Clergy Taxes

[andy4361663]

I was hired on as a family pastor for the past year. The church has a lot of red tape to bring on new employees, so they considered me an independent contractor. I received a 1099-MISC, and just entered it into Turbo Tax. According to the calculations, even after taking into account my housing allowance, I'm getting back thousands less than I did last year. 

As an experiment, I entered my same income in a W-2, and Turbo Tax calculated a tax refund thousands of dollars higher. Why would this be?

[Masonmay101398]

Sounds like you probably didnt have a FICA or HI Deduction from your checks...

[Masonmay101398]

https://www.nerdwallet.com/blog/taxes/fica-tax-withholding/

Which you would be on the hook for FICA 12.6% of AGI,  and 2.9% of AGI for HI.

1099 Employers don't have the responsibility to withhold, it is you own.  

[beedubya]

Did you enter withholding taxes in in the faux w-2?  I'm assuming there were no withholding taxes taken out of the 1099.  

[AlexanderS08]

Most likely the biggest contributor to the change in tax compared to what you were expecting is the Self-Employment tax which Clergy income is subject to. If you were paid by W-2, you would have half of it paid by your employer, whereas with a 1099 you pay all the tax. On the bright side, you can deduct unreimbursed expenses, whereas a W-2 employee cannot.

Clergy Self-Employment Tax

@andy4361663

[andy4361663]

I'm exempt from self-employment taxes.

[andy4361663]

I don't normally withhold any federal taxes. I'm exempt.

[DeanM15]

Most clergy or ministers who receive compensation are treated a duel status taxpayers. They are employees for income tax purposes but not for Social Security or Medicare taxes. 

The Church or Ministry does not pay Social Security or Medicare taxes for the Clergy and that information is missing from the W2. Self-Employment tax is essentially Social Security and Medicare taxes and is charged to the clergy on the tax return. The rate is doubled as you are paying both your share and the employer share. 

The housing allowance is not taxed for Income Tax purposes, as long as certain guidelines are followed. The housing allowance is, however, taxed for Self Employment (SS and Medicare) tax purposes. Most employers put the housing allowance on line 14 of the W2.

You aren’t required to pay SE tax when any of the following applies: 

• You’re a member of a religious order that has taken a vow of poverty.
• You have requested, and the IRS has approved, an exemption from self-employment tax.
• You are subject only to the social security laws of a foreign country under the provisions of a social security agreement between the United States and that country.

You can find out more information here. 

[andy4361663]

As I look at the Child Tax Credit Worksheets, I'm noticing my "earned income" only includes a few thousand I reported from a W-2, but nothing from my 1099-MISC.

[andy4361663]

The biggest difference from last year (I have the same income) is how much I am getting from the Earned Income Credit and Child Tax Credits. It's a difference of $4,500. Same income, just reported differently. Last year, I only reported a W-2 for full-time clergy work. This year, I reported the same amount of income as a 1099-MISC. I just don't understand.

[DeanM15]

The Earned Income Credit and the Child Tax Credit both use "earned income" as one method of assigning how much of the credits to give you. 

Box 1 W2 income is obviously earned income. It looks like the 1099MISC income is not coming through as earned income. 

You should probably run through the 1099MISC questions again.

When you run through the questions, you will come to a question about whether you intended to make money. If you did intend to make money, then it will tax your money as a business and apply the Self-Employment Tax. This will also be earned income. You can then deduct your expenses if you have any. If you did not intend to make money, then the program will just add the income as ordinary income with no Self Employment Tax.

[andy4361663]

So, I did some research, and it turns out my 1099-MISC income is not considered "earned income" for the sake of the EIC worksheet calculations because of my self-employment tax exemption form 4361. The worksheet calculations factor in my total income in line 1, and then subtract any amount of 1099-MISC income exempt from SE taxes in line 2, which renders my earned income for the sake of the EIC to zero.

Wow, I wish I would've realized I'd be getting back $4,500 less when I signed the contract a year ago. I should've asked for a W-2 with a designated housing allowance (the Church would then be on the hook for half my self-employment taxes), but who's to say they would've said "yes."

[Opus 17]

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@andy4361663 wrote:

So, I did some research, and it turns out my 1099-MISC income is not considered "earned income" for the sake of the EIC worksheet calculations because of my self-employment tax exemption form 4361. The worksheet calculations factor in my total income in line 1, and then subtract any amount of 1099-MISC income exempt from SE taxes in line 2, which renders my earned income for the sake of the EIC to zero.

Wow, I wish I would've realized I'd be getting back $4,500 less when I signed the contract a year ago. I should've asked for a W-2 with a designated housing allowance (the Church would then be on the hook for half my self-employment taxes), but who's to say they would've said "yes."

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It's not the contract you signed, it's the form 4361.  That is an irrevocable, life-time binding decision to not be covered by the social security system as long as you are performing pastoral or ministerial work.  Since the requirement to pay social security or self-employment tax is the foundation for most definitions of "earned income", signing that form impacts many decisions, including child care credits, earned income credits, ability to make deductible IRA contributions, and who knows what else.  If you thought you were just saving a few bucks in taxes, you made a hasty choice without all the facts.

This may be of use.  

http://www.ecfa.org/PDF/MinTax_Preparing_2019.pdf

ECFA has other clergy financial resources as well.  Your denomination may have a membership that will allow you access them for free.

Going back over this thread, I suspect the church also misclassified you as an independent contractor.  If they controlled your work hours and conditions of employment, you were a common law employee, even though you are considered "self-employed" for limited tax purposes.  As a common law employee, they must give you a W-2.  Your wages will be in box 1, and boxes 2-6 will be blank, since you are not subject to income tax or employment (social security and medicare) tax withholding.

A common law employee may have other rights under state law, such as the right to medical insurance, unemployment insurance, workers comp, and so on. For example, in New York, an employee must receive a pay stub with 13 specified pieces of information, and failure to provide this is a $100 per employee per paycheck fine.

Read more here about employee vs contractor.

https://www.irs.gov/businesses/small-businesses-self-employed/independent-contractor-self-employed-o...

If the church intentionally misclassified you to save paperwork or save money on state law requirements, that is not only potentially illegal, but unethical, and poor stewardship, and I would want to have a conversation with the leadership.  (How do you preach a sermon on good stewardship and tithing if the church is cheating on its tax obligations?)

If you do not have a housing allowance, you should ask the church to designate part or all of your pay as a housing allowance.  This makes it tax-free.  See the ECFA pamphlet for more.