1. Not reporting all taxable income for church staff. Examples include love offerings, gifts of property, expense allowances (such as for a car or entertainment), reimbursements for self-employment social security for pastors, and paid benefits (such as life insurance). All of the examples must be treated as regular taxable income. Failure to report allowances as income can result in a 200% fine on the allowance amount, (an excess benefit transaction) plus penalties and interest. And, board members who approved the allowance are subject to personal fines of up to $10,000.
2. Unsubstantiated expenses. Expenses reimbursed on an expense report must include the place, time, amount, business purpose and business relationship of all present. If expenses are reimbursed but unsubstantiated, then the amount needs to be reported as taxable income to the person who received the reimbursement.
3. Not accounting correctly for special events. If the church awards prizes for raffle drawings, a Form 1099 or W-2G is needed if the amount of the prize exceeds $600 and is at least 300x the wager. You need to get a payment from the winner that’s treated as withholding and deposited with the IRS if the prize amount is greater than $5,000. (These are general rules; please talk with us or refer to the IRS for specifics.) If the church issues a receipt for a dinner fundraiser, a distinction is needed regarding the hard cost of the dinner in relation to the entire ticket cost.
4. Not having detailed records for housing allowances for ministers. It’s important to keep updated records regarding fair market rental values and agreed upon housing allowance amounts. The church is responsible for record keeping with regard to the designation, but the minister is ultimately responsible for record keeping of the actual expenses and the non-taxable portion.

Compliance is an ongoing task. Be sure to stay on top of your recordkeeping and talk with your CPA whenever you have questions.

Here’s an example:

Jane Smith indicates on her pledge card that she wants an automatic charge to her credit card on the 15^th of each month for $200. Your church business manager inputs the credit card information into the credit card processor that you use. On the 15^th of the month, the credit card processor charges the credit card account $200 and deposits the contribution to the designated church bank account.

James Nash, a senior auditor with our firm, suggests the following solution for internal controls with electronic contributions:

Access to inputting or changing information into the credit card processor should be segregated from the access to donor records and reconciliation of amounts charged.

The church needs to establish a procedure to regularly review electronic contributions. The Church should reconcile the batch report from the credit card processor to the bank deposit.  A process to ensure that the donors receive contribution credit on their giving statements should also be implemented.

All changes (new automatic authorization requests and termination of giving) should be kept separate and reviewed to ensure that the request was properly completed.

More importantly, the Church should review various credit card processors and review the Service Organization Controls Report (SOC 1, formerly SAS 70).  This report will give the Church or ministry the comfort that the processor has the proper controls in place to safeguard the information of their donors.

“Are religious non-profits in the state of Texas exempt from state unemployment tax?  My experience is that non-profits [501(c)(3)s] are not exempt from state unemployment tax even if they are religious organizations.  An example might be a school that is a 501(c)(3), based on a particular denomination, but legally not part of a particular church or owned by a denomination.  (Churches are exempt from state unemployment in the state of Texas, correct?)”

Nonprofit organizations with a 501(c)(3) tax exemption are subject to state unemployment tax, unless they are a church or religious organization. In the example above, the school would be subject to paying state unemployment tax, but the church would not. From the Texas Workforce Commission:

The Texas Unemployment Compensation Act (TUCA) requires liable Texas employers – including sole proprietorships, partnerships, corporations, and other entities registered with the Secretary of State – to pay UI tax. Employers become liable if they:

• Pay at least $1,500 in wages in any one calendar quarter during the current or preceding calendar year, or
• Employ at least one worker for part of a day or more each week for 20 weeks during a year, or
• Acquires or otherwise receives, through any means, all or part of the organization, trade, business, or workforce of a subject employer, or
• Are a 501(c)(3) nonprofit organization (excluding churches and religious organizations) and have at least four employees for part of a day or more each week for 20 weeks, or
• Elect to become a subject employer, or
• Have Texas employees and are subject to the Federal Unemployment Tax Act (FUTA), or
• Are a state political subdivision or instrumentality, or
• Pay $1,000 or more wages one calendar quarter for domestic service, or
• Employs three (3) employees for 20 weeks in a calendar year or pays $6,250.00 in cash wages in a calendar quarter, or
• Employ a seasonal worker on a truck farm, orchard or vineyard, or
• Employ a migrant or a seasonal worker(s) who works for a farmer, ranch operator, or labor agent who employs migrant worker(s).

