The “Tax Guide for Churches and Religious Organizations” (the “Guide”) was updated in 2002 and continues to provide churches and ministers with guidance on a variety of common tax issues. I will review the main provisions of the Guide, and point out its strengths and weaknesses. Perhaps most importantly, the Guide contains useful information regarding political activities by churches.
Introduction
The Guide, which is 25 pages long, begins with the following comments:
Congress has enacted special tax laws applicable to churches, religious organizations and ministers in recognition of their unique status in American society and of their rights guaranteed by the First Amendment of the Constitution of the United States.
Churches and religious organizations are generally exempt from income tax and receive other favorable treatment under the tax law; however, certain income of a church or religious organization may be subject to tax, such as income from an unrelated business. It is also important for a church or religious organization to understand the tax law to avoid losing its tax-exempt status by engaging in activity that violates the Internal Revenue Code (IRC).
The Internal Revenue Service (IRS) offers this quick reference guide of Federal tax law and procedures for churches and religious organizations to help them voluntarily comply with tax rules. The contents of this publication reflect the IRS’s interpretation of tax laws enacted by Congress, Treasury regulations, and court decisions. The information given is not comprehensive, however, and does not cover every situation. Thus, it is not intended to replace the law or be the sole source of information.
The resolution of any particular issue may depend on the specific facts and circumstances of a given taxpayer. In addition, this publication covers subjects on which a court may have made a decision more favorable to taxpayers than the interpretation by the IRS. Until these differing interpretations are resolved by higher court decisions, or in some other way, this publication will present the interpretation of the IRS.
The real value of the IRS tax guide is that it gives us the IRS perspective on a number of issues for which little clarification is available at this time.
Tax-Exempt Status
(1) automatic exemption of churches
The Guide correctly notes that a church is not required to apply for and obtain recognition of tax-exempt status from the IRS in order to be treated as tax exempt—provided it meets the requirements of section 501(c)(3) of the tax code. However, the tax guide goes on to contain the following discussion regarding why some churches might want to obtain IRS recognition of tax-exempt status:
Although there is no requirement to do so, many churches seek recognition of exempt status from the IRS because such recognition assures church leaders, members and contributors that the church is recognized as exempt and qualifies for related tax benefits. For example, contributors to a church that has been recognized as tax-exempt would know that their contributions are tax-deductible.
(2) church exemption through a central/parent organization
Under the current group exemption procedure, exemption may be obtained on a group basis for “subordinate organizations” affiliated with and under the supervision or control of a “central organization.” IRS Rev. Proc. 80-27. To be eligible for a group exemption ruling, a central organization must satisfy several conditions, including the exercise of “general supervision or control” over “subordinate” local churches and church agencies.
While many “connectional” or hierarchical church denominations exercise “general supervision or control” over affiliated churches, there are many “congregational” denominations that do not. Congregational denominations are referred to as “associations of churches” in the tax code and regulations. They consist essentially of associations of independent congregations over which the denomination exercises little if any control other than conformity to ecclesiastical doctrine.
These congregational denominations have had to interpret the “general supervision or control” requirement very liberally in order to qualify for a group exemption ruling. Many have obtained group exemption rulings even though they exercise no “general supervision and control” over affiliated churches covered by their group exemption ruling. As anyone familiar with church polity can attest, it is ludicrous to say that many of the national churches that have obtained group exemption rulings exercise “general supervision and control” over affiliated congregations. This requirement is routinely flaunted with impunity, and makes a mockery of the entire procedure.
This issue is more than academic. Lamentably, in recent years plaintiffs’ attorneys have cited the “general supervision or control” requirement of the group exemption procedure in their attempts to hold congregational denominations responsible for the malfeasance of ministers and lay workers in affiliated churches. To illustrate, a child is molested by a volunteer worker in a local Baptist church. An attorney sues the national Baptist Church, claiming that it is legally responsible for the local church’s failure to adequately screen or supervise the molester because it represented to the IRS in its application for a group exemption ruling that it exercises “general supervision or control” over each affiliated church.
The problem here is that the “general supervision or control” requirement in the current group exemption procedure limits it to hierarchical churches in which the “general supervision or control” requirement is a reality. But, because of the undeniable convenience of a group exemption ruling, many congregational denominations that exercise no “general supervision or control” over affiliated congregations have obtained such a ruling.
The previous version of the IRS Tax Guide for Churches (1994) went a long way in resolving this “pro-hierarchical church” bias in the group exemption procedure by providing the following helpful information:
An organization has a parent if, for example, another organization manages, financially or ecclesiastically, the first organization. If the parent holds a group exemption letter, then the organization seeking exemption may already be recognized as exempt by the IRS. Under the group exemption process, one organization, the parent organization, becomes the holder of a group exemption ruling naming other affiliated churches as included within the ruling. Under these rules, a church is recognized as exempt if it is included in the annual update of the parent organization. If the church is included on such a list, it need take no further action in order to obtain such recognition. (emphasis added)
This language was significant because it explicitly recognized that the “control” needed to qualify for a group exemption may be “ecclesiastical.” Unfortunately, the 2002 Tax Guide for Churches and Religious Organization deletes this helpful recognition of “ecclesiastical” control.
The current publication includes the following discussion of group exemption rulings:
A church with a parent organization may wish to contact the parent to see if it has a group ruling. If the parent holds a group ruling, then the IRS may already recognize the church as tax-exempt. Under the group exemption process, the parent organization becomes the holder of a group ruling that identifies other affiliated churches or other affiliated organizations. A church is recognized as tax-exempt if it is included in a list provided by the parent organization. The parent is then required to submit an annual group exemption update to the IRS in which it provides additions, deletions and changes within the group. If the church or other affiliated organization is included on such a list, it does not need to take further action in order to obtain recognition of tax-exempt status.
An organization that is not covered under a group ruling should contact its parent organization and see whether it is eligible to be included in the parent’s application for the group ruling. For general information on the group exemption process, see Revenue Procedure 80-27.
This language will make it more likely that plaintiffs’ attorneys will use group exemption rulings to hold congregational denominations liable in civil litigation for the acts of ministers or lay workers in affiliated churches. This is unfortunate, because many of these denominations do not exercise any “supervision or control” over affiliated congregations.
We have contacted the IRS national office about this problem, and received a response acknowledging that many “congregational” denominations that exercise no “general supervision or control” over affiliated churches have obtained group exemptions. The IRS national office stated that the “general supervision or control” requirement is set forth in a Revenue Procedure, so the appropriate course of action is to have the Revenue Procedure amended rather than the tax guide that merely summarizes it. We are exploring this option.
