July 27, 2011

IRS Statute of Limitations for Prior Year Return Errors

Question:

How many years can IRS chase after a minister who didn't report SE tax for the housing allowance?

Answer:

I'll let the IRS' own FAQ answer this one:

"Generally, the IRS can include returns filed within the last three years in an audit. Additional years can be added if a substantial error is identified. Generally, if a substantial error is identified, the IRS will not go back more than the last six years.
...
"More information related to extending a statute of limitations can be obtained in Publication 1035, Extending the Tax Assessment Period."

From Publication 1035:

"The statute of limitations for IRS to assess and collect any outstanding balances does not start until a return has been filed.In other words, there is no statute of limitations for assessing and collecting the tax if no return has been filed."

Love Gifts to Volunteer Pastor

Question:

A pastor is "volunteering" at a church. It's not ready to permanently hire him but wishes to "help him with his financial situation for $600 per month." Can the church classify the payments as "love gifts"? Will the church be subject to gift tax?

Answer:

Whether the pastor is an employee (receives Form W-2 from the church) or an independent contractor (receives Form 1099-MISC) is a matter of the facts and circumstances of his ministry at the church. The following link can be followed for a review of these factors as spelled out in a 2009 posting:

Church Worker: Employee or Independent Contractor

Love gifts are taxable income reportable on either Form W-2 or Form 1099-MISC depending on the minister's status. Gift tax is irrelevant since it relates to pre-inheritance distributions from an individual's taxable estate.

Whether he is treated as an employee or not may carry little difference in this temporary situation with a low amount of compensation. In either case, a licensed or ordained minister is responsible for his own self-employment (SE) and income tax. He is exempt from any tax withholdings. The church may consider designating all or a portion of his pay as housing allowance--generally this saves him income tax, but not SE tax. Other options may also be available and are discussed at length in entries to this blog.

July 1, 2011, Change in Standard Mileage Rate

According to IRS News Release IR-2011-69:

"The standard mileage rate for business miles increased to 55.5 cents a mile July 1. This is an increase of 4.5 cents from the 51 cent rate in effect for the first six months of 2011."

July 22, 2011

Educational Assistance by Churches for Their Missionaries

Question:

A church wishes to provide assistance/support for educational expenses of a member who is an international missionary. The missionary serves under a governing body ("mission agency") which raises support for its missionaries and provides all the proper tax documentation to the missionary.

The missionary already has his undergraduate degree, however, now is working on his master's. The church, through the advice of the governing body, has begun the initial stages of working on setting up a general educational assistance fund, along with proper documentation, oversight, and requirements for use of the fund.

Can this type of activity be structured in a way to where there would be no taxable income to the individual? Can the funds be used for educational expenses (tuition, books and fees) as well as travel expenses to the classes (lodging and air fare) as well as meals? Would a Form 1099-MISC need to be issued or can be this be looked at as some type of "accountable plan" in which the church is paying for the expenses and keeping track of such items as in accordance with the function and requirements of the fund? Church members would contribute to the designated fund and not specifically to the individual.

Answer:

IRS Publication 970, Chapters 11 and 12 (2010 version) offers a good overview of Employer-Provided Educational Assistance. Since the mission agency is considered the employer in most cases of missions support, it is important to work through it as donors seek to support advanced education.

Through 2012, employees whose employers help pay for their education costs through a qualified, nondiscriminatory educational assistance program may be able to exclude up to $5,250 per year. Otherwise, these payments are taxable, unless the reimbursement amounts can be treated as a qualified fringe benefit for work-related educational expenses. Since the mission agency is the employer and likely administers many missionaries' support, this is not likely the best alternative to the situation address above.

Publication 970 discusses qualifying work-related education: "Once you have met the minimum educational requirements for your job, your employer or the law may require you to get more education. This additional education is qualifying work-related education if all three of the following requirements are met.
1. It is required for you to keep your present salary, status, or job,
2. The requirement serves a business purpose of your employer, and
3. The education is not part of a program that will qualify you for a new trade or business."

The information included in the question seems to indicate all three may be met: the oversight body is advising the missionary's supporting churches to understand the need (a recommendation that would not be communicated to financial donors if it was not necessary to maintain his status), an undergraduate degree is the typical missionary minimum requirement but advanced education will enhance the ability of the missionary to accomplish mission agency objectives, and the program is not intended to prepare him for a new trade--only to help him better serve as a missionary. If the education is not required by the mission agency, but "it maintains or improves skills needed in your present work" (Pub. 970) it can also qualify for non-taxable treatment.

Of course, donors must support these additional costs incurred by the mission agency. Contributions designated for this purpose should be advanced to the mission agency. The mission agency should require documentation from the missionary much as it likely already does for other nontaxable ministry reimbursements of expenses.

Pub. 970 states that the "following education expenses can be deducted.
1. Tuition, books, supplies, lab fees, and similar items.
2. Certain transportation and travel costs (see the Publication for details).
3. Other education expenses, such as costs of research and typing when writing a paper as part of an educational program."