-         Maintaining the cash receipts journal

-         Posting journal entries to the general ledger

-         Reconciling the bank account

-         Investigating discrepancies related to cash

Another duty of the administrative assistant or receptionist is receiving cash donations from mid-week walk-ins. For receipt of such donations, we recommend putting the money in an envelope and putting the envelope in a drop safe. The person receiving the cash should note the date, amount and his or her name on a log sheet.   If cash/currency (not checks) is received, a receipt book should be maintained with a copy to the donor being required. Cash must be protected at all times.

An alternative to completely separate duties is to have two people present for the opening of mail and copying of checks. However, these two people should rotate duties so that collusion is not a likely possibility.

Additionally, the person who investigates discrepancies related to cash should be someone not connected to the day-to-day cash/check receipt and bank account responsibility.

Segregate the duties between individuals who collect, count, prepare the deposit slip, take the deposit to the bank and post entries to the contribution module and general ledger.

1. Ask ushers to place the collected cash and checks in a sealed envelope. Two ushers should sign the envelope and not the service date and time. Put the envelope in a locked safe.
2. Place a log sheet on the safe for individuals to sign their name and purpose each time money is placed or removed from the safe. (Use a drop safe for higher security, to prevent many people from having the combination or key.)
3. Rotate counters (minimum of two) each week. Counters take the cash and checks to the business manager’s office and double-count the cash, recording the amounts on a count sheet. Make a copy of each check and retain with the counting tape. Counters sign the count sheet and prepare a deposit slip.
4. Place cash, checks and deposit slip in a pre-numbered bank bag. A copy of the deposit slip is kept with the check copies.
5. Designate who will take the deposit to the bank.
6. Ask the Treasurer to review and confirm a rotation of counters to deter collusion.
7. Provide a copy of the deposit slip to the business manager, who will reconcile the amount with the count sheet and note reconciliation. This can be done by adding a line to the count sheet to sign once the funds have proof of deposit.

Paying attention to a high level of detail, combined with redundant accountability, prevents fraud and the resulting trauma to your church body.

• Mortgage payments (interest and principal)

• Real estate taxes

• Property insurance

• Utilities (gas, water, electricity, sewer, garbage pickup, local telephone service)

• Appliances and furniture (purchase, rent and repairs)

• HOA dues

• Pest control

• Yard maintenance and improvements

• Maintenance items (household cleaners, light bulbs, etc.)

• Down-payment on a home

• Remodeling expenses

There are also some housing expenses that are denied. Avoid claiming these five:

• Cleaning service

• Food

• Domestic help

• Expenses on a second home or vacation home

• Home equity loan payments (unless used to pay for housing expenses such as remodeling)

Please remember your claimed housing allowance is the lesser of these actual expenses or the church-approved amount. Therefore, our recommendation is to estimate a little high for the amount you submit to, and what’s ultimately approved by, the church.

On February 8, 2012, the Court of Appeals for the Eleventh Circuit reversed the Tax Court decision, siding with the IRS. The Eleventh Circuit Panel cited that cross-references to the Dictionary Act are made for convenience and do not constitute law. They also stated that the legislative history of the Internal Revenue Code referring to the housing allowance at the applicable time period (Code Sec. 107 applying to 1996-1999) repeatedly referred to a dwelling as a singular entity.