If unsuccessful, and one or more congregational denominations is found liable for the acts of a minister or lay worker in an affiliated church, then such denominations should seriously consider abandoning their group exemption and urging affiliated churches to obtain their own exemption ruling directly from the IRS. Of course, this would mean that the IRS would be flooded with thousands of applications for exemption. A far better option would be for the IRS to either change the language of Revenue Procedure 80-27, or amend the Guide to clarify that “general supervision or control” may be ecclesiastical in nature.
Key Point Some congregational denominations are including a “disclaimer” in the annual renewals of their group exemption ruling to the effect that they do not exercise general supervision or control over affiliated congregations covered by their group exemption ruling, or that they satisfy this requirement only if it is interpreted to apply exclusively to ecclesiastical control pertaining to religious doctrine.
(3) employer identification number
The Guide contains some helpful information about employer identification numbers:
Every tax-exempt organization, including a church, should have an Employer Identification Number (EIN), whether or not the organization has any employees. There are many instances in which an EIN is necessary. For example, a church needs an EIN when it opens a bank account, in order to be listed as a subordinate in a group ruling, or if it files returns with the IRS (e.g., Forms W-2, 1099, 990-T). An organization that does not have an EIN should file Form SS-4, Application for Employer Identification Number, in accordance with the instructions.
(4) “tax exemption number”
Many pastors and church treasurers think their church has a special “tax exemption number” confirming that it is exempt from federal income tax. This is not the case. While in some states churches have “tax exemption numbers” for sales tax purposes, there is no corresponding number issued by the IRS. The Guide addresses this important point by noting that “the IRS does not assign a special number or other identification as evidence of an organization’s exempt status.”
Jeopardizing Tax-Exempt Status
The Guide notes that churches must comply with the following rules in order to be exempt from federal income taxes:
· Their net earnings may not inure to any private shareholder or individual,
· They must not provide a substantial benefit to private interests,
· They must not devote a substantial part of their activities to attempting to influence legislation,
· They must not participate in, or intervene in, any political campaign on behalf of (or in opposition to) any candidate for public officer, and
· No part of their purposes or activities may be illegal or violate fundamental public policy.
Churches that violate any one or more of these rules risk losing their tax-exempt status!
(1) inurement
The Guide explains the prohibition of “inurement” as follows:
Churches and religious organizations, like all exempt organizations … are prohibited from engaging in activities that result in inurement of the church’s or organization’s income or assets to insiders (i.e., persons having a personal and private interest in the activities of the organization). Insiders could include the minister, church board members, officers, and in certain circumstances, employees. Examples of prohibited inurement include the payment of dividends, the payment of unreasonable compensation to insiders, and transferring property to insiders for less than fair market value. The prohibition against inurement to insiders is absolute; therefore, any amount of inurement is, potentially, grounds for loss of tax-exempt status.
The Guide clarifies that inurement “does not include reasonable payments for services rendered, or payments that further tax-exempt purposes, or payments made for the fair market value of real or personal property.”
The Guide notes that insiders may be subject to special excise taxes called “intermediate sanctions” if a church’s income or assets inures to their private benefit: “The IRS may impose an excise tax on any insider who improperly benefits from an excess benefit transaction, as well as on organization managers who participate in such a transaction knowing that it is improper. An insider who benefits from an excess benefit transaction is also required to return the excess benefits to the organization.”
(2) private benefit
In addition to the prohibition on inurement to “insiders,” a section 501(c)(3) organization’s activities may not serve private interests. The tax guide explains this limitation as follows:
An [exempt] organization’s activities must be directed exclusively toward charitable, educational, religious, or other exempt purposes. Such an organization’s activities may not serve the private interests of any individual or organization. Rather, beneficiaries of an organization’s activities must be recognized objects of charity (such as the poor or the distressed) or the community at large (for example, through the conduct of religious services or the promotion of religion). Private benefit is different from inurement to insiders. Private benefit may occur even if the persons benefited are not insiders. Also, private benefit must be substantial in order to jeopardize exempt status.
(3) substantial lobbying activity
In general, no organization, including a church, may qualify for tax-exempt status if a substantial part of its activities is attempting to influence legislation. The Guide clarifies that “legislation” includes “action by Congress, any state legislature, any local council, or similar governing body, with respect to acts, bills, resolutions, or similar items (such as legislative confirmation of appointive offices) or by the public in a referendum, ballot initiative, constitutional amendment or similar procedure. It does not include actions by executive, judicial, or administrative bodies.”
According to the Guide, “a church or religious organization will be regarded as attempting to influence legislation if it contacts, or urges the public to contact, members or employees of a legislative body for the purpose of proposing, supporting, or opposing legislation, or if the organization advocates the adoption or rejection of legislation.” (emphasis added)
On the other hand, some lobbying activities will not jeopardize a church’s exempt status: “Churches and religious organizations may, however, involve themselves in issues of public policy without the activity being considered lobbying. For example, churches may conduct educational meetings, prepare and distribute educational materials, or otherwise consider public policy issues in an educational manner without jeopardizing their tax-exempt status.”
Only “substantial” lobbying activity will jeopardize a church’s exempt status. While the tax code does not define the term “substantial,” The Guide notes that:
whether a church or religious organization’s attempts to influence legislation constitute a substantial part of its overall activities is determined on the basis of all the pertinent facts and circumstances in each case. The IRS considers a variety of factors, including the time devoted (by both compensated and volunteer workers) and the expenditures devoted by the organization to the activity, when determining whether the lobbying activity is substantial. Churches must use the substantial part test since they are not eligible to use the expenditure test described in the next section.
The Guide clarifies several key points.
First, it clarifies that a church’s exempt status is not jeopardized by attempts to influence legislation unless those attempts are substantial. The Guide indicates that in determining whether a church’s efforts are “substantial” a number of factors must be considered, including (1) all pertinent facts and circumstances; (2) the time devoted by the organization to the activity (by both compensated and volunteer workers); (3) funds spent on the attempt to influence legislation.
Second, the Guide clarifies that the prohibition on substantial attempts to influence legislation refers to attempts to oppose as well as promote legislation.
Third, the Guide acknowledges that churches can conduct educational meetings, prepare and distribute educational materials, or otherwise consider public policy issues in an educational manner without jeopardizing their exempt status—so long as they do so in a neutral and nonpartisan manner.
Comment It is truly lamentable that the IRS continues to refuse to provide churches with any meaningful guidance regarding the definition of “substantial” lobbying activities. Churches may engage in “insubstantial” efforts to influence legislation, but once such efforts become “substantial,” then the church’s tax-exempt status is in jeopardy. For now, church leaders must remain in the dark concerning the definition of these terms. The only clarification the Guide provides is that the IRS will consider both time and expenses devoted to lobbying activities in assessing whether those activities are substantial. But what amount of time or expenses constitutes “substantial” activity?
