Wednesday, March 28, 2012

Compensation Planning - Part 6 of ?

Step #7 - Properly Classify the Employees Who are Ministers

There is no special time during this process to complete this particular step, so I have chosen to place it in this slot. It is a crucial step in the process and must be completed at some point in time. Ministers have different tax treatment than other employees and this treatment is mandated by law. It isn't optional, so it is important to know who qualifies as a minister for federal tax purposes. (At this time we are only dealing with defining ministers for federal tax purposes and not for other purposes such as for Department of Labor purposes.)

Minister's Tax Status
Ministers have what is commonly referred to as "dual tax status".

Federal Tax Purposes: For federal income tax purposes, a minister is generally treated as a common law employee. Additionally, while he/she is subject to paying federal income tax, a minister is exempt from the mandatory withholding of the federal income tax.

Social Security/Medicare Tax Purposes: For payments into Social Security, the minister is always self employed. This translates into the fact that a minister can never pay into the Social Security/Medicare system the way a regular employee does through the traditional employee payment with an employer matching payment better known as FICA/Medicare. This is defined by law under IRC Section 1402 and 3121.

If you have a minister working for your organization and he/she is considered a minister for purposes of receiving a housing allowance and the minister is participating in the FICA/Medicare program through withholding and matching, this practice should be stopped immediately. The only way that a minister can pay into the Social Security/Medicare system is through the Self Employed Contributions Act by paying SE tax on his/her personal tax return.

Who is A Minister?
In order to be considered a minister for federal income tax purposes, the employee must have been commissioned, licensed or ordained by a church (credentials issued by organizations that are not churches do not qualify.) Additionally, the minister must be performing ministerial duties. For a church, ministerial duties include 1) the preaching, teaching and conducting of religious worship services; 2) the control, conduct & maintenance of a religious organization and their integral agencies; 3) the teaching and administration in a theological seminary; and 4) the performance of sacerdotal functions. If the employer is not a church, then ministerial duties are limited to #1 and #4.

The employer needs to document the ministerial duties being performed by the minister as well as maintain copies of the credentials in the minister's personnel files.

This is a very brief explanation of this particular area and is simply discussed just to bring attention to the important differences attributable to ministers in the area of payroll. If an employer has any concerns about the proper classification of its ministers, it should seek advice from a competent tax professional.

Wednesday, March 14, 2012

Compensation Planning - Part 5 of ?

Step #4 - Value the Benefits

Last week we discussed identifying all of the benefits bestowed to an employee. This week we finally start to look at some numbers. Each of the benefits identified now has to have a value assigned to it. This may or may not be associated with the cost paid by the church for a benefit.

Example: First Church provides their senior pastor with a car. It pays all of the expenses associated with buying the car and maintaining the car. The Internal Revenue Regulations tell us explicitly how we should value the auto. The primary method uses what is called the annual lease value table. The assigned value from this table is used to value the car and it is not related to how much the church spends on the car during the year.

Some items are easy to value and some are more difficult. Some items have stated values, i.e., the value of a tuition discount granted to an employee at the school operated by the organization, while others require outside appraisers like may be needed to value housing provided by the organization.

It is imperative that the benefits be valued in order to complete Step #5.

Step #5 - Is It Too Much

Remember the earlier posts which discussed determining the "umbrella" of reasonable compensation. Now is the time to look to the umbrella. After all the elements of compensation are determined and then they are valued, the total value of the benefits provided has to be compared to the umbrella of reasonable compensation. If it doesn't fit under the umbrella, then something has to be cut or removed from the compensation package. If this exercise is performed as a part of the compensation planning at the beginning of the year, then there can be no surprises for the employee or the organization at the end of the year.

Step #6 - Write It Down

Once everything is defined, and it all fits within reasonable compensation, it is time to write it down. Compensation should be formally documented in a manner that is appropriate for the level of employee being compensated.

Example #1: A secretary may have her compensation approved and defined by one of the officers of the organization. The package would be written down, approved by the appropriate officer and then placed in the secretary's personnel file.

Example #2: The president of an organization is considered a disqualified person (see post on intermediate sanctions). His compensation package must be authorized by the appropriate governing body, i.e, the board of directors, the personnel committee, etc. and it must be writtten down in the minutes of the meeting where the compensation package is approved. Failure to formally document the compensation for a disqualified person can cause the entire package to be considered as not authorized for payment. Also remember that "documenting the compensation in writing" is one of the required steps in meeting the safe harbor test for excess benefit transactions and intermediate sanctions.

This post has covered three important steps in the compensation planning process. While it should be considered as mandatory for any employee that is considered to be a "disqualified person", it is a good practice for all employees.

Wednesday, March 7, 2012

Compensation Planning - Part 4 of ?

Step 3 - Identify All Benefits

Yes, it may sound simple, but it seems that many organizations don't really walk through this step. Before an organization can move on to dealing with compensation issues, it has to know what it is providing to an employee. This step requires a look at each employee to determine what is provided. A complete list should be made. List everything that benefits an employee and don't worry about the tax effects at this point. Determining how to treat an item of compensation for tax purposes takes place later in the process. Additionally, don't forget to include on the list the items that are noncash benefits. Don't limit the list to only cash items. Remember one of our first lessons: everything that benefits an employee is a form of compensation.

The following is not an all inclusive list, but just to help start the process think about some of the following items:

  • Cash

  • Housing

  • Auto

  • Insurance - all kinds

  • Medical programs

  • Childcare

  • Retirement

  • Tuition - either paid for the employee or a discount at the school

  • Clothing

  • Love gifts

  • Gift cards

Make the list and check it twice. This information is invaluable to the compensation decision makers, yet seldom do the decision makers have all this information.