does something to damage the reputation of the employer.

These sorts of provisions are common in certain industries, such as entertainment and even sports (particularly where actors or athletes may have a tendency to engage in activities that, if brought to the public’s attention, could harm the reputations of their employers). Take, for example, the recent events involving actor

Charlie Sheen. Warner Brothers Television released portions of Sheen’s contract, particularly the language of a “moral turpitude clause” that, they argued, allowed them the option to treat his actions as a breach of contract.

What’s moral turpitude?
What, you may ask, is moral turpitude?  Moral turpitude is a legal concept in the United States that refers to “conduct that is considered contrary to community standards of justice, honesty or good morals.”  The case law concerning moral turpitude suggests that, like indecency laws, it will be judged region by region, such that what reaches the level of moral turpitude in Georgia may not reach that level in California.

There does appear to be some consistency in the decisions though. For one, most courts have found that a felony reaches the level of moral turpitude. This is because a felony is a serious crime against society and fits well into the definition. Other than a felony, the most common action found to reach the level of moral turpitude is a wrong action that includes fraud or deceit. Generally, a misdemeanor does not reach the level of moral turpitude. However, when combined with deceit, it does.

Churches can include such provisions in their own standard employment agreements, though it would be appropriate to take such a provision a step farther. Rather than requiring an occurrence of a felony, a church could include a provision allowing for termination of the employment simply if the employee does not live in accordance with the church’s accepted standards of living.

A sample clause that could be included into the church’s standard employment agreement form could be something along the lines of the following:

As an employee of the church, employee must understand that s/he is a part of a Christian church and that his/her employment is a God-ordained vocation. In this regard, employee must fully support and live consistently and in accordance with any Statement of Faith and Christian standards of living as may be set forth in the church’s employee handbook or bylaws, by such directives as may be issued from church leadership, and most importantly by biblical standards.

By including such a provision in the employment agreements of all of the church’s employees, the church will (1) make sure that all employees are informed up front that they are subject to dismissal for engaging in behavior in violation of the church’s moral teachings, (2) obtain the employees acknowledgment that they understand that they are employees of a church and therefore subject to higher standards, and (3) help to protect itself from lawsuits brought by employees dismissed for moral failings.

It is our experience that the employees of churches are generally upstanding, good-hearted individuals who operate with the best of intentions and in accordance with the teachings of the Bible. But we all know the old saying that “the road to Hell is paved with good intentions,” and moral failures do happen. Just make sure that your church is prepared to deal with such failures when or if they occur.

David Middlebrook is a partner and Wendi L. Hodges is an attorney of Anthony and Middlebrook, The Church Law Group, Grapevine, TX. www.churchlawgroup.com

By David Middlebrook and Robert W. Rucker

The federal Genetic Information Nondiscrimination Act  (GINA) which took effect on March 21, 2009, is intended to protect the privacy of Americans. It relates to genetic information and to prevent “genetic discrimination” in health insurance and employment situations.

For years there have been growing fears that with advanced testing capabilities, insurance companies would not grant insurance to and employers would not hire people who had greater possibilities of developing disabling diseases based upon their genetic makeup or family history.

For instance, with genetic testing it is now possible to predict, or at least assess the probability, if an employee is likely to contract diabetes, heart disease, cancer or Alzheimer’s disease. In passing the new law, Congress said it was worried that these advances in genetic testing give rise to the potential misuse of the genetic information.

Misuse of information

It described a time in the early 20th Century when some states passed sterilization laws to prevent certain persons with genetic diseases from reproducing, that such laws deprived many people of their constitutional freedoms and were ultimately repealed. Congress also cited the more recent example of the Lawrence-Berkeley Lab case from 1998 where employees were given pre-employment blood and urine tests to determine, among other things, their probability for having sickle cell anemia.

Based upon these historical examples, the need to protect genetic information was found to be a matter of public interest. More importantly, Congress was concerned that if people were worried that having genetic testing might lead to being denied employment or insurance, they might be less likely to take advantage of the significant advances in testing and treatment. Having people afraid to get tested for genetic diseases and thus miss out on treatment opportunities are not in our best national interests.

The law says that it is an unlawful employment practice for an employer to request, require, or purchase genetic information from any employee, job applicant, or from a family member. “Genetic information” is obtained by genetic testing that includes an analysis of human DNA, RNA, chromosomes, proteins, or metabolites that detect genotypes, mutations, or chromosomal changes.

Routine testing that obtains such things as complete blood counts, cholesterol tests and liver-function tests are not considered to constitute genetic testing. Also, analysis of genetic information directly related to a disease that has already manifested itself may not be covered by the law.

Family members also protected

Under GINA, it is unlawful for an employer to discriminate in the hiring, firing, or terms, conditions, or privileges of employment based upon the genetic information of an employee, applicant, or one of their family members (“family member” means dependents and up to and including 4th degree relatives). However, GINA does not apply to employers with fewer than 15 employees.

There are also certain exceptions that may apply. The ones that are probably of most interest to a church employer include inadvertent requests or disclosures, requests related to leave sought under the Family Medical Leave Act (FMLA), and information obtained in public documents commercially and publicly available including newspapers, magazines, periodicals and books. But even in these exceptions, while it may have been lawful to obtain the information, it still cannot be used to discriminate.

