By John Ratliff
I recently met with a minister who had been told I was a CPA that helped small
churches. She and two other ministers had recently started a church, and the
administrative duties became her responsibility. Among her many questions were, “How
do I start a new church?” This article is a summary of our resulting discussion. It
is aimed at the independent church growing rapidly in the United States today.
The Word says, “Where two or three are gathered together in My name, there will I
be also.” If these few meet on a regular basis, you have a church. The IRS Code
states that any organization claiming to be a church is a church. The courts have
further defined a church as a body of believers that assembles regularly in order to
worship. Other criteria include a recognized tenet of belief; creed and form of worship; a
formal code of doctrine and discipline; a defined ecclesiastical governing structure; an
established place of worship; schools or training for its members and ministers; and
others. The IRS generally applies a list of church characteristics developed over the
years by the courts and the commissioner when deciding the propriety of an organization.
Employer identification number. The first official step in starting a church is
application for an employer identification number (EIN). This establishes the church as an
entity with the IRS and subjects the church to Federal laws regarding reporting of wages
and collection of taxes. An EIN can be obtained by filing Form SS-4 with the IRS. This can
be done by letter, phone, fax or E-mail. Call the toll free number of your regional IRS
service center in your phone book, and an IRS representative will give you information on
how to obtain the EIN number.
Some ministers have mistakenly understood that the receipt of the EIN is the tax
exemption certificate that is discussed below. Other ministers have refused to obtain the
EIN on the grounds that it violates the separation of church and state doctrine. The
granting of tax exempt status is one of legislative enactment, not a fundamental right
under the First Amendment. Congress has provided a means of allowing a religious
organization to operate freely in matters of doctrine and worship while requiring it to
adhere to laws concerning reporting of wages and taxes. Congress has also granted two huge
benefits to churches, that of allowing contributions to be tax deductible to the
contributor, and the ability of churches to accumulate capital without taxation.
Tax exemption certificate. A church does not have to apply to the IRS for
501(C)(3) status and is not required to obtain IRS recognition of their tax-exempt
status. Once a group begins meeting regularly, it becomes a church in the eyes of the IRS
and is exempt under 501(C)(3). The church may apply for tax exempt status in order
to be able to assure its members and the public that contributions are tax deductible,
particularly if it will be obtaining grants or contributions from corporate or other
tax-exempt organizations. Churches affiliated with a denomination or other order can
simply apply for church status under a group exemption of the governing organization. The
application for tax exempt status (Form 1023) is a lengthy questionnaire prepared and
filed with the IRS. It details the beliefs and activities of the church in order for the
IRS to determine that the church’s activities meet the tax-exempt standards.
Incorporation. A church is not required to incorporate, although it is generally
advisable. Incorporation creates a distinct legal entity which is able to transact
business and provides protection to the officers of the church when they sign legal
documents acting on behalf of the church. A member of an incorporated church is protected
from liability of the debts of the incorporated church. Members of an unincorporated
church may look to protection from the debts of the church under the Uniform
Unincorporated Nonprofit Association Act in states where adopted. However, this statute is
subject to tests in the courts as to its interpretation and enforceability. Being
incorporated makes it easier for an organization to transact commercial business. Many
lenders require incorporation in order to grant loans.
Records. Federal (and some state) laws require churches to comply with payroll
tax and employment reporting obligations. In addition, contributions are deductible to
donors only if they meet certain substantiation requirements that impose certain
record-keeping and reporting requirements on churches.
A new church should call its local IRS office and obtain Publication 15, Circular E,
Employer’s Tax Guide, an invaluable resource for understanding employer
responsibilities. Amounts paid to individuals for services rendered must be reported to
the IRS as wages and in most cases, taxes must be withhold and remitted to the government.
Circular E contains the various income tax withholding tables and explains the
rules for filing the quarterly Form 941, Employer’s Quarterly Federal Tax Return.
It also explains the thresholds for timely deposit of taxes withheld. Many churches incur
penalties for untimely remitting of taxes. The penalty for failure to make timely deposits
can be as much as 15% of the late taxes.
Some church administrators think they can designate persons as independent contractors,
thereby saving the matching social security and Medicare taxes. Publication 15-A, Employer’s
Supplemental Tax Guide is helpful in defining employees and independent contractors.
Publication 517, Social Security and Other Information for Members of the Clergy and
Religious Workers covers several issues relating to the collection of social security
tax from members of the clergy and certain income tax rules of interest to the clergy.
Employers should become familiar with the documentation requirements for all employees,
such as INS Form I-9, Employment Eligibility Verification, Form W-4, Employee’s
Withholding Allowance Certificate, and many others. Social security taxes, Medicare
taxes and withheld income tax are reported and sometimes paid together on Form 941, due 30
days after the end of each quarter. Form 941 can also be filed by telephone by following
the TeleFile materials received with the Form 941. Deposits of withheld taxes are made
weekly, monthly or quarterly depending on the amount. Most churches will be required to
file the annual Form W-2 for wages earned by employees and Form 1099-MISC for payments to
In most states, churches must register with the Workforce Commission (or similar state
agency). The Commission will assign the church an account number and send forms for the
church to complete. In some states, churches are not required to carry worker’s
compensation insurance. The church should inquire with its state agency about the required
forms to be filed, notices to be given to employees or posted in the workplace, and
record-keeping requirements. There can be stiff penalties for noncompliance with state
All disbursements made by the church must be documented by receipts or other
documentation clearly demonstrating that the expenditure was made for activities
consistent with the tax-exempt purpose. The “five W’s” is a simple way to
remember the requirements: who, what, when, why and where.
Contributions to churches are deductible to the donor only if they satisfy certain
conditions. One major condition is that the donor must be able to substantiate the
contribution, usually by a receipt from a church. The substantiation requirement depends
on the size and nature of the contribution (cash vs. property). The church should receipt
cash contributions at least annually. The church may not acknowledge a value or assign a
value to property contributed to the church. However, it may (and should) acknowledge
receipt of the property. Donors contributing property (other than listed stocks and bonds)
in excess of $5,000 should submit Form 8283, Noncash Charitable Contributions, to
the church. If the church disposes of the property within two years of date of receipt,
the church must file Form 8282, Donee Information Return. Form 8282 reports the
subsequent sale and sales price of the property to the IRS.
Another condition is that the contribution must be unconditional and for the general
use of the church. Designated contributions may not be deductible to the donor. If the
designation is for an approved program or project of the church, the contribution is
deductible. If the designation is for an individual, in most cases the contribution is not
deductible. Contributions must be under the full administrative control of the church in
order to qualify for deduction. The rules for designated contributions are complex and
must be understood by the church in order to receipt contributions lawfully.
The discussion documented above is intended to be a general guide to organizing a new
church and is not intended to be all-inclusive. It is hoped that it will generate an
awareness of the various details that must be addressed so that the minister will not be
unaware of situations that could bring exposure to the church. A general awareness should
motivate the minister to seek professional help when unusual events occur. Ignorance of
the law is not a defense, and forgiveness is generally not in the tenets of belief of the
John Ratliff, CPA, is an audit manager with Pickens, Snodgrass, Koch & Company,
P.C., in Arlington, TX. His practice is predominately with churches and ministries.