Key Point The Guide notes that a church or religious organization that conducts excessive lobbying activity in any taxable year not only may lose its tax-exempt status, but it also may be subject to an excise tax equal to five percent of its lobbying expenditures. Further, a tax equal to five percent of the lobbying expenditures for the year may be imposed against organization “managers,” jointly and individually, who agree to the making of such expenditures knowing that the expenditures would likely result in loss of tax-exempt status.
(4) political campaign activity — in general
All section 501(c)(3) organizations, including churches, are prohibited from participating or intervening in any political campaign on behalf of or in opposition to any candidate for public office (including the publication or distribution of statements). Violation of this prohibition results in denial or revocation of exempt status and the imposition of certain excise taxes. The IRS tax guide for churches explains this important limitation as follows:
Churches and religious organizations are absolutely prohibited from directly or indirectly participating in, or intervening in, any political campaign on behalf of (or in opposition to) any candidate for elective public office. Contributions to political campaign funds or public statements of position (verbal or written) made by or on behalf of the organization in favor of or in opposition to any candidate for public office clearly violate the prohibition against political campaign activity. Violation of this prohibition may result in denial or revocation of tax-exempt status and the imposition of certain excise taxes.
Certain activities or expenditures may not be prohibited depending on the facts and circumstances. For example, certain voter education activities (including the presentation of public forums and the publication of voter education guides) conducted in a non-partisan manner do not constitute prohibited political campaign activity. In addition, other activities intended to encourage people to participate in the electoral process, such as voter registration and get-out-the-vote drives, would not constitute prohibited political campaign activity if conducted in a non-partisan manner. On the other hand, voter education or registration activities with evidence of bias that (a) would favor one candidate over another, or (b) oppose a candidate in some manner, or (c) have the effect of favoring a candidate or group of candidates, will constitute prohibited participation or intervention.
(5) political campaign activity—individual political activity by religious leaders
The Guide acknowledges that the campaign activity prohibition “is not intended to restrict free expression on political matters by leaders of churches or religious organizations speaking for themselves, as individuals.” Nor are leaders “prohibited from speaking about important issues of public policy.” However, “religious leaders cannot make partisan comments in official organization publications or at official church functions.” To avoid potential “attribution” of their comments outside of church functions and publications, “religious leaders who speak or write in their individual capacity are encouraged to clearly indicate that their comments are personal and not intended to represent the views of the organization.” The Guide illustrates political activity by religious leaders with the following examples.
Example Minister A is the minister of Church J and is well-known in the community. With their permission, Candidate T publishes a full-page ad in the local newspaper listing five prominent ministers who have personally endorsed Candidate T, including Minister A. Minister A is identified in the ad as the minister of Church J. The ad states, “Titles and affiliations of each individual are provided for identification purposes only.” The ad is paid for by Candidate T’s campaign committee. Since the ad was not paid for by Church J, the ad is not otherwise in an official publication of Church J, and the endorsement is made by Minister A in a personal capacity, the ad does not constitute campaign intervention by Church J.
Example Minister B is the minister of Church K. Church K publishes a monthly church newsletter that is distributed to all church members. In each issue, Minister B has a column titled “My Views.” The month before the election, Minister B states in the “My Views” column, “It is my personal opinion that Candidate U should be reelected.” For that one issue, Minister B pays from his personal funds the portion of the cost of the newsletter attributable to the “My Views” column. Even though he paid part of the cost of the newsletter, the newsletter is an official publication of the church. Since the endorsement appeared in an official publication of Church K, it constitutes campaign intervention attributed to Church K.
Example Minister C is the minister of Church L and is well-known in the community. Three weeks before the election he attends a press conference at Candidate V’s campaign headquarters and states that Candidate V should be reelected. Minister C does not say he is speaking on behalf of his church. His endorsement is reported on the front page of the local newspaper, and he is identified in the article as the minister of Church L. Since Minister C did not make the endorsement at an official church function, in an official church publication, or otherwise use the church’s assets, and did not state that he was speaking as a representative of Church L, his actions did not constitute campaign intervention attributable to Church L.
Example Minister D is the minister of Church M. During regular services of Church M shortly before the election, Minister D preached on a number of issues, including the importance of voting in the upcoming election, and concludes by stating, “It is important that you all do your duty in the election and vote for Candidate W.” Since Minister D’s remarks indicating support for Candidate W were made during an official church service, they constitute political campaign intervention attributable to Church M.
(6) political campaign activity—inviting a candidate to speak
Many churches have invited political candidates to address the congregation during a worship service. Sometimes the candidate is a member of the church. In other cases, the candidate contacts the senior pastor and asks for permission to address the congregation. Do such activities jeopardize a church’s tax-exempt status? The Guide addresses these questions directly in two separate contexts: (1) political candidates who address a church congregation as a candidate, and (2) political candidates who do not address a church congregation as a candidate.
speaking as a candidate
The Guide notes that when a candidate is invited to speak at a church as a political candidate, the church must take steps to ensure that:
(1) it provides an equal opportunity to the other political candidates seeking the same office
(2) it does not indicate any support of or opposition to the candidate (this should be stated explicitly when the candidate is introduced and in communications concerning the candidate’s attendance), and
(3) no political fundraising occurs
The Guide notes that in determining whether candidates are given an equal opportunity to participate, a church should consider the nature of the event to which each candidate is invited, in addition to the manner of presentation. For example, “a church that invites one candidate to speak at its well attended annual banquet, but invites the opposing candidate to speak at a sparsely attended general meeting, will likely be found to have violated the political campaign prohibition, even if the manner of presentation for both speakers is otherwise neutral.”
Sometimes a church invites several candidates to speak at a public forum. The Guide warns that if such a forum is operated to show a bias for or against any candidate, then it would be prohibited campaign activity since it would be considered intervention or participation in a political campaign. The Guide suggests that when a church invites several candidates to speak at a forum, it should consider the following factors: (1) whether questions for the candidate are prepared and presented by an independent nonpartisan panel; (2) whether the topics discussed by the candidates cover a broad range of issues that the candidates would address if elected to the office sought and are of interest to the public; (3) whether each candidate is given an equal opportunity to present his or her views on the issues discussed; (4) whether the candidates are asked to agree or disagree with positions, agendas, platforms or statements of the organization; and (5) whether a moderator comments on the questions or otherwise implies approval or disapproval of the candidates.
The Guide illustrates these rules with the following examples.
Example Minister E is the minister of Church N. In the month prior to the election, Minister E invited the three Congressional candidates for the district in which Church N is located to address the congregation, one each on three successive Sundays, as part of regular worship services. Each candidate was given an equal opportunity to address and field questions on a wide variety of topics from the congregation. Minister E’s introduction of each candidate included no comments on their qualifications or any indication of a preference for any candidate. The actions do not constitute political campaign intervention by Church N.
