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April 18, 2011

A Tax Credit for Churches?

Potentially thousands of dollars available from health care provision.

Editor's Note (September 29, 2011): A church business administrator in Colorado shared the following update regarding his church's application for this credit: "We submitted form 990-T claiming the credit (approximately $7,100) in late April. We received a request for more information from the IRS late August. Yesterday, the IRS told me that they are still working through a massive amount of applications, and it could take up to 60 days from now to receive our refund, if we are deemed qualified. They said they have 5 agents working on the applications, which is taking them longer than expected. So for those of you still waiting like us, it may be awhile before you see your check. The IRS contact said you are welcome to call 877.301.5153, select option #2, to check on your status (the IRS contact was courteous and professional)."

Editor's Note (August 12, 2011): The 11th Circuit ruled today that a key part of Obama's healthcare reform is unconstitutional. Watch for future updates here, on ChurchLawandTax.com, and in Church Law & Tax Report to learn what this means for churches.

Is there really a "tax credit" available to churches based on last year's health care reform? For those offering health care to employees, the answer is quite possibly yes. The deadline for the first opportunity to take advantage is approaching fast, though.

Some churches say they have received more than $10,000 from the provision, so it's worth investigating what it involves. Richard Hammar provides further information in this short video update below.

For complete coverage, check out the May edition of Church Finance Today and a live webinar on May 4 with Rich on key health care reform updates.

Related Tags: benefits, compensation, finances, health care, IRS, Law, money, pastors, Richard Hammar, salaries, tax

Comments

Listen to this video very carefully.

Thank you for the information. I have a question, though. We have a daycare under the same TIN. The school director is an employee of the church, but should I include the daycare employees also?

This is the best explanation I have heard on this. Thanks Richard for your help!

Brian Bakeman

The instructions for Form 8941, page 2, under Individuals Considered Employees - Excluded employees, specifically states that "Hours and wages of these [excluded] employees and premiums paid for them are not counted when you figure your credit.".
So this seems to contradict the info in the video re including minister premiums and in the employee count but not the wages?

Question: when calculating number of employees, are we to include ALL employees, or only full time employees?

And: when calculating the average annual salary per employee, are we to include ALL employees (except pastors), or only full time employees? If only full time employees, do we only include those full time employees' salaries and divide by the number of full time employees?

Does this credit apply in a situation where there the only paid staff member is the pastor, assuming the annual salary is less than $50k?

I echo Brian's question above regarding the instructions on Form 8941 Page 2. I could not find any wording that gives permission to exclude a minister's wages and still include his or her health insurance premiums in the calculation. The instructions simply say that determination of a minister's status as self-employed or employee for purposes of the credit is based upon the common law test, not how they're treated for SS/Medicare purposes. It would seem to follow that if they're determined to be self-employed, they're not an employee at all, so neither their compensation nor their premiums would appear to be taken into account. I don't see anywhere that says otherwise. Conversely, if they're considered employees, I don't see anywhere that says their compensation can be excluded even though their premiums would be included. What am I missing?

I would like to know what the response to Phyllis' question is because it is also my question. When working on the multiple worksheets that go with this I don't see where we add the self-employed ministers as employees especially since the instructions say self-employed ministers are not employees.

Friends,

Thanks for your questions. I've forwarded them to Rich and hope to provide answers to some (if not all) of them soon.

Best,

Matt

If a church with only a few employees also has a school with more than 25 employees that use the same EIN, will the school employees have to be included in the calculation of employees? The school handles all it's own finances but the payroll and related taxes, W-2s, etc. are filed together. Thanks for your help!

do have to fill in the form 990-T if only requesting 45R credit?

I am confused like the others in regards to the pastor's wages not being counted but included in the number of employees. I have listened to the IRS webinar and worked up my tax form and now I get this new information. It doesn't seem to agree so please let me know the answer that the other ones who questioned this are getting. I do have one question to ask. Does ChristianCare Medishare count as a health provider?

Go to the IRS website and look at the Small Business Health Care Tax Credit: Frequently Asked Questions. Particularly Questions 24 & 25 regarding ministers. Might bring some clarification. http://www.irs.gov/newsroom/article/0,,id=220839,00.html

Friends,

Below is a lengthy response from Rich addressing the question of inclusion/exclusion of ministers. He also addresses the question of Form 990-T and 45R. I'm hoping he can address the questions pertaining to churches that operate schools or other entities and need to know about how to count employees from those operations. Stay tuned.