Mission Agency Basics--Getting Off on the Right Foot

Question 1:

A new nonprofit missions agency is being established and preparing to send its first missionary. Identical to established agencies, the missionaries will receive support from churches and individual donors who rely on the fiduciary and ministry accountability role of the agency. What is the responsibility of the nonprofit in withholding taxes for its missionaries?

Answer 1:

It's a delight to hear of the establishment of new mission agencies ready to contribute to the spread of the gospel. While there are many issues to tackle, let's review a couple that readers of this blog might expect to hear from a CPA.

1. Other than itinerant ministers, virtually all licensed or ordained ministers are classified as dual status. This means that they're employees in every respect, except for purposes of social security and Medicare tax obligations. For purposes of these two taxes, they are considered self-employed and responsible for their own tax determined on IRS Form 1040, Schedule SE. Because they are employees, the mission agency may establish employee benefits that independent contractors (self-employed) miss out on. Withholding is optional for these ministerial employees. The agency does not and cannot withhold and match the 7.65% FICA tax of most employees. However, at the election of its missionaries many agencies withhold federal and state income taxes to facilitate the timely payment of their taxes. Previous blog entries discuss a lot more about these issues so I encourage readers to use the Search window above to explore specifics.

2. As the mission agency establishes its corporate status and Board of Directors, it should carefully study the requirements to gain recognition from the IRS as a tax-exempt organization. Most founders will need professional help with this process including the 28-page IRS Form 1023--Application for Recognition of Exemption.

Question 2:

Are grants considered taxable or nontaxable income for nonprofits?

Answer 2:

Grants are nontaxable to the recipient mission agency that has received a Determination Letter from the IRS as the result of its Form 1023 application. Further, granting agencies will likely expect confirmation that the mission agency has been granted tax-exempt status.

July 21, 2011

Unrelated Business Income Tax on Gift of Corporate Stock

Question 1:

Corporate stock was donated to a church. How are the gains on these stocks for a not-for-profit organization reported to the IRS?

Answer 1:

Section 511 of the Internal Revenue Code (IRC) imposes tax on tax-exempt organizations, including churches, that earn unrelated business income. Section 512 defines income and exclusions related to the unrelated business income tax (UBIT).

IRC Section 512(a)(1) General rule. "Except as otherwise provided in this subsection, the term 'unrelated business taxable income' means the gross income derived by any organization from any unrelated trade or business (as defined in section 513) regularly carried on by it, less the deductions allowed by this chapter which are directly connected with the carrying on of such trade or business."

According to IRC Section 512(b)(5) "stock [Commentary: this does not refer to corporate stock] in trade or other property of a kind which would properly be includible in inventory if on hand at the close of the taxable year, or property held primarily for sale to customers in the ordinary course of the trade or business" is subject to UBIT.

The section continues: "There shall also be excluded (my emphasis) all gains or losses recognized, in connection with the organization's investment activities, from the lapse or termination of options to buy or sell securities (as defined in section 1236(c)) or real property and all gains or losses from the forfeiture of good-faith deposits (that are consistent with established business practice) for the purchase, sale, or lease of real property in connection with the organization's investment activities."

Furthermore, IRC Section 512(b)(1) states: "There shall be excluded all dividends (my emphasis), interest, payments with respect to securities loans (as defined in subsection (a)(5)), amounts received or accrued as consideration for entering into agreements to make loans, and annuities, and all deductions directly connected with such income."

Question 2:

How will the broker record the tax-free status of the church organization?

Answer 2:

Typically, the broker will be required to record the church's federal identification number. This will facilitate issuance of Forms 1099-B and 1099-Div reporting the gross proceeds of corporate stock sales and dividends. Since the church is not required to file a return these forms will be for information purposes only and should not prompt an IRS inquiry.

July 16, 2011

Bookkeeping Entries for Roofing Bid Received

Question:

Help! My bookkeeping knowledge is limited to a semester of accounting at a local community college in the mid 1970's.

We contracted with a local roofer to make repairs to the church's roof. We have his estimate of how much it will cost and he's started working on it. My question is how do I enter the estimate into our financial software, Church Windows.

I imagine I need to create some sort of liability to show that we're involved in the work. But how do I enter the expense - do I create an expense acct labeled 'roof repairs in progress'? And then when we get the final bill, do I move the liability to an actual accounts payable acct with 'roof repairs' expense?

Answer:

No entry is required at the time of receiving the estimate or prior to receiving the roofer's invoice. Once the invoice is received you may enter it as an Account Payable. Your accounting program, Church Windows Software (http://churchwindows.com/), will record it as a liability and ask you for the expense account of your choice. Typically that account will be a building maintenance account of some sort.

When you use your software to pay the invoice, the check writing feature of the program will automatically create a journal entry to decrease accounts payable and decrease your checking account balance.