Example Minister F is the minister of Church O. The Sunday before the November election, Minister F invited Senate Candidate X to preach to her congregation during worship services. During his remarks, Candidate X stated, “I am asking not only for your votes, but for your enthusiasm and dedication, for your willingness to go the extra mile to get a very large turnout on Tuesday.” Minister F invited no other candidate to address her congregation during the Senatorial campaign. Because these activities took place during official church services they are attributed to Church O. By selectively providing church facilities to allow Candidate X to speak in support of his campaign, Church O’s actions constitute political campaign intervention.
speaking as a non-candidate
The Guide acknowledges that a church may invite political candidates (including church members) to speak in a non-candidate capacity. For example, some candidates are invited to speak at church services because they are “public figures” (such as “an expert in a non-political field,” a celebrity, or one who has “led a distinguished military, legal, or public service career”). When a candidate is invited to speak at an event in a non-candidate capacity, it is not necessary for the church or religious organization to provide equal access to all political candidates. However, the church or religious organization must ensure that:
(1) the individual speaks only in a non-candidate capacity
(2) neither the individual nor any representative of the church makes any mention of his or her candidacy or the election, and
(3) no campaign activity occurs in connection with the candidate’s attendance
In addition, “the church should clearly indicate the capacity in which the candidate is appearing and should not mention the individual’s political candidacy or the upcoming election in the communications announcing the candidate’s attendance at the event.”
The Guide lists the following examples of a public official appearing at a church in an official capacity, and not as a candidate.
Key Point Note that the significance of a candidate speaking in a non-candidate capacity is that the church is not required to give other candidates an equal opportunity to address the congregation.
Example Church P is located in the state capital. Minister G customarily acknowledges the presence of any public officials present during services. During the state gubernatorial race, Lieutenant Governor Y, a candidate, attended a Wednesday evening prayer service in the church. Minister G acknowledged the Lieutenant Governor’s presence in his customary manner, saying, “We are happy to have worshiping with us this evening Lieutenant Governor Y.” Minister G made no reference in his welcome to the Lieutenant Governor’s candidacy or the election. Minister G’s actions do not constitute political campaign intervention by Church P.
Example. Minister H is the minister of Church Q. Church Q is building a community center. Minister H invites Congressman Z, the representative for the district containing Church Q, to attend the groundbreaking ceremony for the community center. Congressman Z is running for reelection at the time. Minister H makes no reference in her introduction to Congressman Z’s candidacy or the election. Congressman Z also makes no reference to his candidacy or the election and does not do any fundraising while at Church Q. Church Q has not intervened in a political campaign.
(7) political campaign activity—voters education
Some churches engage in voter education activities by distributing voter guides. Voter guides, generally, are distributed during an election campaign and provide information on how candidates stand on various issues. A church will jeopardize its tax-exempt status if it distributes a voter guide that favors or opposes candidates for public elected office, since this will amount to prohibited political campaign activity.
The Guide lists the following factors to consider in deciding if a voter guide constitutes prohibited political campaign activity:
(1) whether the candidates’ positions are compared to the organization’s position
(2) whether the guide includes a broad range of issues that the candidates would address if elected to the office sought
(3) whether the description of issues is neutral
(4) whether all candidates for an office are included, and
(5) whether the descriptions of candidates’ positions are either: (1) the candidates’ own words in response to questions, or (2) a neutral, unbiased and complete compilation of all candidates’ positions.
The Guide addresses voter guides with the following examples.
Example Church R distributes a voter guide prior to elections. The voter guide consists of a brief statement from the candidates on each issue made in response to a questionnaire sent to all candidates for governor of State I. The issues on the questionnaire cover a wide variety of topics and were selected by Church R based solely on their importance and interest to the electorate as a whole. Neither the questionnaire nor the voter guide, through their content or structure, indicate a bias or preference for any candidate or group of candidates. Church R is not participating or intervening in a political campaign.
Example Church S distributes a voter guide during an election campaign. The voter guide is prepared using the responses of candidates to a questionnaire sent to candidates for major public offices. Although the questionnaire covers a wide range of topics, the wording of the questions evidences a bias on certain issues. By using a questionnaire structured in this way, Church S is participating or intervening in a political campaign.
Key Point Voter education activities are permissible and will not constitute intervention in political campaigns so long as the activities are neutral and nonpartisan. If the questions or presentation of the voter education activity demonstrate a particular bias in favor of or in opposition to a particular candidate or candidates, then the church’s exempt status is threatened.
(8) consequences of political campaign activity
The Guide cautions that a church not only jeopardizes its tax exempt status by participating in political campaign activities, but also may become subject to an excise tax on its political expenditures. This excise tax “may be imposed in addition to revocation, or it may be imposed instead of revocation. Also, the church or religious organization should correct the violation.” An initial tax is imposed on an organization at the rate of 10% of the political expenditures. Also, a tax at the rate of 2.5% of the expenditures is imposed “against the organization managers who, without reasonable cause, agreed to the expenditures knowing they were political expenditures. The tax on management may not exceed $5,000.” In any case in which an initial tax is imposed against an organization, and the expenditures are not corrected within the period allowed by law, an additional tax equal to 100% of the expenditures is imposed against the organization. In that case, an additional tax is also imposed against the organization managers who refused to agree to make the correction. The additional tax on management is equal to 50% of the expenditures and may not exceed $10,000 with respect to any one expenditure. Correction of a political expenditure requires the recovery of the expenditure, to the extent possible, and establishment of safeguards to prevent future political expenditures.
Key Point The Guide warns that “a church that engages in any political campaign activity also needs to determine whether it is in compliance with the appropriate federal, state or local election laws, as these may differ from the requirements under section 501(c)(3).”
Unrelated Business Income Tax (“UBIT”)
(1) overview
The Guide devotes two pages to the “unrelated business income tax” (UBIT)—a federal tax that can be assessed against a church as a result of income generated from an unrelated trade or business that is regularly carried on. If a church has gross receipts of $1,000 or more from the conduct of any unrelated trade or business, it is required to file Form 990-T (Exempt Organization Business Income Tax Return) with the IRS. Form 990-T is due the l5th day of the fifth month following the end of the church’s tax year.
The Guide notes that income from an activity will be subject to the unrelated business income tax if three conditions are met: (1) the activity constitutes a trade or business; (2) the trade or business is regularly carried on; and (3) the trade or business is not substantially related to the organization’s exempt purpose. The fact that the organization uses the income to further its charitable or religious purposes does not make the activity substantially related to its exempt purposes.
The Guide notes that there are some exceptions to the tax on unrelated business income:
Even if an activity meets the above three criteria, the income may not be subject to tax if it meets one of the following exceptions: (a) substantially all of the work in operating the trade or business is performed by volunteers, (b) the activity is conducted by the organization primarily for the convenience of its members, or (c) the trade or business involves the selling of merchandise substantially all of which was donated. In general, rents from real property, royalties, capital gains, and interest and dividends are not subject to the unrelated business income tax unless financed with borrowed money.
