Writing Methodology

To: Pastor and his wife

Date: February 10, 2013

Facts: TICKET TO HEAVEN

Your client a pastor has not filed tax returns for 2010, 2009, 2008, 2007, 2006, 2005, and 2004. He is married. Their combined income is follows:

| |Wife |Pastor |Parsonage Allowance |
|2004 |15500 |22000 |8500 |
|2005 |16000 |24000 |8700 |
|2006 |16500 |26000 |9500 |
|2007 |16500 |30000 |12000 |
|2008 |20100 |35000 |18000 |
|2009 |25000 |38500 |24000 |
|2010 |26500 |42000 |30000 |

Pastor built his own home in 2008 and there was no mortgage on the house. He has promised you that if make him clean with the IRS, he will guarantee you a place in heaven.

Law and Analysis:

Publication 517
Social Security and Other Information for Members of the Clergy and Religious Workers

Ministerial Services
Ministerial service, in general, is the service you perform in the exercise of your ministry, in the exercise of your duties as required by your religious order, or in the exercise of your profession as a Christian Science practitioner or reader. Income you receive for performing ministerial services is subject to SE tax unless you have an exemption as explained later. Even if you have an exemption, only the income you receive for performing ministerial services is exempt. The exemption does not apply to any other income.
The following discussions provide more detailed information on ministerial services of ministers, members of a religious order, and Christian Science practitioners and readers.

Ministers
Most services you perform as a minister, priest, rabbi, etc., are ministerial services. These services include: • Performing sacerdotal functions, • Conducting religious worship, and • Controlling, conducting, and maintaining religious organizations (including the religious boards, societies, and other integral agencies of such organizations) that are under the authority of a religious body that is a church or denomination.
You are considered to control, conduct, and maintain a religious organization if you direct, manage, or promote the organization's activities.
A religious organization is under the authority of a religious body that is a church or denomination if it is organized for and dedicated to carrying out the principles of a faith according to the requirements governing the creation of institutions of the faith.

Common-law employee Under common law rules, you are considered either an employee or a self-employed person. Generally, you are an employee if you perform services for someone who has the legal right to control both what you do and how you do it, even if you have considerable discretion and freedom of action. For more information about the common law rules, see Publication 15A, Employer's Supplemental Tax Guide.
If you are employed by a congregation for a salary, you are generally a common law employee and income from the exercise of your ministry is considered wages for income tax purposes. However, amounts received directly from members of the congregation, such as fees for performing marriages, baptisms, or other personal services are not considered wages; such amounts are self-employment income for both income tax purposes and social security tax purposes.
Example- A church hires and pays you a salary to perform ministerial services subject to its control. Under the common law rules, you are an employee of the church while performing those services.

Form SS-8. - If you are not certain whether you are an employee or a self-employed person, you can get a determination from the IRS by filing Form SS8.

Members of the Clergy
To claim the exemption from SE tax, you must meet all of the following conditions. • You file Form 4361, described later under Requesting Exemption—Form 4361. • You are conscientiously opposed to public insurance because of your individual religious considerations (not because of your general conscience), or you are opposed because of the principles of your religious denomination. • You file for other than economic reasons. • You inform the ordaining, commissioning, or licensing body of your church or order that you are opposed to public insurance if you are a minister or a member of a religious order (other than a vow of poverty member). This requirement does not apply to Christian Science practitioners or readers. • You establish that the organization that ordained, commissioned, or licensed you, or your religious order, is a tax exempt religious organization. • You establish that the organization is a church or a convention or association of churches. • You did not make an election discussed earlier under who cannot be exempt. • You sign and return the statement the IRS mails to you to certify that you are requesting an exemption based on the grounds listed on the statement.

