What you Need to Know about Payroll Taxes for Clergy
MYTH: Pastors are exempt from taxes.
This is absolutely not true. As individuals, American clergy are required by the government to pay federal (and state) income tax, as well as contribute to social security and Medicare, just like their congregants.
TRUTH: Many pastors correctly have no tax withheld from the paychecks issued by their church employer.
While they are not exempt from paying taxes, clergy are exempt from required federal income tax withholding. According to IRS pub. 517, federal income tax need not be withheld from wages if those wages are (1) paid to a duly ordained minister and (2) the wages are for ministerial services.
Furthermore, pub. 517 states that with respect to social security and Medicare, ministerial earnings are exempt from FICA and instead are subject to SECA.
FICA: Federal Insurance Contributions Act. The basis for the common arrangement where employers and W2 employees evenly split the burden of social security and Medicare taxes - with the employer paying 7.65% of the taxable wages and the other 7.65% being withheld from the employee’s wages.
SECA: Self Employment Contributions Act. The basis on which an individual’s income that is generated from ‘self-employment’ is taxed the full 15.3% for social security and Medicare taxes. That individual is still obligated to contribute to these public insurance programs, but they do not have an employer with whom to split the tax burden.
Since clergy are considered to be self-employed for the purposes of social security and Medicare, they are responsible for paying these ‘self-employment’ taxes on their own. Not only are churches not required to withhold these taxes from a pastor’s paycheck, in fact it is not lawful for them to do so.
As a result, many clergy members will have $0 withheld from their paychecks for federal income tax, social security, and Medicare. This can make it appear to someone who sees a pastor’s paystub as if the pastor is not subject to taxes. But that is only part of the story.
A Minister’s Tax Obligations
Since pastors are still obligated to pay all these different types of taxes but are not required to have the funds withheld from their pay, it is very important for a minister to make appropriate arrangements for the right amount of money to be sent to the IRS at the right time to avoid underpayment penalties. Some common strategies for this include:
Opt in to voluntary W4 withholding
A minister can request that the church employing them withhold funds from their pay for federal income tax by using form W4 and putting the desired amount to be withheld from each pay check on the line labeled “Extra withholding” on line 4c. Per the instructions on the form, they can leave all the other lines empty in sections 2 through 4, as they do not apply to clergy.
While the church cannot withhold or submit SECA taxes for the minister, they can withhold enough additional funds as indicated in line 4c that when the minister files their annual income tax return, they have already paid enough to cover their SECA tax burden.
Increase withholding from wages earned at another non-ministerial job
If the minister also works a secular job subject to tax withholding, they can update the ‘Extra withholding’ line on their W4 form with that employer to request enough additional withholding to cover their expected tax burden from their ministerial income also.
Increase withholding from wages earned by a spouse with whom the minister will file jointly
If the minister has a spouse with whom they jointly file their tax return, the spouse can request ‘Extra withholding’ via their W4 form with their employer in the same way.
Make quarterly estimated tax payments
Many people feel that making quarterly estimated payments is more complicated than opting in to W4 withholding. It is not required that ministers make estimated quarterly tax payments, what is required is that one way or another, enough money is paid to the IRS throughout the course of the year that there is not an outsized tax bill due when it’s time to file the annual tax return. Those payments could either be through quarterly payments or W4 withholding.
How a minister should calculate their estimated quarterly tax payments is outside the scope of this post, but here is a very helpful article from the Pastors Wallet blog which provides more information.
Self-employed people do not have to pay federal income and SECA taxes to separate entities or separate them throughout the year - everything goes to the right place when the final federal tax bill is calculated inclusive of all the different tax types.
Tip: Any individual who wants to check how much has been contributed to social security so far throughout their working life can create an account with the social security administration at ssa.gov/myaccount/. There is a lot of information avaiable there, including whether you’ve contributed enough to receive benefits, and what your estimated benefits at retirement currently are.
To calculate an appropriate amount to withhold, the pastor can use the IRS’s tax withholding estimator tool.
Tax Withholding Settings in Quickbooks
When you edit tax withholdings settings for an employee in QuickBooks Payroll, you enter the numbers as they appear on the W4, and QuickBooks will use those numbers in a withholding calculator behind the scenes to derive the appropriate amount to withhold from each paycheck. If the pastor enters any info in the other lines of the W4 (besides “Extra withholding,” such as number of claimed dependents) and you enter that data in QuickBooks, it will proceed to calculate appropriate withholding given those answers and the assumption that federal withholding applies.
In order to avoid this, you need to select ‘Exempt’ under the ‘Filing Status’ dropdown in Step 1c. Then enter the requested extra withholding amount from Step 4c, and check the box for ‘Social Security and Medicare’ under Tax exemptions. QuickBooks will warn you that this type of exemption is not common, and indeed it is not common generally, but it is extremely common for churches.
For documentation purposes, you should always have a W4 on file that matches the withholding settings you applied for any employee in QuickBooks Payroll. If your pastor entered any numbers in sections 2-4 apart from on line 4c, you may need to go back to them to explain what it means for them to be exempt from withholding, make sure they understand their responsibility to pay their own taxes, and provide an updated W4 form that correctly reflects their status and any desired voluntary withholdings.
But I heard that pastors can opt out of Social Security?
This is uncommon, but it is true that there is an avenue for clergy members who have a religious conviction that prohibits participating in public insurance programs to opt out of participating in social security and Medicare. There is a limited time to make this election after they become clergy, and once elected, it’s a lifetime decision. Information about this option can be found on the IRS website. The opt-out option only applies to ministerial earnings. Participation is still compulsory for wages earned for non-ministerial work.
Clergy members should be extremely cautious with this option. It means that once they are elderly or if they become disabled, there will not be social security benefits available for them to draw upon, or the benefits will be reduced to the extent that their earnings from their entire working life were made up of ministerial earnings from which they did not contribute to these programs.
It unethical for a pastor to opt out of social security because they believe they can make better use of that money by investing it on their own. That is not a religious conviction about participating in public insurance, that is greed.
It’s not fair that pastors have to pay more tax under SECA - can the church help?
It’s true that the tax rules result in ministers having a heavier social security and Medicare tax burden than most employees, since they must pay the full 15.3% of taxable wages for these programs on their own. Churches may not withhold and remit these taxes for their clergy members, even if they want to. However, some churches provide a ‘self employment tax allowance’ as a benefit to their clergy. This is additional compensation which is provided to help offset the burden of these taxes on the minister. It is often calculated to equal what the employer’s portion of social security and Medicare taxes would be if they were subject to FICA. It’s very important to note that an allowance like this is ALSO taxable income for that minister and should be reported as such.