(2) examples of unrelated trades or businesses
The Guide addresses several possible examples of church-generated unrelated business income:
Advertising. Many tax-exempt organizations sell advertising in their publications or other forms of public communication. Generally, income from the sale of advertising is unrelated trade or business income. This may include the sale of advertising space in weekly bulletins, magazines or journals, or on church or religious organization websites.
Gaming Activities. Most forms of gaming, if regularly conducted, may be considered the conduct of an unrelated trade or business. This can include the sale of pull-tabs and raffles. Income derived from the conduct of bingo games may be eligible for a special tax exception (in addition to the exception regarding uncompensated volunteer labor discussed above), if the following conditions are met: (a) The bingo game is the traditional type of bingo (as opposed to Instant Bingo, a variation of pull-tabs), (b) the conduct of the bingo game is not an activity carried out by for-profit organizations in the local area, and (c) the conduct of the bingo game does not violate any State or local law.
Sale of Merchandise and Publications. The sale of merchandise and publications (including the actual publication of materials) can be considered the conduct of an unrelated trade or business if the items involved do not have a substantial relationship to the exempt purposes of the organization.
Rental Income. Generally, income derived from the rental of real property and incidental personal property is excluded from unrelated business income. However, there are certain situations in which rental income may be unrelated business taxable income.
• If a church rents out property on which there is debt outstanding (for example, a mortgage note), the rental income may constitute unrelated debt-financed income subject to UBIT. (However, if a church or convention or association of churches acquires debt-financed land for use in its exempt purposes within 15 years of the time of acquisition, then income from the rental of the land may not constitute unrelated business income.)
• If personal services are rendered in connection with the rental then the income may be unrelated business taxable income.
• If a church charges for the use of the parking lot, the income may be unrelated business taxable income.
Parking Lots. If a church owns a parking lot that is used by church members and visitors while attending church services, any parking fee paid to the church would not be subject to UBIT. However, if a church operates a parking lot that is used by members of the general public, parking fees would be taxable, as this activity would not be substantially related to the church’s exempt purpose, and parking fees are not treated as rent from real property. If the church enters into a lease with a third party who operates the church’s parking lot and pays rent to the church, such payments would not be subject to tax, as they would constitute rent from real property.
Special Rules for Compensation of Ministers
The Guide summarizes several tax issues involving the compensation of ministers. Here is a summary of what the Guide says:
(1) withholding income tax for ministers
The Guide correctly notes that churches are not required to withhold income tax from the compensation that it pays to a duly ordained, commissioned, or licensed minister for performing services in the exercise of ministry. However, “an employee minister may enter into a voluntary withholding agreement with the church by completing IRS Form W-4.”
I recommended to the IRS national office that the tax guide be modified to note that voluntary withholding does not subject a minister to FICA taxes. Many churches who withhold income taxes from their minister’s compensation pursuant to a voluntary withholding arrangement also treat the minister as an employee for Social Security and withhold FICA taxes.
This is incorrect. Ministers are never subject to FICA taxes with respect to their church income. They pay the self-employment tax, even if they report their income taxes as an employee. A minister’s self-employment taxes can be withheld under a voluntary withholding arrangement, but only as additional income taxes.
IRS Publication 517 specifically states that “if you perform your services as an employee of the church (under the common law rules), you may be able to enter into a voluntary withholding agreement with your employer, the church, to cover any income and self-employment tax that may be due.”
(2) parsonage or housing allowances
The Guide notes that a minister who is furnished a parsonage may exclude from income the fair rental value of the parsonage, including utilities, and that a minister who receives a housing allowance may exclude the allowance from gross income to the extent it is used to pay expenses in providing a home. The Guide explains the housing allowance as follows:
Generally [housing] expenses include rent, mortgage payments, utilities, repairs, and other expenses directly relating to providing a home. If a minister owns a home, the amount excluded from the minister’s gross income as a housing allowance is limited to the least of the following: (a) the amount actually used to provide a home, (b) the amount officially designated as a housing allowance, or (c) the fair rental value of the home. The minister’s church or other qualified organization must designate the housing allowance pursuant to official action taken in advance of the payment. If a minister is employed and paid by a local congregation, a designation by a national church agency will not be effective. The local congregation must make the designation. A national church agency may make an effective designation for ministers it directly employs. If none of the minister’s salary has been officially designated as a housing allowance, the full salary must be included in gross income.
The Guide correctly notes that the fair rental value of a parsonage or a housing allowance is excludable from income only for income tax purposes. These amounts are not excluded in determining the minister’s net earnings from self-employment for self-employment tax purposes.
There are four points to note about this brief explanation.
(1) The IRS has begun using the term “housing allowance” instead of “parsonage allowance” or “rental allowance.” Your author suggested this change in terminology in a letter to the IRS national office following the publication of its original (1994) Tax Guide for Churches since the term “housing allowance” is broader and applies whether a minister owns or rents a home or lives in a parsonage.
(2) the IRS has ignored your author’s suggestion that the list of home expenses that are includable in calculating a minister’s housing allowance exclusion be expanded to include furnishings and property insurance. There is no doubt that these expenses are directly related to owning or maintaining a home, and that a housing allowance can be used to pay for them.
(3) The Guide clarifies that the nontaxable amount of a housing allowance may never exceed the annual fair rental value of a minister’s home (furnished, including utilities). This reflects the recently enacted Clergy Housing Allowance Clarification Act of 2002, which amended the tax code to incorporate the fair rental value limit.
(4) The Guide fails to provide ministers with a definition of the critical phrase “fair rental value.”
(3) the Deason rule
The Guide explains the Deason rule as follows: “A minister who receives a parsonage or rental allowance excludes that amount from his income, and the portion of expenses allocable to the excludable amount is not deductible. This limitation, however, does not apply to interest on a home mortgage or real estate taxes, nor to the calculation of net earnings from self-employment for SECA tax purposes.”
(4) FICA Taxes vs. SECA Tax
The Guide correctly notes that compensation a church pays to its ministers for performing services in the exercise of ministry is not subject to FICA taxes (Social Security and Medicare taxes). However, income that a minister earns in performing services in the exercise of his ministry is subject to self-employment tax, unless the minister has timely applied for and received an exemption.
Payment of Employee Business Expenses
Most ministers and lay church employees incur business expenses in the course of their employment. Unfortunately, the correct handling of these expenses for tax purposes is often not well understood. The Guide devotes one page to this important topic. It makes the following points:
(1) accountable reimbursement plan
A church or religious organization is treated like any other employer as far as the tax rules regarding employee business expenses. The rules differ depending upon whether the expenses are paid through an accountable or non-accountable plan, and these plans determine whether the payment for these expenses is included in the employee’s income.