Table 4: 2012 Filing Requirements for Most Taxpayers
|IF your filing status is ... | |THEN file a return if your gross income was |
| |AND at the end of 2012you were ...* |at least ...** |
|single |under age 6565 or older |$ 9,75011,200 |
|married filing jointly*** |under 65 (both spouses)65 or older (one |$19,500 20,650 21,800 |
| |spouse)65 or older (both spouses) | |
|married filing separately |any age |$ 3,800 |
|head of household |under 6565 or older |$12,50013,950 |
|qualifying widow(er) with dependent child |under 6565 or older |$15,700 16,850 |

Coverage of Members of the Clergy
The services you perform in the exercise of your ministry, of the duties required by your religious order, or of your profession as a Christian Science practitioner or reader are covered by social security and Medicare under SECA. Your earnings for these ministerial services (defined later) are subject to self employment (SE) tax unless one of the following applies. • You are a member of a religious order who has taken a vow of poverty. • You ask the Internal Revenue Service (IRS) for an exemption from SE tax for your services and the IRS approves your request. See Exemption from Self Employment (SE) Tax, later. • 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. For more information, see Bilateral Social Security (Totalization) Agreements in Publication 54.
Your earnings that are not from ministerial services may be subject to social security tax under FICA or SECA according to the rules that apply to taxpayers in general.

Table 1: Are Your Ministerial Earnings* Covered Under FICA or SECA?
Find the class to which you belong in the left column and read across the table to find if you are covered under FICA or SECA. Do not rely on this table alone. Also read the discussion for the class in the following pages.
|Class |Covered under FICA? |Covered under SECA? |
|Minister |NO. Your ministerial earnings are exempt. |YES, if you do not have an approved exemption from|
| | |the IRS. NO, if you have an approved exemption. |
|Member of a religious order who |NO. Your ministerial earnings are exempt. |YES, if you do not have an approved exemption from|
|has not taken a vow of poverty | |the IRS. NO, if you have an approved exemption. |
|Member of a religious order who |YES, if: |NO. Your ministerial earnings are exempt. |
|has taken a vow of poverty | | |
| |Your order elected FICA coverage for its members, | |
| |or | |
| |You worked outside the order and the work was not | |
| |required by, or done on behalf of, the order. | |
| |NO, if neither of the above applies. | |
|Christian Science practitioner |NO. Your ministerial earnings are exempt. |YES, if you do not have an approved exemption from|
|or reader | |the IRS. NO, if you have an approved exemption. |
|Religious worker (church |YES, if your employer did not elect to exclude you.|YES, if your employer elected to exclude you from |
|employee) |NO, if your employer elected to exclude you. |FICA. NO, if you are covered under FICA. |
|Member of a recognized religious|YES, if you are an employee and do not have an |YES, if you are self employed and do not have an |
|sect |approved exemption from the IRS. NO, if you have an|approved exemption from the IRS. NO, if you have |
| |approved exemption. |an approved exemption. |

Exemption from Self-Employment (SE) Tax
You can request an exemption from SE tax if you are a member of the clergy (minister, member of a religious order, or Christian Science practitioner or reader) or a member of a recognized religious sect.

Generally, members of religious orders who have taken a vow of poverty are already exempt from paying SE tax, as discussed earlier under Members of Religious Orders under Social Security Coverage. They do not have to request the exemption.

Who cannot be exempt? You cannot be exempt from SE tax if you made one of the following elections to be covered under social security. These elections are irrevocable. • You elected to be covered under social security by filing Form 2031, Revocation of Exemption from Self-Employment Tax for Use by Ministers, Members of Religious Orders, and Christian Science Practitioners, for your 1986, 1987, 2000, or 2001 tax year. • You elected before 1968 to be covered under social security for your ministerial services.
Requesting Exemption: Table 2 briefly summarizes the procedure for requesting exemption from the SE tax. More detailed explanations follow.
If you are a minister, member of a religious order, or Christian Science practitioner, an approved exemption only applies to earnings you receive for ministerial services, discussed earlier. It does not apply to any other self-employment income.

