Parsonage Allowance

Parsonage Allowance

What is a parsonage allowance?

A parsonage allowance (also called a housing or rental allowance) is money provided by a religious employer to a minister to offset housing costs. For federal income tax purposes, the allowance may be excluded from the minister’s gross income to the extent it meets IRS rules.

Key points

• The exclusion comes from Internal Revenue Code Section 107.
• The excluded amount is the lesser of: the allowance officially designated in advance, the amount actually used to provide a home, or the fair rental value of the home.
• The allowance applies only to a minister’s primary residence.
• The allowance is excluded from income tax but generally is subject to self-employment tax (Social Security and Medicare) unless excluded under a specific provision.
• Retired ministers may be eligible to designate certain retirement distributions as a housing allowance.

How the allowance works

Under IRC Section 107, a minister may exclude from gross income some or all of a housing allowance provided as part of compensation. Requirements and practical rules:
* The housing allowance must be officially designated in advance by the church or governing body.
* The excluded amount cannot exceed the least of:
* the amount officially designated,
* the amount actually used to provide or rent a home during the year,
* the fair rental value of the home (including furnishings and utilities).
* Any designated amount in excess of these limits must be reported as taxable income on the minister’s tax return.
* The allowance must be used in the same year it is designated.

Eligible housing expenses

Excludable expenses for the primary residence commonly include:
* Rent or mortgage payments (principal and interest)
* Property insurance
* Property taxes
* Utilities and service delivery
* Homeowners’ association dues
* Repairs, maintenance, and remodeling related to the home
* Furniture purchase and repair (especially when a parsonage is provided by the employer)
* Home-equity loan costs used for allowable housing expenses

Ineligible expenses

Expenses that cannot be counted as part of a parsonage allowance include:
* Food and clothing
* Domestic help unrelated to home maintenance
* Cleaning services not tied to housing
* Any portion of a loan used for non-housing purposes (e.g., tuition)

Note: Ministers who itemize may still deduct mortgage interest and property taxes as tax deductions; the housing allowance is an exclusion from gross income, not a deduction.

Self-employment tax and Social Security

• The housing allowance is excluded for federal income tax purposes but is generally included as earnings subject to self-employment tax (Social Security and Medicare) unless the minister qualifies for a specific exemption.
• The fair rental value of a parsonage provided by the employer is also included in self-employment earnings for Social Security coverage purposes.

Who qualifies?

• Ordained ministers are typically eligible; commissioned or licensed ministers may be scrutinized more closely by the IRS.
• A person called “minister” by a church may not meet the IRS definition for tax purposes—status depends on duties and recognition under tax rules.
• Secular employers cannot provide a tax-free housing allowance for non-ministerial employees, even if those employees serve as ministers elsewhere.
• Retired ministers may request that distributions from certain church retirement plans (e.g., 403(b)(9) accounts) be designated as a housing allowance.

Example

A church pays a minister $50,000 and provides a parsonage with a fair rental value of $15,000. For income tax purposes, the minister excludes the $15,000 housing value and reports $50,000 as income. For self-employment tax purposes, the $15,000 is included, making $65,000 subject to Social Security and Medicare calculations.

Common questions

• What is a 403(b)(9) plan?
  A 403(b)(9) plan is a tax-advantaged defined contribution retirement plan for ministers and certain church employees; it offers plan-specific distribution rules for clergy.
• Can you claim a housing allowance after rolling a 403(b)(9) into an IRA or 401(k)?
  No. Rolling funds from a 403(b)(9) into an IRA or 401(k) typically eliminates the ability to treat future distributions as a clergy housing allowance.
• Is the parsonage allowance an exclusion or a deduction?
  It is an exclusion from gross income for income tax purposes, not a tax deduction.

Practical steps

• Ensure the housing allowance is designated in writing and in advance by the employer.
• Keep detailed records and receipts of housing expenses to substantiate the amount actually used.
• Consult a tax professional familiar with clergy tax rules—especially regarding self-employment tax, retirement distributions, and eligibility questions.