Saturday, July 2, 2011
Clergy Compensation Getting HR Right
A5
1:00 PM—2:45 PM
Location
Potomac C
Clergy Compensation Getting HR Right
Constructing compensation packages for clergy requires the
consideration of many factors and many different tax laws.
Getting it right at the beginning is important to be able to
maximize all the tax benefits and getting it right at the end will
help the minister stay out of trouble with the IRS.
Factors to be discussed will include
Elaine Sommerville
CPA
Elaine L. Sommerville is licensed as a certified
public accountant by the State of Texas. She has
worked in public accounting since 1985. Elaine
holds a bachelor of business administration in
accountancy and information systems from the
University of Texas of the Permian Basin. She is
currently the sole shareholder of the firm of
Sommerville & Associates, P.C.

Proper designation,

Defining taxable fringe benefits,
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Handling housing allowance, and
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How should it all be reported to the government.
From start to finish this session will walk through all the important
steps to be considered in compensating ministers so that your
minister doesn’t end up the topic of one of the cases discussed
by the Sommervilles in their joint update session at a future conference.
Elaine’s practice is centered on nonprofit
organizations in areas of tax compliance, but
she also has a passion for training those who
work for nonprofit organizations and those who
work with nonprofit organizations. To this end,
she is a regular speaker for the Texas Society of
CPAs, NACBA, and the Houston Church Coop and
is an instructor for the American Institute for
Certified Public Accountants (AICPA).
She is a contributing author to various publications
published by Thompson Reuters including their
Nonprofit Newsletter, the Nonprofit Tax And Government Guide and the Form 990 Deskbook.
She is a member of the AICPA, the Texas Society of
CPAs, NACBA, Christian Leadership Alliance, and
the Texas One Star Network.
Contact information:
Elaine Sommerville
817.795.5046
[email protected]
Clergy Compensation: Getting HR Right
Presented by:
Elaine L. Sommerville, CPA
Sommerville & Associates, P.C.
3030 Matlock Rd., Ste. 201
Arlington, TX 76015
[email protected]
elainesommerville.blogspot.com
From Start to Finish
Defining &Reporting Compensation
Overriding Consideration
1. Everything that benefits the employee is a form of compensation for services rendered and
2. Everything that provides increase to an employee or benefits an employee is taxable until a
provision in the Internal Revenue Code tells us that it is not taxable.
Steps of Working With Compensation
Step #1 – Who Gets To Decide
Before compensation can be determined, the church must first define and recognize who has the
authority to make these types of decisions .
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Determine the proper group or committee who is charged with making decisions regarding
compensation packages.
All members of this group must either be independent of the persons being compensated or the
group must be large enough so that anyone who lacks independence can abstain from
discussions without gutting the decision making body.
o Independent people are not related to the person being compensated and
o Independent people cannot work for the person being compensated.
Step #2 – Define the Umbrella
Consider the umbrella as the ultimate amount of compensation that a person may receive. All of the
compensation must fit under the umbrella.
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Determine the maximum compensation that can be paid to an employee/minister for the
services rendered to the church.
Use outside sources of data to prove that the maximum compensation proposed is still
reasonable. Consider the following sources:
o Salary surveys such as the NACBA survey
o Independent compensation experts (attorneys and CPAs are not qualified as
compensation experts unless that is their primary service and they have received
specialized training and have specifically worked in that area for many years.)
o Accumulated information from other churches of similar size and theological beliefs.
Don’t restrict your information just to outside data – make sure to integrate it with other
pertinent data:
o The employee/minister’s qualifications
o The nature and scope of the employment
o The size and complexity of the church
From Start to Finish
Defining & Reporting Compensation
© Elaine L. Sommerville 2011
Page 2 of 7
o
o
o
The prevailing economic conditions of the area
The church’s overall salary philosophy
The financial condition of the church
Step #3 – Identify All Benefits Provided In Addition To Cash Pay
Since everything has to fit under the umbrella of reasonable compensation, it is important to know what
all the benefits are and the value of the benefits.

What is benefiting the employees:
o Housing
o Auto
o Insurance
o Medical programs
o Child care
o Retirement
o Tuition
o Clothing
o Love gifts
o Gift cards
o Expense Reimbursement Plans
Step #4 – Value the Benefits
After identifying the benefits, a value must be placed on them. If you don’t know the value of the
benefits, you can’t determine if the umbrella has been exceeded.
Step #5 – Is It Too Much?????
Add up all the cash and value of the benefits that are provided and compare to the umbrella that has
been established. Does it fit? A church doesn’t have to pay the umbrella, but it can’t pay more than the
umbrella.
Step #6 – Write It Down
Compensation packages must be documented in writing. For persons considered to be control parties
or disqualified persons, this is required to be in the minutes of the board or committee making the
decisions. These minutes should include the following include the following:
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Document the amount of the package
Document the basis as to why the package is reasonable including the outside data that was
used to prove it was reasonable
Document the vote of each person of the committee or at least any person who votes against
the package (there are penalties that can be assessed against persons who agree to pay an
unreasonable amount of compensation to key individuals in the church.)
From Start to Finish
Defining & Reporting Compensation
© Elaine L. Sommerville 2011
Page 3 of 7