From Rich:

"Let me attempt to clarify this. As you point out, there are a number of employees who are excluded in computing the credit, and they are listed on page 2 of the instructions to Form 8941. None of these applies to ministers, at lease in most cases. They include the owner of a sole proprietorship, a partner, certain shareholders, and some family members. These employees are all identified specifically in tax code section 45R(e)(1) as “excluded employees” for purposes of the new credit. You will note that ministers are not included in the list of excluded employees, and so the statement in the instructions that the “hours and wages of these employees and premiums paid for them are not counted when you figure your credit” does not apply to ministers.

If you go down to the bottom of page 2 of the instructions to Form 8941 you will see another section that addresses ministers directly. It states:

“Ministers. A minister performing services in the exercise of his or her ministry is treated as self-employed for social security and Medicare purposes. However, for credit purposes, whether a minister is an employee or self-employed is determined under the common law test for determining worker status. Self-employed ministers are not considered employees.”

This section correctly states that ministers are treated as employees in computing the credit so long as they satisfy the definition of a “common law employee.” I address this definition fully in chapter 2 of my 2011 Church & Clergy Tax Guide. The bottom line is that the common law employee test is a test that is used for determining if someone is an employee or self-employed for income tax reporting purposes. Most pastors will satisfy this test, meaning that they will be counted in computing the number of church employees for purposes of the credit. However, in those rare instances where a pastor does not satisfy the common law employee test, that person would not be counted in computing the number of church employees for purposes of the new credit.

The term "wages" has the meaning given such term by section 3121(a) (determined without regard to any dollar limitation contained in such section). Section 3121(a)(8) specifies that for Social Security, a duly ordained, commissioned, or licensed minister of a church is self-employed with respect to services performed in the exercise of ministry. This is true even if a minister is an employee for income tax purposes. So, the typical pastor who is an employee for income tax reporting, and self-employed for Social Security, is deemed an employee in computing the number of church employees for purposes of the credit, but, since his or her compensation is not “wages” under section 3121 of the tax code, the minister’s compensation is not taken into account in computing the church’s average annual wages.

IRS Notice 2010-82 provides the following explanation:

A minister performing services in the exercise of his or her ministry is treated as self-employed for Social Security and Medicare tax purposes. See §§ 1402(c)(2)(D)4 and 3121(b)(8)(A). However, for other tax purposes, including § 45R, whether a minister is an employee or self-employed is determined under the common law test for determining worker status. If, under the common law test, a minister is self-employed, the minister is not taken into account in determining an employer’s FTEs and premiums paid because § 45R(e)(A)(i) excludes a self-employed individual from the term "employee" for purposes of the credit. If, under the common law test, the minister is an employee, the minister is taken into account in determining an employer’s FTEs and premiums paid by the employer for the minister's health insurance coverage can be taken into account in computing the credit, subject to limitations on the credit. (Note that, under § 45R(f)(1)(B), a tax-exempt employer's § 45R credit cannot exceed the total of the tax-exempt eligible small employer’s income tax and Medicare tax withholding and its Medicare tax liability for the year). Because compensation of a minister performing services in the exercise of his or her ministry is not subject to Social Security or Medicare tax under the Federal Insurance Contributions Act (FICA), a minister has no wages as defined under § 3121(a) for purposes of computing an employer’s average annual wages.

Similarly, the following two questions and answers appear on the IRS website in the course of an explanation of the credit:

24. Can a tax-exempt organization described in section 501(c) include a minister in its calculation when determining eligibility for the small business health care tax credit?
A. The answer depends on whether, under the common law test for determining worker status, the minister is considered an employee of the tax-exempt organization or self-employed. If the minister is an employee, he or she is taken into account in determining an employer’s FTEs for purposes of the health care tax credit. Also, premiums paid by the employer for the health insurance coverage of a minister who is an employee can be taken into account in computing the credit, subject to limitations on the credit. If the minister is self-employed, he or she is not taken into account in determining an employer’s FTEs or premiums paid.
25. Are the wages of a minister taken into account when computing average annual wages for purposes of determining eligibility for the credit?
A. No. Compensation paid to ministers who are common law employees for duties performed in the exercise of their ministry is not subject to FICA taxes and is not wages as defined in section 3121(a). Thus, the wages of a minister that is a common law employee are not be taken into account for purposes of computing average annual wages.