An arrangement that an employer establishes to reimburse or advance employee business expenses will be an accountable plan if it meets three requirements: (1) involves a business connection, (2) requires the employee to substantiate expenses incurred, and (3) requires the employee to return any excess amounts.
Employees must provide the organization with sufficient information to identify the specific business nature of each expense and to substantiate each element of an expenditure. It is not sufficient for an employee to aggregate expenses into broad categories such as travel or to report expenses through the use of non-descriptive terms such as miscellaneous business expenses. Both the substantiation and the return of excess amounts must occur within a reasonable period of time.
Employee business expenses reimbursed under an accountable plan are (a) excluded from an employee’s gross income, (b) not required to be reported on the employee’s IRS Form W-2, Wage and Tax Statement, and (c) exempt from the withholding and payment of wages subject to FICA taxes and income tax withholdings.
While this language is based on the income tax regulations, it will be confusing to many ministers and church employees. For example, the Guide does not mention that expenses must be reimbursed within 60 days under an accountable plan, or that excess reimbursements must be returned to the employer within 120 days.
I suggested to the IRS national office the following definition: “An accountable plan is one that reimburses only those business expenses that are substantiated as to the amount, date, place, and business purpose of each expense, and requires any excess reimbursements to be returned to the church. Ordinarily, expenses must be substantiated within 60 days, and any excess reimbursements must be returned to the church within 120 days.” Unfortunately, many ministers, lay church employees, and church treasurers who rely on the Guide will end up having a nonaccountable expense reimbursement arrangement.
(2) non-accountable reimbursement plan
If the church reimburses or advances the employee for business expenses, but the arrangement does not satisfy the three requirements of an accountable plan, the amounts paid to the employees are considered wages subject to FICA taxes and income tax withholding, if applicable, and are reportable on Form W-2. (Amounts paid to employee ministers are treated as wages reportable on Form W-2, but are not subject to FICA taxes or income tax withholding.)
For example, if a church or religious organization pays its secretary a $200 per month allowance to reimburse monthly business expenses the secretary incurs while conducting church business, and the secretary is not required to substantiate the expenses or return any excess, then the entire $200 must be reported on Form W-2 as wages subject to FICA taxes and income tax withholding. In the same situation involving an employee-minister, the allowance must be reported on the minister’s Form W-2, but no FICA or income tax withholding is required.
(3) car expenses
One common business expense reimbursement is for automobile mileage. If a church pays a mileage allowance at a rate that is less than or equal to the federal standard [mileage] rate, the amount of the expense is deemed substantiated. (Each year, the federal government establishes a standard mileage reimbursement rate.) There are no income or employment tax consequences to the reimbursed individual provided that the employee substantiates the time, place and business purposes of the automobile mileage for which reimbursement is sought. Of course, reimbursement for automobile mileage incurred for personal purposes are includible in the individual’s income.
If a church reimburses automobile mileage at a rate exceeding the standard mileage rate, the excess is treated as paid under a non-accountable plan. This means that the excess is includible in the individual’s income and is subject to the withholding and payment of income and employment taxes, if applicable. In addition, any mileage reimbursement that is paid without requiring the individual to substantiate the time, place, and business purposes of each trip is included in the individual’s income, regardless of the rate of reimbursement.
No income is attributed to an employee or a volunteer who uses an automobile owned by the church to perform church-related work.
Recordkeeping Requirements
The Guide notes that “tax-exempt organizations are required to maintain books and records that are necessary to accurately file any federal tax and information returns that may be required.” It acknowledges that “there is no specific format for keeping records. However, the types of required records frequently include organizing documents (charter, constitution, articles of incorporation) and bylaws, minute books, property records, general ledgers, receipts and disbursements journals, payroll records, banking records, and invoices. The extent of the records necessary generally varies according to the type, size, and complexity of the organization’s activities.”
The Guide addresses a frequently-asked question, “How long should church records be kept?” Of course, there are dozens of answers to this question, depending on the specific context. The Guide addresses two rules:
“records of revenue and expenses, including payroll records, should be kept for at least four years after filing the return to which they relate”
“records relating to acquisition and disposition of property (real and personal, including investments)” should be kept “for at least four years after the filing of the return for the year in which disposition occurs”
Filing Requirements
The Guide briefly addresses a number of church filing requirements, including the following forms:
Form W-2. Annual wage statement issued to each employee by January 31 of the following year, reporting wages and withholdings.
Form 941. Quarterly employer’s tax return, which reports wages paid and taxes withheld. The return is due “quarterly on April 30, July 31, October 31, and January 31 (10 days later if the organization deposited all taxes when due).”
Form 945. Annual return of withheld federal income tax. The Guide explains that “if a church withholds income tax, including backup withholding, from non-payroll payments, it must file Form 945 by January 31. This form is not required for those years in which there is no non-payroll tax liability.” Many churches engage in backup withholding. Perhaps the most common example is backup withholding on compensation paid to self-employed persons who do not furnish their Social Security number. Backup withholding is reported on Form 945.
Form 990-T. The Guide explains that “churches must file Form 990-T if they generate gross income from an unrelated business of $1,000 or more for a taxable year. Form 990-T must be filed by the 15th day of the 5th month after the organization’s accounting period ends (May 15 for a calendar year accounting period).” In addition, if the tax on unrelated business income is expected to be $500 or more, the church must make estimated tax payments. Form 990-W is used to compute the estimated tax liability.
Form 1099. Many churches issue this form. The Guide explains it as follows: “A church must file Form 1099-MISC if it pays an unincorporated individual or an entity $600 or more in any calendar year for one of the following payments: gross rents; commissions, fees, or other compensation paid to non-employees; prizes and awards; or other fixed and determinable income …. The church must furnish each payee with copies of Form 1099-MISC by January 31 and file Copy A of Form 1099-MISC with the IRS by February 28.”
Form 5578. A church that operates a private school is required to file Form 5578 with the IRS each year. This commonly overlooked requirement is explained by the Guide as follows:
A church that operates a private school, whether separately incorporated or operated as part of its overall operations, that teaches secular subjects and generally complies with state law requirements for public education must file Form 5578 to certify that it does not discriminate based on race or ethnic origin …. Form 5578 must be filed on or before the 15th day of the 5th month following the end of the organization’s taxable year (May 15 for a calendar year). If an organization files Form 990 or Form 990-EZ, the certification must be made on Schedule A (Form 990 or Form 990-EZ). It is not considered racially discriminatory for a parochial school to select students on the basis of membership in a religious denomination if membership in the denomination is open to all on a racially nondiscriminatory basis. Further, a seminary, or other purely religious school, that primarily teaches religious subjects usually with the purpose of training students for the ministry, is not subject to the racially nondiscriminatory requirements because it is considered to be a religious rather than an educational organization.