Clearly document the portion of the package that is going to be considered as housing
allowance under IRC Section 107.
The employment files of the employee should also include details of the compensation package as well
as authorization of raises and bonuses paid during the year. It is also wise for the personnel files to
include copies of a minister’s credentials.
Step #7 – Determine the Taxability of Each Element of the Package
Since everything is taxable unless a provision in the Internal Revenue Code says it isn’t, each element of
the package has to be separately considered.
 Determine if each element is taxable for
o Federal Income Tax
o Social Security & Medicare Taxes
 If one of the elements is taxable, is there a provision that makes it nontaxable if something is
done a little differently.
o Example: Payment of auto expenses directly would be taxable, but if the employee is
reimbursed based on the IRS approved mileage rate the benefit is not taxable.
Taxable Compensation – Common Items
 Anniversary/Birthday Gifts
 Auto Allowance/Employer provided auto
 Gift cards
 Bonuses
 Clothing Allowances
 Life insurance outside a group plan
 Payments to medical sharing programs such as the Medishare or Christian Healthcare programs
 Flat allowances without accountability
 Housing to nonministers
 Reimbursement for SE tax
Taxable - Maybe ????
There are plenty of ways to compensate employees with benefits that can be tax free if they are done
correctly. Many times the difference it for the church to establish a written plan that is provided on a
nondiscriminatory basis. Examples of these types of benefits are:
 Payment of out of pocket medical expenses
 Group term life insurance (first $50,000 of coverage is tax free)
 Dependent care plan
 Tuition assistance plan
 Benefits provided through a cafeteria plan
 Tuition reduction plans (for school employees only)
Nontaxable – Normally
 Housing allowance (taxable for SE tax and must be designated in advance in writing)
 Contributions to Qualified Retirement Plans
From Start to Finish
Defining & Reporting Compensation
© Elaine L. Sommerville 2011
Page 4 of 7

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Employer provided room and board when for the convenience of the employer
Health insurance premiums
Step #8 – Determine the Necessary Withholding
While ministers are exempt from mandatory withholding for federal income tax and are never allowed
to be taxed through the employee/employer matching system of FICA/Medicare, other employees are
subject to these mandatory taxing provisions and as such it is important that this step be accomplished.
Some benefits are subject to both federal income tax and social security taxes while others are not
subject to federal income tax but are subject to social security taxes.
Step #9 – Report It Right
Form 941 – Quarterly Reporting
Taxable items are included on the quarterly reports.
Form W-2 – Annual Reporting
Taxable items are included along with the appropriate taxes that have been withheld should be included
with all other taxable income.
Special reporting is required for certain benefits and forms of compensation in Box 12 of the Form W-2.
Some common examples include:
 Dependent care
 Elective deferrals into retirement plans
 Health insurance benefits starting with the Forms W-2 issued in 2013
The instructions for Form W-2 should be reviewed each year to determine all of the items that are
required to be disclosed in Box 12.
From Start to Finish
Defining & Reporting Compensation
© Elaine L. Sommerville 2011
Page 5 of 7
Case Study #1
First Church is currently engaging a new minister. The church desires to be able to maximize the tax
benefits of the package to provide the greatest benefit to the minister. The church can provide some
the following benefits:
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Cash
Housing Allowance
Retirement plan contributions
Auto Allowance
Free tuition for the minister’s children at the school
Health insurance
Life insurance
Reimbursements for a portion of his SE tax
The church and the minister want to structure the package to keep the taxes low?
What are some questions that should be asked to determine how to tax some of the benefits?
 Auto - How will the auto allowance be paid? Is the minister willing to turn in mileage properly
documented, so that the church can reimburse him on a mileage reimbursement arrangement?
 Tuition – Does the church maintain a tuition reduction plan? Will the minister be doing any
work for the school that would allow him to participate in the plan? If so, will his portion be
discriminatory?
 Life Insurance – Does the church have a group term life insurance plan? If so, how much
coverage will the minister be provided?
After a review of the facts and asking some questions, the following is determined:
Item
Cash
Housing Allowance
Taxable
Yes
No
Contribution to 403(b) Plan
No
Auto
No – Determined to be a per
mile reimbursement
Yes – Nondiscriminatory plan not
available
No
Yes – no group plan
Yes
Tuition
Health Insurance
Life Insurance
SE Tax Reimbursement
From Start to Finish
Defining & Reporting Compensation
© Elaine L. Sommerville 2011
Page 6 of 7
Report As
Box 1 Wages on W-2
Optional to report in Box 14 on
W-2
No – but check box on W-2 that
he participates in a retirement
plan
No reporting
Box 1 Wages on W-2
None
Box 1 Wages on W-2
Box 1 Wages on W-2
Case Study #2
Second Church is hiring Pete to be their new minister. They have offered him the parsonage along with
$1,000 per week and health insurance. They also have a church auto that he can use. The church
bookkeeper tells Pete that he can turn in his business expenses to her each week and she will write him
a check for the business expenses out of the $1,000 and then pay the remainder of the $1,000 to him as
a payroll check. Since Pete’s wife pays for the family’s health insurance through her employer’s
cafeteria plan, the church is going to provide Pete with a reimbursement for the amount that she pays.
The bookkeeper is now trying to decide what she is supposed to report on Pete’s W-2 at the end of the
year.
Compensation Item
Parsonage
Taxable
No
Portion of $1,000 paid through
payroll check
Portion of $1,000 paid as a
reimbursement for business
expenses
Auto
Yes
Health insurance
reimbursements
Reported
None, but Pete has to know the
fair rental value of the parsonage
in order to properly compute his
SE tax
Box 1 wages on W-2
Yes, this is a nonaccountable
plan and it is all taxable
Box 1 wages on W-2
Yes, a value is attributed to the
personal mileage. If no business
mileage is documented, then it is
all considered as personal
mileage
Box 1 wages on W-2 and if the
entire annual lease value (as
prescribed by the IRS) is included
due to lack of documentation of
business miles, this must also be
disclosed in Box 14
Box 1 wages on W-2
Yes, due to the fact the health
insurance is already being paid
through a tax free benefit plan
through the wife’s employer
From Start to Finish
Defining & Reporting Compensation
© Elaine L. Sommerville 2011
Page 7 of 7