Employers are now required to treat genetic information as part of confidential medical records and are supposed to keep such medical information under separate forms and files from other personnel records. Employers may disclose this information if asked by employee in writing, to certain health researchers under certain regulations, in response to a court order, to governmental agencies investigating GINA compliance, in association with certifying employee compliance with the FMLA or similar state laws, or to public health officials if the information concerns a contagious disease and notification is provided.

Violations of the law can be enforced by various governmental agencies and individuals who claim to be victims of genetic discrimination can also bring private lawsuits. Many churches may not have a lot of dealings with the genetic information of their employees and job applicants. The most likely way they would encounter it would be through health insurance documentation and related to disability and leave claims.

Maintain confidentiality

However, regardless of how the information is obtained, the church employer is responsible to maintain its confidentiality and not make use of it in a discriminatory way.

Churches should update employee manuals and personnel forms to make sure that it is clear that the church does not discriminate on the basis of genetic information and make sure there is a clear understanding of how employees or applicants can report suspicions of genetic discrimination.

Leaders should create procedures where if the church receives genetic information it is segregated from other more routine employee or applicant paperwork and kept in a secure location. It’s also important that there is a clear policy and understanding as to when such information can be released (such as pursuant to court order).

It’s necessary to make sure that the church is not asking for information that could be viewed as genetic information on job applications or in any other format. Leaders should not ask for genetic information when accessing leave requests and have some kind of standard request to medical professionals not to include genetic information when documenting medical conditions.

Church leaders also need to make sure that any employer-provided health or wellness plans comply with GINA.

Whether the church deals with these issues rarely or a lot, it still makes sense to be aware of the issue and have some policies and procedures in place.

David Middlebrook is a partner and Robert W. Rucker is an attorney of Anthony and Middlebrook, The Church Law Group, Grapevine, TX. www.churchlawgroup.com

Churches often maintain benevolence funds to assist needy individuals in times of financial crisis. However, these churches may not have enough structure in place to provide essential direction and documentation.

It is important to follow a written policy and maintain records of assistance provided to protect the tax exempt status of the church, the deductibility of donations designated to the fund, and the persons receiving assistance from mistaken taxation. A well designed process also provides direction and accountability to those responsible for making disbursements from the fund.

Benevolence program don’ts:

1. Distribute funds to people without supporting documentation.

2. Disburse funds out of a bookstore cash register or out of uncounted offerings.

3. Disburse funds without a written record of the transaction.

4. Allow members to donate to a specific family 
or individual and receipt these donations as tax deductible.

5. Give one individual control over benevolence distributions, without oversight or accountability measures in place.

Benevolence program do’s:

1. Adopt and adhere to a written policy.

2. Make distributions from a general fund or benevolence fund.

3. Pay assistance directly to service providers (rent, mortgage, utilities, etc.).

4. Allow contributions only to the fund, not to any specific individual or family.

5. Develop adequate criteria to determine individual need.

6. Document the need including external verification for larger amounts.

7. Assign personnel or a committee to approve requests.

8. Include reasonable limits of support per person during a specified time period.

9. Determine the kinds of needs that will receive support, keeping in mind typically assistance is allowed for basic needs: food, shelter, clothing and medical.

Why is a written policy so important? A written policy helps prevent misunderstandings about the purpose of your program and its parameters. Having written criteria helps decision-makers affect consistent evaluations and holds them accountable to these pre-determined guidelines. If your program or disbursements are challenged in an audit, a written policy provides evidence that the church has established a benevolence program in keeping with your exempt purpose.

What’s wrong with taking cash out of the offering plate to help someone in need? (1) Using cash from the offering plate does not provide a record of the assistance. (2) The opportunity for abuse is high. Even a trusted employee under enough pressure (others may not even know about the pressure), given the opportunity, can rationalize an inappropriate disbursement. Limiting opportunity for misuse of funds protects the church, its employees, and volunteers.

What information should be gathered for an assessment of need? The extent of your data gathering depends on the type of request. For short term assistance during a disaster it could be sufficient to view the disaster and confirm the individuals live in that area. In the case of longer term or a greater amount of assistance we recommend a financial assessment through completion of an application.

Items to consider requesting in the application include but are not limited to: employment status, dependents, church involvement, references inside and/or outside of the church, a list of present income and expenses, and/or a list of assets owned. A sample application is available online at www.ecfa.org.

What is the minimum required record that must be kept when a church provides benevolence aid? 
A church (or other organization) which provides benevolence assistance should maintain adequate records and case histories to show:

• The name and address of each recipient of aid
• The amount distributed to each
• The purpose for which the aid was given
• The manner in which the recipient was selected
• The relationship, if any, between the recipient and other members, officers, or  trustees/directors of the organization

What is external verification? Verifying the information provided by the applicant with another source. This could be individuals listed as references on the application, an employer or another church member.

Does the church need to issue a 1099-Misc when assistance over $600 is provided to a needy person? No. Benevolence is not a payment for services, but a gift.

Can we assist an employee with benevolence and not show it as taxable income on their W-2? This may be accomplished by having a formal hardship assistance plan in place in advance of the assistance being given. IRS Publication 3833 describes the requirements of an employee hardship assistance plan.

Is it ever okay for the church to receive amounts from members which are designated to a specific individual or family? In some cases churches agree to collect specifically designated funds but should only do so with a clear communication to donors that their payment will not be credited as a tax deductible contribution. In other instances a church member might recommend a needy individual to the benevolence committee. The committee will determine what if any amount to grant any individual.

Christine Abrams is tax manager and John Butler is tax counsel for Capin Crouse LLP, Greenwood, IN. [www.capincrouse.com]