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In 1994, the U.S. Internal Revenue Service created a system to increase audits for ministers. That was in response to church tax exemptions that the U.S. Congress found objectionable.

For example, one pastor claimed a deduction for the $200,000 he paid for his daughter's wedding reception and for the new couple's honeymoon on a tropical island. Another pastor claimed a deduction for a trip to a desert health spa.

One congressman reacted angrily to the abuses, saying, "High compensation in the exempt organization area has extended beyond televangelists to mainstream charities. We've already heard enough testimony to know that maybe religious organizations, educational institutions, and hospitals are the worst abusers."

The real story may be far different than what Congress suspects. In more than 19 years of working with clergy and their taxes, author and tax attorney J. David Epstein has found only one return that was prepared without error. That was filed by a pastor who kept current on ministers' tax issues and read everything he could find on the subject. The point is, Epstein discovered that most ministers overpaid their taxes each year.

Start Filing Now
In light of the government's decision to increase audits for pastors, here are some suggestions for pastors to heed in filing taxes:

1. Begin to handle all financial matters as though the IRS will question every one of them. Even if you aren't audited, Epstein says, your increased vigilance has about a 90 percent chance of lowering what you pay in income tax, sometimes dramatically.
2. Don't ignore tax preparation until April 15, then file an extension. If you don't feel qualified to do your own return, assign the job to someone else.
3. Be especially aware of the following mistakes that pastors make in tax filing:

Failing to take advantage of benefits or incorrectly documenting benefits. Many pastors are unclear about their compensation package, partly because their churches don't issue W-2s for them. If the IRS decides that part of a pastor's compensation is excessive, it will often focus on correct documentation of those benefits. And documentation is often incomplete for retirement plan contributions, fringe benefits, and use of church credit cards. Up-to-date church minutes are part of this documentation.

Make sure your total compensation doesn't exceed the average total compensation for ministers with a similar-size church in your area of the country, or $125,000. If you exceed either of those limits, you should ask an attorney to review your benefit package, at least annually.

Have your church issue a W-2 and withhold taxes for you each year. That will lower your chances of being audited. And it will lock in your eligibility for many nontaxable fringe benefits.

Not having income and social security taxes paid by the church. Traditionally, the IRS has said that ministers are exempt from tax withholding. Pastors are expected to file quarterly estimated taxes, however. Many pastors fail to do this and get caught short April 15 when they discover they owe thousands of dollars. An easy solution is for the church to withhold taxes from each paycheck.

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