Question:
A church is looking to rent out its parsonage to a non-staff member. Can the income that is received for the rent be used for church expenses not related to the property without affecting the church's tax-exempt status?
Answer:
The church tax-exempt status will not be affected by the use of the rental income for expenses not related to the property. However, the church may lose its real estate tax exemption for the property because it is not used for an exempt purpose.
There are both potential Unrelated Business Income Tax (UBIT) and local property tax concerns. First, tax-exempt organizations generally do not need to report rental income as unrelated business income (UBI) unless it is financed with tax-exempt debt instruments. According to IRS Publication 598 (Page 10), "Rents from real property, including elevators and escalators, are excluded in computing unrelated business taxable income. Rents from personal property are not excluded." The IRS cites exceptions to this rule. One exception is if the rental is debt-financed, the organization may owe UBIT.
However, depending on a church's local municipality assessor's office, the conversion of church use of a parsonage to rental property to a non-church staff member may cause the property to be placed back on the local real estate tax roll. We recommend the church contact the local assessor's office to determine its risks of being put back on the tax roll.
Additionally, we recommend that churches borrowing to finance properties from which they receive rental income should read the "Income from Debt-Financed Property" section (Publication 598 - linked above).
A church is looking to rent out its parsonage to a non-staff member. Can the income that is received for the rent be used for church expenses not related to the property without affecting the church's tax-exempt status?
Answer:
The church tax-exempt status will not be affected by the use of the rental income for expenses not related to the property. However, the church may lose its real estate tax exemption for the property because it is not used for an exempt purpose.
There are both potential Unrelated Business Income Tax (UBIT) and local property tax concerns. First, tax-exempt organizations generally do not need to report rental income as unrelated business income (UBI) unless it is financed with tax-exempt debt instruments. According to IRS Publication 598 (Page 10), "Rents from real property, including elevators and escalators, are excluded in computing unrelated business taxable income. Rents from personal property are not excluded." The IRS cites exceptions to this rule. One exception is if the rental is debt-financed, the organization may owe UBIT.
However, depending on a church's local municipality assessor's office, the conversion of church use of a parsonage to rental property to a non-church staff member may cause the property to be placed back on the local real estate tax roll. We recommend the church contact the local assessor's office to determine its risks of being put back on the tax roll.
Additionally, we recommend that churches borrowing to finance properties from which they receive rental income should read the "Income from Debt-Financed Property" section (Publication 598 - linked above).
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