Pastors and Loans
Many churches help their pastors get into a home by providing money for a down payment. These funds can be a taxable gift and become taxable income in the year they are received and may be designated as housing allowance OR the funds can be considered a loan to the pastor. Churches that “loan” money to their pastor need to be aware of several things.
1. In the past loans in excess of $10,000 would require interest be assessed. However the IRS no longer requires interest* be assessed on a loan of less than $100,000 for a pastor with less than $1,001 of investment income (interest, dividends, capital gains, etc.). If the pastor has more than $1,000 of investment income, interest must be assessed on loans over $10,000. You need an interest rate, which is equivalent to the federal discount rate. There are two ways to assess interest:
- METHOD 1–CANNOT BE DESIGNATED HOUSING ALLOWANCE Multiple the amount of the loan by the interest rate and add that amount to the pastor’s wages on his W-2. No money actually changes hands. (Example: $15,000 x 3% = $450. The church would add $450 to block 1 of the W-2.) Because the pastor never actually makes an interest payment to the church the interest payment may not be housing allowance.
- METHOD 2-CAN BE DESIGNATED HOUSING ALLOWANCE Multiple the amount of the loan by the interest rate and add that amount to the pastor’s income as housing allowance in block 14 of the pastor’s W-2. This increases the pastor’s total income by $450. (Example: $15,000 x 3% = $450) Using a salary reduction the pastor pays the interest back to the church each pay period. (Divide $450 by the number of pay periods. $450 divided by 12 = $37.50. If there are 12 pay periods per year the pastor would have $37.50 deducted from each paycheck to pay the interest due to the church.) The advantage to this method is that the interest payment may be designated housing allowance as long as the loan is secured by the home.
2. There is no such thing as a “contract” for forgiveness either written or verbal. (When such a contract exists the IRS would recognize the entire contracted amount to be income in the year of the contract.) Churches who wish to give their pastor’s a loan are free to do so. If after a year or several years they wish to forgive all or a portion of the loan they may do so (but they cannot forgive the loan via a contract). The forgiven amount becomes taxable income in the year forgiven (and it may be designated housing allowance if the loan is secured by the home), however the church may not make an agreement to forgive an amount in future years.
3. The loan needs to be secured by the home.This is necessary in order for any interest payments, loan payments or future forgiven amounts to be considered housing allowance and to be deductible as mortgage interest on Schedule A.
*IRS Code Sec. 7872(d)