Table 2: The Self-Employment Tax Exemption Application and Approval Process

|Who Can Apply |
|Members of the Clergy | Members of Recognized Religious Sects |
|How |File Form 4361 |File Form 4029 |
|When |File by the due date (including extensions) of your |File anytime |
| |income tax return for the second tax year in which you | |
| |had at least $400 of net earnings from self-employment | |
| |(at least part from ministerial services) | |
|Approval |If approved, you will receive an approved copy of Form |If approved, you will receive an approved copy of Form |
| |4361 |4029 |
|Effective Date |For all tax years after 1967 in which you have at least|First day of first quarter after the quarter in which Form|
| |$400 of net earnings from self-employment |4029 was filed |

Requesting Exemption—Form 4361
To request exemption from SE tax, file Form 4361 in triplicate (original and two copies) with the IRS.
The IRS will return to you a copy of the Form 4361 that you filed indicating whether your exemption has been approved. If it is approved, keep the approved copy in your permanent records.
When to file - File Form 4361 by the date your income tax return is due, including extensions, for the second tax year in which you have net earnings from self-employment of at least $400. This rule applies if any part of your net earnings for each of the 2 years came from your services as a: • Minister, • Member of a religious order, or • Christian Science practitioner or reader.
The 2 years do not have to be consecutive tax years.
The approval process can take some time, so you should file Form 4361 as soon as possible.

Death of individual - The right to file an application for exemption ends with an individual's death. A surviving spouse, executor, or administrator cannot file an exemption application for a deceased clergy member.

Effective date of exemption - An approved exemption is effective for all tax years after 1967 in which you have $400 or more of net earnings from self-employment and any part of those earnings are for services as a member of the clergy. Once the exemption is approved, it is irrevocable.

Refunds of SE tax - If, after receiving an approved Form 4361, you find that you overpaid SE tax, you can file a claim for refund on Form 1040X before the period of time for filing ends. This is generally within 3 years from the date you filed the return or within 2 years from the date you paid the tax, whichever is later. A return you filed, or tax you paid, before the due date is considered to have been filed or paid on the due date.
If you file a claim after the 3year period but within 2 years from the time you paid the tax, the credit or refund will not be more than the tax you paid within the 2 years immediately before you file the claim.

Exclusion of Rental Allowance and Fair Rental Value of a Parsonage
Ordained, commissioned, or licensed ministers of the gospel may be able to exclude from income tax the rental allowance or fair rental value of a parsonage that is provided to them as pay for their services. Services include: • Ministerial services, discussed earlier, • Administrative duties and teaching at theological seminaries, and • The ordinary duties of a minister performed as an employee of the United States (other than as a chaplain in the Armed Forces), a state, possession, political subdivision, or the District of Columbia.

This exclusion applies only for income tax purposes. It does not apply for SE tax purposes, as discussed earlier under Amounts included in gross income under Self-Employment Tax: Figuring Net Earnings.

Designation requirement - The church or organization that employs you must officially designate the payment as a housing allowance before the payment is made. A definite amount must be designated. The amount of the housing allowance cannot be determined at a later date.
If you are employed and paid by a local congregation, a resolution by a national church agency of your denomination does not effectively designate a housing allowance for you. The local congregation must officially designate the part of your salary that is to be a housing allowance. However, a resolution of a national church agency can designate your housing allowance if you are directly employed by the national agency. If no part has been officially designated, you must include your total salary in your income.

Rental allowances. If you receive in your salary an amount officially designated as a rental allowance (including an amount to pay utility costs), you can exclude the allowance from your gross income if:

• The amount is used to provide or rent a home, and • The amount is not more than reasonable pay for your services.

The amount you exclude cannot be more than the fair rental value of the home, including furnishings, plus the cost of utilities.

Fair rental value of parsonage - You can exclude from gross income the fair rental value of a house or parsonage, including utilities, furnished to you as part of your earnings. However, the exclusion cannot be more than the reasonable pay for your services. If you pay for the utilities, you can exclude any allowance designated for utility costs, up to your actual cost.

Home ownership - If you own your home and you receive as part of your salary housing or rental allowance, you may exclude from gross income the smallest of: • The amount actually used to provide a home, • The amount officially designated as a rental allowance, or • The fair rental value of the home, including furnishings, utilities, garage, etc.

