How to get a tax break on your home furnishings.
Many pastors may not realize that it may be possible for them to have a housing allowance for tax benefits even though they live in a parsonage. They simply assume that they do not qualify for one, thereby forfeiting a lawful claim to tax savings.
Under Section 107 of the Internal Revenue Code, a minister of the gospel is permitted to exclude as reportable income the value of a home furnished to him provided he is ordained, licensed, or commissioned. An IRS ruling sets the maximum excludable allowance as “the fair rental value of the home including furnishings and appurtenances, such as a garage, plus utilities.”
The average parsonage dweller dutifully reports the rental value of his parsonage as income for Social Security purposes, if he is in that program, and happily excludes the parsonage rental value from his income for income-tax purposes. But he stops short of what is legally available to him if he quits there. He has excluded only the rental value of the parsonage, not that of his furniture and furnishings. He is clearly entitled to exclude the fair rental value of both for income tax purposes. Just as the parsonage has a fair rental value, so also do his furniture and furnishings have a fair rental value.
In early days in America the parsonage was furnished with furniture owned by the church. Some churches still provide both a parsonage and all its furnishings, but most do not. The IRS ruling (71–280, IRB 1971–27, 12) offers the same advantage to the minister who owns his own furniture as that which is enjoyed by the minister who has the “free” use of furniture that the church owns. The minister who provides his own furniture is entitled under the law to exclude the fair rental value of it—provided he follows the proper procedure, and provided he spends that much on furniture or furnishings during the year covered by his tax return. The key lies in determining the fair rental value of the furniture and furnishings, a value that determines the maximum allowable amount of his housing allowance. The most accurate way would be to have two or three real estate appraisers establish in detail the fair rental value of the furniture and furnishings. This would vary greatly from community to community, of course. Lacking such appraisals, a number of ministers use the 1 percent rule. Under this rule, 1 percent of the total value becomes the “fair” amount per month which may be charged. It is not an IRS ruling, but it seems to be acceptable in common practice.
For example, assume your furniture and furnishings are valued at $10,000. Perhaps you have them insured for that amount. If you multiply 1 percent by the value of your furniture and furnishings, you will have a possible housing allowance of $100 per month, or $1,200 per year. That does not mean, however, that you can rush out and deduct $1,200 from your income tax! The procedure simply sets the maximum possible housing allowance you can claim. You must spend that amount for furniture or furnishings in order to claim it as excludable income.
Certain steps must be taken to set up such an allowance if you don’t have one. First, inform the church’s governing board that you have just discovered an important law whose implementation is your responsibility. Provide the board members with the proper Internal Revenue Code references and this article. Suggest that they take whatever time they feel necessary to research the subject on their own. You should quickly assure the board members that establishment of a housing allowance will not raise the amount they are already paying you. Ask the board to lower your salary by the amount you wish to use as a housing allowance. Continuing with the example above, you would then lower your salary from, say, $12,000 to $10,800 while creating a housing allowance of $1,200. The amount your church pays you remains the same; the amount you pay in income taxes will probably be less—if you spend the money for furniture or furnishings. The amount of your pension contribution and your Social Security payments will be the same; neither is affected by the change.
If any board member challenges your right to set up a housing allowance, he should be shown that Congress has already charged you, the minister, with the responsibility of substantiating the amount you set. Point out to him that, if you are audited, you cannot refer the IRS man to your board; it is you, the minister, who must answer to the IRS. Therefore, you must be the one, under the law, who is responsible for setting the amount in the first place.
It is the church’s responsibility to enter the resolution in the minutes of the official board before any money is paid out as a housing allowance. The law specifically prohibits any retroactive housing allowance. It is not necessary, apparently, to set up such an allowance at the beginning of a year, or even at salary review time, although the latter is probably the most convenient time.
Once the amount is established in the minutes of your church board, it is not necessary to disburse two separate checks. The important event is recording the amount in the minutes. It is then incumbent upon you to save your receipts. If you don’t save your receipts and you are audited by the IRS, it is entirely possible that you will have to report a housing allowance received in prior years as income. Contrary to popular belief, the IRS may go back as many years as it deems necessary under certain circumstances, especially where fraud is suspected. Furthermore, if you are audited and have not kept proper records, you may well find yourself temporarily out of the ministry while you scramble to collect records from previous church employers. In some cases, you may be told that all old records were lost, strayed, or thrown away. To help solve this, here is a strongly recommended suggestion: each year, ask your treasurer to write you a letter on church stationery, specifying your complete pay package, line by line, including your housing allowance. Save these letters, along with your receipts, so you will have them in the event you are audited. There is no reason to fear an audit if you are properly prepared.
Before taking any action to set up a housing allowance, you should verify the information in this article with your own tax consultant. Perhaps you can save enough tax money each year to help finance a supplementary tax-deferred annuity. If the predictions of our nation’s economists are true, most ministers will need some additional income at retirement. This fact alone could be well worth the effort of most parsonage dwellers to set up a housing allowance.
Herbert Lindsey Akin is regional representative for Ministers Life and Casualty Union Insurance, Hudson, Ohio.