Some independent religious schools that are not affiliated with a particular church or denomination will not use Form 5578. These schools will make their annual certification of racial nondiscrimination directly on Form 990 (or Form 990-EZ).
Form 8282. A church must file Form 8282 “if it sells, exchanges, transfers, or otherwise disposes of certain non-cash donated property within two years of the date it originally received the donation. This applies to non-cash property that had an appraised value of $5,000 or more at time of donation. The church or religious organization must file Form 8282 with the appropriate IRS Customer Service Center within 125 days of date of disposition of the property and furnish the original donor with a copy of the form.”
Charitable Contributions—Substantiation and Disclosure Requirements
The Guide notes that “there are two general rules that a church needs to be aware of to meet substantiation and disclosure requirements for federal income tax return reporting purposes.”
(1) substantiation
The Guide explains this rule as follows:
A donor is responsible for obtaining a written acknowledgment from a charity for any single contribution of $250 or more before the donor can claim a charitable contribution on his or her federal income tax return. A donor cannot claim a tax deduction for any single contribution of $250 or more unless the donor obtains a contemporaneous, written acknowledgment of the contribution from the recipient church or religious organization. A church or religious organization that does not acknowledge a contribution incurs no penalty; but without a written acknowledgment the donor cannot claim a tax deduction. Although it is a donor’s responsibility to obtain a written acknowledgment, a church or religious organization can assist a donor by providing a timely, written statement containing the following information: (1) name of the church or religious organization; (2) date of the contribution; (3) amount of any cash contribution; (4) description (but not the value) of non-cash contributions; (5) statement that no goods or services were provided by the church or religious organization in return for the contribution, if that is the case; (6) description and good faith estimate of the value of goods or services, if any, that the church or religious organization provided in return for the contribution; and (7) statement that goods or services, if any, that a church or religious organization provided in return for the contribution consisted entirely of intangible religious benefits, if that was the case.
The church or religious organization may either provide separate acknowledgments for each single contribution of $250 or more or one acknowledgment to substantiate several single contributions of $250 or more. Separate contributions are not aggregated for purposes of measuring the $250 threshold.
(2) disclosure rules for “quid pro quo” contributions
The Guide points out that “a contribution made by a donor in exchange for goods or services is known as a quid pro quo contribution,” and that “a donor may only take a contribution deduction to the extent that his or her contribution exceeds the fair market value of the goods and services the donor receives in return for the contribution. Therefore, donors need to know the value of the goods or services. A church must provide a written statement to a donor who makes a payment exceeding $75 partly as a contribution and partly for goods and services provided by the organization. The church or religious organization must provide the written disclosure statement with either the solicitation or the receipt of the contribution and in a manner that is likely to come to the attention of the donor. For example, a disclosure in small print within a larger document may not meet this requirement.” The Guide provides the following example.
Example If a donor gives a church a payment of $100 and, in return, receives a ticket to an event valued at $40, this is a quid pro quo contribution, and only $60 is deductible by the donor ($100 – $40 = $60). Even though the deductible amount does not exceed $75, since the quid pro quo contribution the church received is in excess of $75, the church must provide the donor with a written disclosure statement. The statement must include the: (a) amount of the payment, (b) value of the goods and services received by the donor, and (c) amount of the contribution, which would be tax deductible (the amount in excess of the value of the goods and services provided).
The Guide notes that a church is not required to provide a disclosure statement for quid pro quo contributions when (a) the goods or services meet the standards for insubstantial value, or (b) the only benefit received by the donor is an intangible religious benefit. Additionally, if the goods or services the church provides are intangible religious benefits, the acknowledgement for contributions of $250 or more does not need to describe those benefits. Generally, intangible religious benefits are “benefits provided by a church that are not usually sold in commercial transactions outside a donative (gift) context. Intangible religious benefits include admission to a religious ceremony, and de minimis tangible benefits, such as wine used in religious ceremony. Benefits that are not intangible include tuition for education leading to a recognized degree, travel services, and consumer goods.”
Special Rules Limiting IRS Authority to Audit a Church
A feature in the Tax Guide for Churches is a discussion of IRS audits of churches:
Congress has imposed special limitations, found in section 7611 [of the tax code] on how and when the IRS may conduct civil tax inquiries and examinations of churches. The IRS may only initiate a church tax inquiry if the Director, Exempt Organizations, Examinations reasonably believes, based on a written statement of the facts and circumstances, that the organization: (a) may not qualify for the exemption, or (b) may not be paying tax on an unrelated business or other taxable activity.
Restrictions on church inquiries and examinations apply only to churches (including organizations claiming to be churches if such status has not been recognized by IRS) and conventions or associations of churches. They do not apply to related persons or organizations. Thus, for example, the rules do not apply to schools that, although operated by a church, are organized as separate legal entities. Similarly, the rules do not apply to integrated auxiliaries of a church.
Restrictions on church inquiries and examinations do not apply to all church inquiries by the IRS. The most common exception relates to routine requests for information. For example, IRS requests for information from churches about filing of returns, compliance with income or Social Security and Medicare tax withholding requirements, supplemental information needed to process returns or applications, and other similar inquiries are not covered by the special church audit rules. Restrictions on church inquiries and examinations do not apply to criminal investigations or to investigations of the tax liability of any person connected with the church, e.g., a contributor or minister.
However, the procedures of section 7611 will be used in initiating and conducting any inquiry or examination into whether an excess benefit transaction (as that term is used in section 4958) has occurred between a church and an insider.
This last paragraph is an important clarification. Ministers are subject to substantial penalties in the form of excise taxes if they are paid excessive compensation. In addition, members of the church board that approved the excessive compensation are subject to individual penalties. These penalties are often referred to as “intermediate sanctions,” and they are addressed fully in Chapter 4, Section A.3, of Richard Hammar’s Church & Clergy Tax Guide.
The Guide describes the church “audit process” as follows:
1. If the reasonable belief requirement is met, the IRS must begin an inquiry by providing a church with written notice containing an explanation of its concerns.
2. The church is allowed a reasonable period in which to respond by furnishing a written explanation to alleviate IRS concerns.
3. If the church fails to respond within the required time, or if its response is not sufficient to alleviate IRS concerns, the IRS may, generally within 90 days, issue a second notice, informing the church of the need to examine its books and records.
4. After issuance of a second notice, but before commencement of an examination of its books and records, the church may request a conference with an IRS official to discuss IRS concerns. The second notice will contain a copy of all documents collected or prepared by the IRS for use in the examination and subject to disclosure under the Freedom of Information Act, as supplemented by IRC Section 6103 relating to disclosure and confidentiality of tax return information.