Earnings—Members of Religious Orders
Your earnings may be exempt from both income tax and SE taxes if you are a member of a religious order who: • Has taken a vow of poverty, • Receives earnings for services performed as an agent of the order and in the exercise of duties required by the order, and • Renounces the earnings and gives them to the order.
Cohen Rules
Sec. 6001 Notice or regulations requiring records, statements, and special returns
Every person liable for any tax imposed by this title, or for the collection thereof, shall keep such records, render such statements, make such returns, and comply with such rules and regulations as the Secretary may from time to time prescribe. Whenever in the judgment of the Secretary it is necessary, he may require any person, by notice served upon such person or by regulations, to make such returns, render such statements, or keep such records, as the Secretary deems sufficient to show whether or not such person is liable for tax under this title. The only records which an employer shall be required to keep under this section in connection with charged tips shall be charge receipts, records necessary to comply with section 6053(c), and copies of statements furnished by employees under section 6053(a).
Reg. §1.6001-1(a) provides more specifically:
Sec. 1.6001-1 Records.
(a) In general.
Except as provided in paragraph (b) of this section, any person subject to tax under Subtitle A of the Code (including a qualified State individual income tax which is treated pursuant to section 6361(a) as if it were imposed by Chapter 1 of Subtitle A), or any person required to file a return of information with respect to income, shall keep such permanent books of account or records, including inventories, as are sufficient to establish the amount of gross income, deductions, credits, or other matters required to be shown by such person in any return of such tax or information.
The exceptions at Reg. §1.6001-1(b) involve a more limited standard for farmers and wage earners that is not applicable in the case we are looking at today.
The Cohan case involved vaudeville entertainer George M. Cohan a person, it appears, who kept less than stellar records. Initially the Board of Tax Appeals (predecessor of today’s Tax Court) disallowed the deductions in the entirety. However, the Second Circuit Court of Appeals overturned that ruling and held as follows:
In the production of his plays Cohan was obliged to be free -handed in entertaining actors, employees, and, as he naively adds, dramatic critics. He had also to travel much, at times with his attorney. These expenses amounted to substantial sums, but he kept no account and probably could not have done so. At the trial before the Board he estimated that he had spent eleven thousand dollars in this fashion during the first six months of 1921, twenty-two thousand dollars,
Between July first, 1921, and June thirtieth, 1922, and as much for his following But It Has To Be Something! Podcast of July 21, 2007
Fiscal year, fifty-five thousand dollars in all. The Board refused to allow him any part of this, on the ground that it was impossible to tell how much he had in fact spent, in the absence of any items or details. The question is how far this refusal is justified, in view of the finding that he had spent much and that the sums were allowable expenses. Absolute certainty in such matters is usually impossible and is not necessary; the Board should make as close an approximation as it can, bearing heavily if it chooses upon the taxpayer whose inexactitude is of his own making. But to allow nothing at all appears to us inconsistent with saying that something was spent. True, we do not know how many trips Cohan made, nor how large his entertainments were; yet there was obviously some basis for computation, if necessary by drawing upon the Board's personal estimates of the minimum of such expenses. The amount may be trivial and unsatisfactory, but there was basis for some allowance, and it was wrong to refuse any, even though it were the traveling expenses of a single trip. It is not fatal that the result will inevitably be speculative; many important decisions must be such. We think that the Board was in error as to this and must reconsider the evidence.

Recommendations:

1. The biggest advantage for pastor is that they can deduct many expenses as their reasonable deduction such like housing related spending (property tax, rent, utility cost, mortgage interest, points, fees, closing costs, appraisal costs, and legal fees), local telephone charges, special equipment, church-related travel and transportation expenses, some church-related entertainment, and home office expenses used for church business. So, pastors should ultimately use this advantage.

2. Pastor is a common-law employee of a church, so that he is a qualified member of the clergy. He can get automatically tax free of his SE tax if he signs the “vow of poverty” in the church that he services. If not, he can file the form 4361 before the due date of tax return and he should get permission of tax exception of his SE tax if he has the copy of 4361 later. However, this is the option. On the other hand, if the Pasto get approve of the tax exception on any year after 1967, he can get tax free of his SE tax from 2004-2010 and following year. After he gets this one permission, he can get tax free of his salary forever if he is a qualified clergy.

3. The “Cohan rule” allowing tax professionals to use statistical data to determine taxable income for taxpayers with little to no proof of documentation. However, people should still need to have a good habit to file their tax returns on time for reduce the following troubles that may happen later.

Work Cited

USA. Department of Treasury. IRS. Publication 517 Social Security and Other Information for Members of the Clergy and Religious Workers. N.p., n.d. Web. 10 Feb. 2013