Obviously, in a short video I could not go into all this detail. However, the key point is that the video correctly states the basic principle that ministers who are employees under the common law test (most ministers) ARE taken into account in computing the number of church employees, but their compensation is NOT considered in computing a church’s average annual wages. I will provide the full details in an upcoming article in my Church Law & Tax Report for those of you who want additional information.

Also, the only way for a church to claim the refundable credit is by filing a Form 990-T with an attached Form 8941 showing the calculation of the credit. Be sure to write “Request for 45R Credit Only” across the top of the Form 990-T. The Form 990-T is generally subject to public inspection, but this is not the case if the form is filed solely to claim this credit.

Hope this helps. It makes sense to me!"

--Rich Hammar

Thanks for that clarification, Rich! Now let me ask one more thing: the common law test for determining whether one is an employee is "whether the organization has the right to direct and control the worker as to the manner and means of the worker's job performance." Maybe I'm reading this wrong, but that does not sound like the case for most pastors that I'm aware of. Our church does not tell our pastors what to do and how to do it. So, are they not considered employees?

Many thanks for the clarification. Knowing that the determination of wages is made based upon the definition for social security/medicare wages made all the difference.

Friends,

Rich provides a brief response regarding the questions pertaining to churches that run schools or daycare centers:

"Unfortunately, the tax code does not directly address this question, and the IRS has not provided any clarification. It is likely, though not certain, that the IRS would apply the “common law rules” pertaining to the definition of an “employer” for employment tax purposes (i.e., withholding and payment of Social Security, Medicare, and income taxes) in computing the number of employees for purposes of the small employer health insurance credit. These rules are found in several sources, including IRS Publication 15A:

Under common-law rules, anyone who performs services for you is your employee if you have the right to control what will be done and how it will be done. This is so even when you give the employee freedom of action. What matters is that you have the right to control the details of how the services are performed. . . .


If you have an employer-employee relationship, it makes no difference how it is labeled. The substance of the relationship, not the label, governs the worker’s status. It does not matter whether the individual is employed full time or part time. . . . You generally have to withhold and pay income, social security, and Medicare taxes on wages that you pay to common-law employees.

However, section 3401(d) of the tax code contains an important exception to the common law rules by defining an employer as “the person for whom an individual performs or performed any service, of whatever nature, as the employee of such person, except that if the person for whom the individual performs or performed the services does not have control of the payment of the wages for such services, the term employer means the person having control of the payment of such wages.” (emphasis added)

According to this provision, the fact that a preschool employee is performing services directly for the preschool rather than the church, and would therefore be an employee of the preschool under the common law rules, is subject to the general rule of section 3401(d) that “if the person for whom the individual performs or performed the services does not have control of the payment of the wages for such services, the term employer means the person having control of the payment of such wages.”

According to this precedent, it is likely that the employees of a church preschool would be considered church employees and included in computing the church’s eligibility for the small employer health insurance credit, if: (1) the preschool is not separately incorporated; (2) the preschool uses the church’s employer identification number for reporting employment taxes; and (3) the church pays the wages of preschool employees.

On the other hand, if a church-affiliated preschool is separately incorporated, and has its own employer identification number, and pays the wages of its employees, then it is unlikely that these employees would be included in determining the number of church employees for purposes of the small employer health insurance tax credit.

In some cases, a preschool may be separately incorporated, but use the church’s employer identification number. Are the employees of such a preschool counted in computing the number of church employees for purposes of the credit? The answer is less clear in “hybrid” scenarios like this. Perhaps the main point would be the definition of an “employer” under section 3401(d) of the tax code as the entity “having control of the payment of wages.” If the preschool employees’ wages are paid by the church, then the church would be the employer, even if the preschool operates with some level of independence under the governing documents of itself and the church.

This analysis is necessarily tentative given the lack of clarification from the IRS. Any future developments will be reported in Richard Hammar’s Church Law & Tax Report and Church Finance Today newsletters, as well as in future editions of the Church & Clergy Tax Guide. Church leaders should consult with a tax professional for assistance in determining the church’s eligibility for the small employer health insurance tax credit."

--Rich Hammar

Rich,

Wonderful video and follow-up comments. Thank you, thank you, thank you. Our church may receive a $11,700 check in the mail later this year.

One correction to offer: At six minutes into this video, you mention this: "Note that if the ministers' wages were included in computing average annual wages, the church would not be eligible for any credit, since its annual average wages would be over $25,000." I think what you also meant to say is that a church with average wages over $25,000 but below $50,000 would be eligible for a partial credit. It is true that those over $50,000 would not be eligible for any credit.