5. Generally, examination of a church’s books and records must be completed within two years from the date of the second notice from the IRS.
if at any time during the inquiry process the church supplies information sufficient to alleviate the concerns of the IRS, the matter will be closed without examination of the church’s books and records. There are additional safeguards for the protection of churches under IRC Section 7611. For example, the IRS cannot begin a subsequent examination of a church for a five-year period unless the previous examination resulted in a revocation, notice of deficiency of assessment, or a request for a significant change in church operations, including a significant change in accounting practices.
Definition of the Term “Minister”
There is considerable confusion today among churches and ministers concerning the definition of the term minister for federal tax purposes. Yet a definition is critical, for it determines the application of a number of federal tax provisions, including eligibility for the housing allowance exclusion, self-employed status for Social Security with respect to services performed in the exercise of ministry, exemption from income tax withholding, and eligibility for exemption from self-employment tax (if several conditions are met).
Unfortunately, while the tax code uses the term “minister” in each of these contexts, it provides no definition. Incredibly, neither does the IRS Tax Guide for Churches. It simply states that “as used in this booklet, the term minister denotes members of clergy of all religions and denominations and includes priests, rabbis, imams, and similar members of the clergy.”
It is hard to fathom why the IRS chose not to provide any assistance in defining this critical term in a book that is designed to help churches “voluntarily comply with tax rules.” This is a major flaw in the Guide. The best that can be said is that no definition is preferable to the awful definition contained in the 1994 IRS Tax Guide for Churches (a definition so restrictive that it excluded countless bona fide ministers).
Much of the confusion regarding the definition of the term minister could be eliminated by the following two recommendations (I submitted these recommendations to the IRS national office):
(1) Define the term minister to include anyone who satisfies two requirements:
(a) the individual is ordained, commissioned, or licensed by a bona fide religious organization exempt from tax under section 501(c)(3) of the tax code—or the “functional equivalent” of an ordained, commissioned, or licensed minister in a non-Christian faith; and
(b) the individual, by virtue of his or her status as an ordained, commissioned, or licensed minister, has the authority (whether exercised or not) to function as a minister in his or her religious community, including the authority to conduct worship, administer sacraments, or perform sacerdotal functions (preaching, teaching, marriages, funerals, counseling, baptisms, communion).
(2) Retain the present definition of the term services performed in the exercise of ministry as reflected in the income tax regulations, but acknowledge that a minister need perform all of the functions of a pastoral minister in order to satisfy this definition.
Definition of the Term “Church”
As with the term minister, the term church is used frequently in the tax code, but no definition is provided. The Guide contains the following analysis of the definition of the term church for federal tax purposes:
Certain characteristics are generally attributed to churches. These attributes of a church have been developed by the IRS and by court decisions. They include: distinct legal existence; recognized creed and form of worship; definite and distinct ecclesiastical government; formal code of doctrine and discipline; distinct religious history; membership not associated with any other church or denomination; organization of ordained ministers; ordained ministers selected after completing prescribed courses of study; literature of its own; established places of worship; regular congregations; regular religious services; Sunday schools for the religious instruction of the young; schools for the preparation of its ministers. The IRS generally uses a combination of these characteristics, together with other facts and circumstances, to determine whether an organization is considered a church for Federal tax purposes. The IRS makes no attempt to evaluate the content of whatever doctrine a particular organization claims is religious, provided the particular beliefs of the organization are truly and sincerely held by those professing them and the practices and rites associated with the organization’s belief or creed are not illegal or contrary to clearly defined public policy.
This definition is pathetic. It is a restatement of the misguided “14 criteria” definition that the IRS has been using for many years. These criteria clearly are vague and inadequate. Some apply exclusively to local churches, others do not. And the IRS does not indicate how many criteria an organization must meet in order to be classified as a church, or if some criteria are more important than others. These criteria are troubling because they are so restrictive that many, if not most, bona fide churches fail to satisfy several of them. In part, the problem results from the apparent attempt to draft criteria that apply to both local churches and religious denominations. To illustrate, few if any local churches would meet the seventh, ninth, and fourteenth criteria, since these ordinarily would pertain only to religious denominations. In addition, many newer, independent churches often will fail the first and fifth criteria and may also fail the second, third, fourth, sixth, and eighth. It is therefore possible for a legitimate church to fail as many as ten of the fourteen criteria.
Key Point The original Christian churches described in the New Testament Book of Acts easily would have failed a majority of the 14 criteria.
The vagueness of the criteria necessarily means that their application in any particular case will depend on the discretionary judgment of a government employee. This is the very kind of conduct that the courts repeatedly have condemned in other contexts as unconstitutional. To illustrate, the courts consistently have invalidated municipal ordinances that condition the constitutionally protected interests of speech and assembly upon compliance with criteria that are so vague that decisions essentially are a matter of administrative discretion. The United States Supreme Court has held that “it is a basic principle of due process that an enactment is void for vagueness if its prohibitions are not clearly defined …. A vague law impermissibly delegates basic policy matters to [government officials] for resolution on an ad hoc and subjective basis with the attendant dangers of arbitrary and discriminatory application.” Grayned v. City of Rockford, 408 U.S. 104, 108-09 (1972).
This same reasoning also should apply in the context of other fundamental constitutional rights, such as the first amendment right to freely exercise one’s religion. The IRS should not be permitted to effectively limit the right of churches and church members to freely exercise their religion on the basis of criteria that are as vague as the 14 criteria listed above, and whose application in a particular case is essentially a matter of administrative discretion.
The criteria also are constitutionally suspect on the related ground of “overbreadth.” The Supreme Court “has repeatedly held that a governmental purpose to control or prevent activities constitutionally subject to state regulation may not be achieved by means which sweep unnecessarily broadly and thereby invade the area of protected freedoms. The power to regulate must be so exercised as not, in attaining a permissible end, unduly to infringe the protected freedom. Even though the governmental purpose be legitimate and substantial, that purpose cannot be pursued by means that broadly stifle fundamental personal liberties when the end can be more narrowly achieved.” N.A.A.C.P. v. Alabama, 377 U.S. 288, 307-08 (1964).
Congress and the IRS undoubtedly have the authority to identify those churches that are not qualified for the tax benefits afforded by federal law, but they may not do so on the basis of criteria that sweep so broadly as to jeopardize the standing of legitimate churches. The courts understandably find the task of defining the term church perplexing, but they should avoid referring to the 14 criteria as support for their conclusions.
I made the following recommendation to the IRS national office regarding this definition:
Modify the criteria to apply solely to local churches, and use only the following factors:
1. a distinct legal existence
2. a recognized creed and form of worship
3. a formal code of doctrine and discipline
4. a membership not associated with any other church or denomination
5. an established place of worship
6. regular worship services
7. a program for the religious instruction of the young
Not all of these factors should be required, but these should be the factors to consider in reaching an informed judgment regarding the status of a particular entity as a “church.” All bona fide churches will satisfy a majority of these criteria.