Obviously, these challenges can continue for years before resolution since it appears that the minister will appeal the Panel’s ruling.  Obviously, the more conservative approach is to claim only one home in the housing allowance calculation.

For more detail about housing allowances, refer to a complete description in two blog posts – part 1 and part 2.

Background checks satisfy two important principles of nonprofit organizations, including churches and ministries: internal controls and governance. Internal controls assure that your organization has checks and balances in place to maintain financial integrity. Governance is required by the board and governing officers to maintain the integrity of the organization as a whole. Background checks, if not already part of your standard hiring procedures, need to be included in your list of due diligence for potential employees.

Love offerings – What is the amount of monetary gifts given directly to the pastor from church members and attendees? Was the pastor given tangible gifts, such as airline tickets, vacation home usage, property such as a car, televisions or computers? If yes, the value of the gift is considered taxable income.

Allowances – The housing allowance is tax-free. Read about the rules of housing allowances to make sure that your church is in compliance. Other allowances are considered taxable income. Examples include car payment, maintenance and gasoline, utility bills, cell phone, insurance and gifts purchased for others.

Failure to report allowances as income can result in a 200% fine on the allowance amount, (an excess benefit transaction) plus penalties and interest. And, board members who approved the allowance are subject to personal fines of up to $10,000.

The taxable allowance can be partially offset with a reimbursement policy that documents church-only usage of the item, such as a car and related costs. Such an accountable reimbursement policy requires strict documentation, but can benefit the pastor with non-taxable reimbursements. This reimbursement policy is not retroactive, so such a policy may need to be put in place for expenses going forward, but the allowances need to be reported as income for the previous tax year(s).

Donations/gifts received

-         Remind members that for donations to be deductible, the church must receive the gift prior to midnight on December 31. (If mailed, it must be postmarked on or before December 31.)

-         Prepare receipts for contributions of $250 or more.

-         File Form 8282 for receipt of donated non-cash items valued at $5,000 or more and disposed of by you within three years.

-         Identify love offerings and gifts given to the pastor by the church or approved for giving to the pastor. The amount needs to be included in the pastor’s W-2 form.

-         Request Form 1098-C from the IRS if you received a donation of a car, boat or plane. (Call 800-829-3676 and ask for five copies.)

Employee-related

-         Make sure that you have a file for each employee with pertinent personnel records and forms. (For ministers, be sure to include housing allowance information.)

-         Ask employees to review W-4 forms for accuracy of name, address, SSN and to check withholding status.

-         Prepare W-2 information

-         Prepare the 4^th quarter 941 report, due January 31^st. (This is the quarterly federal tax form that reports employment taxes.)

-         Review reimbursements for substantiation. (This should be an ongoing practice.)

-         Prepare a 1099-misc form for all independent contractors and service providers who you have paid $600 or more in 2011. This includes all of the companies you hire to consult or do maintenance work on your buildings.

-         Review payments of health insurance for employees. You may qualify for a 25% refund of the cost if you have less than 25 employees, the average annual salary is less than $50,000 and if your organization pays at least 50% of the group insurance premium. Then, you’ll need to file form 990T and Form 8941.

-         Be aware of excess benefit transactions by reviewing IRS section 4958.

Board-related

-         Have an annual board meeting, if this has not yet happened in 2011.

-         Remove old board members and add new members.

-         Make sure that you have a signed conflict of interest statement from each board member.

Administrative/accounting

-         Make sure that you have a readily-available copy of your 501(c)(3) letter.

-         Review insurance policies to be sure that you’re adequately covered. (Do this prior to the board meeting, so that issues can be addressed.)

-         Review bank accounts to see if the structure is meeting your needs.

-         Put all of the bank statements for the year in one location, including cancelled check records.

-         Determine if you owe unrelated business income tax.

-         Review your Web site for accuracy. Things change, but sometimes the Web site stays the same.

Prioritize the list above based on your church’s needs, and you’ll be in great shape to start the new year.