One of the most essential, yet often overlooked, elements of a good compensation structure for church employees is an accountable reimbursement plan, a.k.a. an expense account. Simply put, every minister spends his or her own money to do the job their church hired them to do. Providing an expense account allows the church to reimburse the money a minister spends doing his job, and, if done correctly, the reimbursements are not considered taxable income in almost every instance.
There are five major types of expenses for which the IRS allows employers to reimburse their employees:
- Mileage: Ministers who use their own personal vehicle for business purposes may be reimbursed by the church at up to the standard IRS mileage rate. For 2017, the rate is 53.5 cents per mile. This amount changes annually and sometimes is changed mid-year as well. For the current mileage rates, see the IRS website at www.irs.gov, or click here. Keep in mind that commuter miles, miles driven between home and work, are neither deductible nor reimbursable.
- Meetings: Any work-related meetings, workshops, conventions, or conferences a minister attends, as well as any expenses incurred while attending, are fully reimbursable. This would include transportation to and from the meeting, no matter what the mode of transportation, registration fees, materials, lodging, and food.
- Materials: Materials purchased to assist in the work of ministry, which are reimbursable to the minister, include books, DVDs, commentaries, computer software, visual aids, magazine subscriptions, and journal subscriptions. The minister who is reimbursed for these items needs to understand that since the church purchased these items, the church owns them. If the minister takes these materials with them upon departure from the church, the depreciated value, if there is one, must be added to their final W-2 and would be taxable.
- Seminars: Continuing to sharpen one’s pastoral skills through attending seminars will help the minister mature and better serve their congregation. Any fees incurred for such seminars are fully reimbursable. Churches must exercise caution, however. While reimbursing a minister for his or her seminary education is admirable, it is also a taxable event. Neither education that qualifies a person for a different career path, nor education that is required to meet the minimum standards for a job may be reimbursed under an accountable reimbursement plan on a tax-free basis. For more information about the types of education that can be reimbursed, see chapter 12 of IRS Publication 970, which is available here.
- Hospitality: Many ministers provide hospitality, both to members and guests of their church. Typically, this is done in the form of a meal shared together, either in the minister’s home or in a local restaurant. For example, if a visiting evangelist is preaching revival services for a church, and the pastor takes the evangelist out for a meal, the cost of both the pastor’s meal and the evangelist’s meal may be reimbursed.
- Special Rules for Meals: There are instances in which a minister may be reimbursed for a meal eaten while performing church business that would be considered taxable income. The determining factor will be whether or not the minister had to be away from his or her tax home overnight. For example, a minister who travels out of town to visit a member in the hospital, eats a meal while out of town, and returns home the same day may be reimbursed for the meal from his or her expense account. However, since the minister did not spend the night away from his or her home, the value of the meal must be added to his or her W-2 as wages at the end of the year. For more information, see chapter 12 of IRS publication 5137, which is available here.
The key to maintaining the tax advantages of an accountable reimbursement plan is that the minister is accountable to the church for how he or she spends the church’s money. This is easily achieved by following these guidelines:
- The church needs to create a written plan. In order for an expense account to be considered an accountable plan, the church needs to create a written document explaining the rules for their employees. Define clearly which employees will be reimbursed and the types of expenses for which the church will reimburse the eligible employees. Additionally, if the church plans to reimburse mileage at a higher or lower rate than the IRS standard rate, the policy should clearly state what the amount will be. Remember, any reimbursement greater than the IRS standard rate will be considered taxable income to the employee.
- Every expense must have a business purpose. Although technically it could be considered providing hospitality to a church member, the IRS probably would not consider the pastor taking his wife out for their anniversary as a legitimate business expense. However, purchasing commentaries to assist in sermon preparation would definitely be a legitimate expense for a pastor.
- Expenses must be documented in a timely manner. An expense report, including receipts, should be submitted to the church at least once every 60 days listing the date, location, amount, and purpose for each expense. Mileage reimbursements should be submitted in the form of a log listing the same information mentioned above as well as the beginning and ending mileage of the vehicle. If a cash advance is given to a minister from his or her expense account, any unused cash, and all applicable reporting, must be returned to the church within 120 days.
- Expense accounts MUST be employer funded. An expense account is money budgeted by the church in order to reimburse employees for their professional expenses. It is NOT part of an employee’s salary. If an expense account is funded from an employee’s salary, the IRS views this arrangement as a non-accountable plan, and the entire expense account is taxable.
- Unused money may NOT be given to the employee at year’s end. Remember that expense accounts belong to the church, not to the ministers. Giving the unused balance of a minister’s expense account to them at the end of the year negates the accountable nature of what is supposed to be an accountable plan. This makes the plan non-accountable and, therefore, completely taxable. To drive this point home more clearly, if a pastor’s expense account is $4,000 for the year, and he or she only spends $3,800, giving them the remaining $200 at the end of the year, without accompanying expenses, will result in the pastor having to pay taxes on the entire $4,000 expense account.
As will be seen in a future article, churches who do not reimburse their employees for their professional expenses actually force their employees to pay unnecessary taxes. So, not only are the employees spending their own money to do the job they were hired to do, but they are also forced to pay taxes on that money. However, churches who make an expense account part of their employees’ compensation structure demonstrate their willingness to provide everything needed for their employees to do their jobs. Additionally, they have the satisfaction of helping reduce their employees’ tax liability. That is definitely a win-win situation.