Social Security taxes are collected under two systems in America. Under the Federal Insurance Contributions Act (FICA), employers pay one-half of the tax and the employee pays the other half. Under the Self-Employment Contributions Act (SECA), self-employed persons pay all the self-employment tax.
Compensation received by ministers for services performed in the exercise of ministry is self-employment income. Therefore they should always pay Social Security under SECA instead of FICA. Ministerial income is exempt from SECA only if ministers have opted out of Social Security by filing IRS Form 4361 and have been exempted from Social Security by the Internal Revenue Service (IRS). Nonetheless, if ministers opt back into Social Security by filing IRS Form 2031, they must not only pay the current year's self-employment tax, but they may be liable for self-employment taxes for the three previous years.
Calculating Social Security
Because most churches consider their ministerial staff to be employees of the church for income tax purposes (their income is reported on IRS Form W-2) but the IRS considers them self-employed for Social Security tax purposes, calculating the portion of ministers' income that is subject to Social Security can be a complex process (example: housing allowance is potentially tax-exempt for income tax purposes but is taxable for Social Security purposes).
Because ministers must pay Social Security tax themselves under SECA, churches should never withhold FICA tax from ministers' compensation. This means that ministers must pay the full 15.3 percent of their gross income minus deductibles on a wage base of up to $80,400 (for 2001 taxes), plus an additional 2.9 percent tax rate on all wages above $80,400.
Some churches reimburse ministers for a portion or all of their SECA liabilities. In such cases, all reimbursements must be claimed as taxable income in the year they are paid to ministers. This is for both income tax and Social Security purposes.
When calculating the self-employment tax, net earning from self-employment includes the gross compensation earned performing qualified services minus the deductions related to that compensation. (Gross compensation includes housing allowance, car allowance, travel and convention allowances, and expense accounts.) Only business deductions that relate directly to compensated ministerial services are acceptable when determining income subject to SECA. Ministers can deduct unreimbursed business expenses for SECA computation even if deductions are not itemized on IRS Form 1040 Schedule A.
Moving expenses do not qualify as business expenses; therefore they cannot be deducted from SECA calculations. But if ministers who are employees are reimbursed for moving expenses, the reimbursements don't have to be included as taxable income for either income tax or SECA. For the most up-to-date and accurate information concerning ministerial Social Security tax ramifications, refer to IRS Publication 517 “Social Security and Other Information for Members of the Clergy and Religious Workers,” or go online at www.irs.gov.
Both spouses are ministers
If a husband and wife who are both ordained, commissioned, or licensed ministers have an agreement with a church that each will perform specific services for which they receive pay, jointly or separately, they must divide the compensation according to the agreement. However, if they file a joint return, separation is not necessary. Nevertheless, each could obtain Social Security coverage by dividing the compensation and paying separate Social Security taxes.
If one spouse is ordained, commissioned, or licensed and the other is not, the ordained, commissioned, or licensed minister is assumed by the IRS to have received all of the ministerial compensation and the spouse is considered a volunteer.
A husband and wife ministry team should never split their compensation for the purpose of allowing one spouse to qualify for Social Security or to avoid exceeding the Social Security earning limit for the other spouse.
If ministers' spouses are not ordained, commissioned, or licensed but receive pay for services performed for churches, their pay should not be included in their spouses' compensation. They are considered employees of the church for both income tax and Social Security purposes and should be paid separately, with FICA taxes being withheld from their salary.
Along with the standard business expense deductions, ministers can take an income tax deduction equal to one-half of their self-employment tax liability. The deduction is claimed on page one of IRS Form 1040. Ministers also can deduct a portion of their self-employment tax liability at the time they calculate the self-employment taxes. This deduction is determined on IRS Form 1040 Schedule SE, Section A, line 4 or Section B, line 4a, by multiplying the minister's gross self-employment income by 9.235 percent (for 2001 taxes).
Under a voluntary withholding agreement, ministers who are considered employees of churches can ask their churches to withhold an amount sufficient to cover both their income tax and Self-employment tax liabilities. However, the churches must report as income all amounts withheld under the agreement. Many ministers who have volunteer-withholding agreements pay quarterly estimated taxes, using IRS Form 1040-ES.
Ministers who engage in ministerial service and are compensated for those services are always treated as self-employed by the IRS for Social Security purposes. As such, the ministers must pay Social Security taxes under the Self-Employment Contributions Act (SECA) rather than under the Federal Insurance Contributions Act (FICA). The only exceptions are ministers who have been granted SECA exemption status by the IRS. However, this exemption applies only to income made in the service of the ministry. All other earning is subject to Social Security taxes under either SECA or FICA.
The primary information source for this article was IRS Publication 517, “Social Security and Other Information for Members of the Clergy and Religious Workers,” published by the Internal Revenue Service, Department of the Treasury, Washington, D.C., 2001.