Understanding the Parsonage Allowance Part 2:
Calculating the Parsonage Allowance
By Mitchell J. Smilowitz, CPA
The parsonage – or housing – allowance is a major tax benefit available to clergy. Calculating the housing allowance, however, can be complicated. This three-part series of articles will improve your understanding of how rabbis and cantors can get the most out of this important benefit . |
What Is a Parsonage and What Is a Parsonage Allowance?
The Parsonage and Parsonage Allowance rules are governed by Section 107 of the tax code. Three types of housing arrangements are addressed:
- Parsonage – Clergy who live rent-free in a home owned by the congregation do not pay income tax on the rental value of the dwelling.
- Parsonage Allowance – There are two types of Parsonage Allowance.
- Housing Allowance – Clergy who own their own home do not pay income taxes on the portion of their compensation designated in advance by the congregation or employer as a Housing Allowance.
- Rental Allowance – Clergy who rent a house or apartment do not pay income taxes on the portion of their compensation designated in advance by the congregation or employer as a Rental Allowance.
While parsonage benefits are exempt from income taxes, they are not exempt from self-employment (SECA) taxes. (Clergy pay for Social Security and Medicare through SECA taxes.) In addition to the minister’s salary, the rental value of a Parsonage, Housing Allowance and Rental Allowance are subject to SECA tax.
Housing Allowance – The Lowest of Three Values
The IRS has developed three methods for calculating the value of a Housing Allowance. Those claiming the Housing Allowance must use the lowest of the three values. The three methods are:
- The actual cost of maintaining the home owned by the minister.
- The Fair Rental Value of the home, furnished, plus utilities.
- The amount designated by the congregation or employer.
Costs of Maintaining a Home
The costs of maintaining a home are considered very broadly. They include:
- A down payment on a home in the year the home is purchased
- Mortgage payments used to purchase or improve a home, including both principal and interest
- Real estate taxes
- Utilities, including gas, electricity, water, trash removal, telephone, Internet, etc.
- Homeowners insurance
- Services such as lawn care, yard maintenance, snow removal, pool care, etc.
- Furnishings and appliances, including both purchases and repairs
- Household renovations
- Maintenance products such as household cleansers, light bulbs, pest control, etc.
- Condo or co-op charges
- Homeowners association dues
Determining the Fair Rental Value
For Housing Allowance purposes, the Fair Rental Value is an estimate of what your home would cost to rent, furnished. Ways of determining the Fair Rental Value include engaging a real estate agent to estimate the amount for which you can rent your home fully furnished, viewing the real estate section of your local newspaper for comparable home rentals or researching the rental value online. Once you determine the Fair Rental Value of your home, add the cost of utilities including gas, electricity, water, trash removal, telephone, Internet, etc.
For Renters
Renters can claim the cost of rent as well as:
- Utilities, including gas, electricity, water, trash removal, telephone, Internet, etc., for which you, the tenant, pay directly
- Renters insurance
- Services such as lawn care, yard maintenance, snow removal, pool care, etc., for which you, the tenant, pay directly
- Furnishings and appliances, including both purchases and repairs
- Maintenance products such as household cleansers, light bulbs, pest control, etc.
Your Congregation Must Designate the Parsonage Allowance In Advance
Clergy claiming a Parsonage Allowance need to coordinate with their employer to designate the value of the Housing Allowance or Rental Allowance in advance. The employer generally will accept the Parsonage Allowance you report. However, if the employer designates a lower amount, this is the maximum Parsonage Allowance you can claim.
The designation by the employer must be official and in writing. Examples of how employers officially designate the allowance include:
- Adopting a resolution in the Board’s meeting minutes.
- Including the designation in an employment contract or other written documentation.
Your employer must authorize the parsonage benefit in advance of each calendar or contract year which the designation covers. In other words, the designation must be prospective, not retroactive.
Examples
- Clergy live in a home owned by the employer. In this case, clergy do not pay income taxes on the Fair Rental Value of the home, but will owe SECA taxes on the Fair Rental Value.
- Clergy own a home. Identify the actual costs of owning your home using the list above. Contact a real estate broker, review your local newspaper or research online listings to estimate the Fair Rental Value for your home, furnished, plus utilities. Your employer will designate the Housing Allowance in writing in advance. Clergy will not owe income taxes on the value of the Housing Allowance, but they will owe SECA taxes on this amount.
- Clergy rent a home. Identify the actual costs of renting your home using the list above. Your employer will designate the Rental Allowance in writing in advance. Clergy will not owe income taxes on the value of the Rental Allowance, but they will owe SECA taxes on this amount.
Remember, clergy are treated as self-employed individuals for purposes of Social Security and Medicare taxes. As such, their salary plus any parsonage benefit, is subject to SECA tax.
Conclusion
The parsonage benefit is a valuable tax advantage for cantors and rabbis. Rules for claiming the parsonage benefit depend on whether the home is provided rent-free by the congregation or owned or rented by clergy. For clergy who own their home, the Housing Allowance is the lowest of three values: the actual cost of paying for and maintaining the home, the Fair Rental Value of your home, furnished, plus utilities or the amount officially designated by your employer as a Parsonage Allowance. For clergy renting their home, the Rental Allowance includes the rent paid plus utilities and other related costs. While parsonage benefits are not subject to income tax, they are subject to SECA. The JRB can assist you with calculating your parsonage benefit; please call us at 888-JRB-FREE (572-3733) or send us an email.
June 2023