Did I mention thank you? Well, thank you.

The video and comments have been very helpful. However, I'm still unclear on one thing. From what I understand, the credit is limited by the federal income taxes the tax-exempt employer was "required" to withhold from employees' wages, and any medicare taxes that were required to be withheld as well as medicare taxes the tax-exempt employer was required to pay. What qualifies as "required" federal withholding? Our church employees two ministers who have very little, if any, money taken out of their paychecks. Could they just change their withholding so the church would get a greater credit, and then get the money refunded to them when they file their 1040? That doesn't seem to make much sense to me, but I've found other literature online for churches that seems to indicate that you can. Thanks for your help on this.

Here is Rich's response to Jim's question:

Section 45R of the tax code, which contains the small employer health insurance credit, limits the credit for tax-exempt employers (including
churches) to "the amount of the payroll taxes of the employer during the calendar year in which the taxable year begins." Section 45R(f)(3) defines "payroll taxes" as the sum of the following three amounts:

(1) income taxes "required to be withheld from the employees of the tax-exempt eligible small employer,"

(2) Medicare taxes "required to be withheld from such employees." and

(3) the employer's share of Medicare taxes.

Ministers wages are exempt from income tax withholding with respect to services performed in the exercise of their ministry, and they are not subject to Medicare taxes with respect to these services (instead, they pay self-employment taxes). So, the "payroll tax limit" on the amount of the credit will not be affected by ministerial employees.

However, many pastors and churches have entered into "voluntary" withholding arrangements whereby the church withholds income taxes from a pastor's wages. In some cases, a pastor requests that additional income taxes be withheld to offset self-employment tax liability. These additional withheld taxes are deemed income taxes and not Social Security or Medicare taxes.

Of the three components of "payroll taxes" under section 45R(f)(3), the only one that would be affected by pastoral compensation would be withheld income taxes for pastors who have elected voluntary withholding. Are these voluntarily withheld income taxes counted in computing the "payroll tax" limit on the amount of the small employer health insurance credit? The obvious answer is "no," since these taxes are voluntarily withheld and not "required" to be held. However, this issue has not been addressed or clarified by the tax code, regulations, IRS, or the courts, and so a definitive answer is not possible. Church leaders should consult with a tax professional in making a final decision. Note that if these voluntarily withheld taxes are included in computing the payroll tax limit, this will have the effect of increasing the credit for some churches.

--Rich Hammar

An IRS webinar, at irs.gov, seemed to indicate that if a church does not offer health insurance to all its employees, it is not eligible for the credit. We offer health insurance to employees who work more than 25 hours/week, but not to those who work less. Does this automatically disqualify us?
Also, we pay 100 percent of our pastors' health insurance through a church plan, and different amount for our lay employee insurance through a commercial plan. Will that disqualify us in 2011?

What is the definition of full time equivalent for this purpose?

When figuring the average salary, are all full time equivalent employees considered or only those who are in the health insurance plan?

Friends,

Rich won't be able to continue answering questions, due to the high volume of submissions we continue to receive. However, many of the questions we've received are answered in his May 2011 Church Finance Today, which we've now made available for special download for only $4.95. We hope this helps: http://bit.ly/jz5sbs

Best,

Matt

As a church with 2 FTE and the required average salaries, we qualify for this credit. We don't have a cafeteria plan, but we don't pay the premium to the insurance company, we pay the employee a reimbursement for the premium. Does that make a difference? Do we still qualify for the the tax credit?

Kerrie--Thanks for your question. Below is an answer from Rich Hammar:

The question is whether a church's reimbursement of the health insurance premiums incurred by an employee under an individual policy can be included in determining the church's eligibility for the small employer health insurance tax credit. The instructions to Form 8941 state:

"For credit purposes, health insurance coverage means benefits consisting of medical care (provided directly, through insurance or reimbursement, or
otherwise) under any hospital or medical service policy or certificate, hospital or medical service plan contract, or health maintenance organization contract offered by a health insurance provider. A health insurance provider is either an insurance company or another entity licensed under state law to provide health insurance coverage."

The confusion arises because of the requirement (in section 45R) that the health insurance paid by the employer be pursuant to a "qualifying arrangement." A qualifying arrangement is defined as "an arrangement under which the employer pays premiums for each employee enrolled in health insurance coverage offered by the employer." In the arrangement you have described, the church is paying health insurance premiums on an employee's individual policy rather than on "health insurance coverage offered by the employer." As a result, it would not appear that this would be a qualifying arrangement.

So, unless and until the IRS provides additional clarification, or a church receives advice from a tax professional indicating that reimbursements of an employee's premiums paid on an individual policy can count in computing the credit, I would not include the church's reimbursement of such premiums in computing the credit.

Rich Hammar

I have a few questions regarding Section 125 cafeteria plans and whether they are "qualifying arrangements" as defined by the Small Employer HealthCare Tax Credit.

Is the employer portion of health insurance premiums paid (i.e. not the amount the employee pays / contributes) under a Section 125 cafeteria plan includible as health insurance costs when calculating the Small Employer Healthcare Tax Credit?
If includible, are they only includible if the employer paid portion represents 50% or more of the self-only health insurance premium (i.e even if the employee has selected family coverage)?
If includible, for 2011 and subsequent must the employer paid portion of healthcare insurance premiums paid for employees under a Section 125 cafeteria plan be a uniform percentage, such percentage being no less than 50%, of the self-only health insurance premium for each respective employee? For example, if the employer paid portion represented 80% of the self-only health insurance premium for employee A and 60% for employee B, would the premiums paid on behalf of both employees not be includible due to the employer's not paying a uniform percentage? Finally, if under the previous example the premiums would be includible, if the employer paid portion for employee B were only 40% of the self-only health insurance premium, would this invalidate the entire plan as a qualifying arrangement because the employer contribution for employee B was less than 50%?
Thank you very much.

We prepared a form 990-T and Form 8941 for one of our church clients who is due a refund of about $9000. They received a notice from the IRS requesting 15 different items of information to support the Form 8941. Has anyone else received such a request and responded to it? What were the results of this desk-audit?

Jane--Thanks for your comment. To date, your situation is the first we've heard of, in terms of the IRS requiring additional informational support for the Form 8941.

Best,

Matt

Jan,

Thanks for your comment. Based on Rich's deeper analysis of this credit in the Feature Report, A Valuable Tax Credit for Churches (http://store.churchlawtodaystore.com/vataxcrforch.html), it appears the portion of the premiums for the coverage provided by churches to employees are includible. He states:

"For purposes of the credit, including the requirement to make a uniform contribution of no less than 50 percent of the premium, any premium paid pursuant to a salary reduction arrangement under a section 125 cafeteria plan is not treated as paid by the employer. Example: A church pays 80 percent of the premiums for employees' health insurance, with employees paying the other 20 percent pursuant to a salary reduction arrangement under a cafeteria plan. Only the 80 percent premium amount paid by the church counts in calculating the credit.

"In addition, the amount of an employer's premium payments that counts for purposes of the credit is capped by the premium payments the employer would have made under the same arrangement if the average premium for the small group market (set by the Department of Health and Human Services) in the state in which the employer offers coverage were substituted for the actual premium."

I pray this helps.

--This is designed to provide accurate and authoritative information in regard to the subject matter covered. It is provided with the understanding that the publisher is not engaged in rendering legal, accounting, or other professional service. If legal advice or other expert assistance is required, the services of a competent professional person should be sought. “From a Declaration of Principles jointly adopted by a Committee of the American Bar Association and a Committee of Publishers and Associations.”

Best,

Matt


I have listened to your video and read each comment, however I still do not understand.

The pastor makes 79000 per year and there are three part time employees with combined wages of 24000 per year. Health insurance is paid for the pastor only.

Will we qualify for the credit since we do not have to add the pastor salary to the total wages and we do not pay insurance on the other three employees?

Thank you for your help

Breaking news (August, 12, 2011): The 11th Circuit has ruled a key part of Obama's healthcare reform is unconstitutional. Watch for future updates here, on ChurchLawandTax.com, and in Church Law & Tax Report to learn what this means for churches.

Last Friday I viewed a video posted about 7/20/2011 by the Diocese of North Carolina of an interview with +Michael and the Diocese's CPA which claimed that the IRS had recently decided to extend the deadline for churches to request the 45R health care credit. I cannot find any corroborating evidence for this IRS extension. I would like to file for the credit for several churches I work with, but don't want to put them at risk in any way. If I file a 990T without having earlier requested an extension with form 8868, will those churches be penalized or otherwise put at risk?

Thank you.