What is a parsonage (housing) allowance?
A parsonage allowance—also called a housing or rental allowance—is money a religious organization designates as part of a minister’s compensation to offset housing costs. Under Internal Revenue Code Section 107, a qualifying minister may exclude from gross income (for federal income tax purposes) some or all of that designated amount. The allowance can apply whether the minister lives in a church‑provided parsonage or in a home they rent or own.
Key legal points
– Statutory basis: IRC §107 and IRS guidance (Publication 517; “Ministers’ Compensation & Housing” FAQs).
– Income tax treatment: The excluded amount reduces gross income for federal income tax.
– Self‑employment and Social Security: The parsonage allowance (and the fair rental value of a church‑provided parsonage) must be included in self‑employment earnings subject to self‑employment (SE) tax and counts for Social Security coverage unless the minister has an exemption.
– Retirement distributions: Retired ministers may designate distributions from certain church retirement plans (commonly 403(b)(9) church plans) as housing allowance, subject to rules below. But distributions rolled into an IRA or 401(k) generally lose the ability to be designated as tax‑free housing allowance.
How much can be excluded
The excluded (tax‑free) housing amount is the least of:
1. The amount officially designated as a parsonage/housing allowance by the church (designation should be made in writing, typically in employment agreement or minutes),
2. The minister’s actual housing expenses for the year, or
3. The fair rental value of the home, including utilities (for a church‑provided parsonage, the FMV of that parsonage).
If the designated allowance exceeds actual housing expenses or FMV, the excess must be reported as taxable income in the year received.
Eligible housing expenses (typical)
Eligible expenses commonly include costs of owning or renting a principal residence such as:
– Rent or mortgage payments (principal and sometimes interest as part of housing payments),
– Utilities, insurance, repairs and maintenance,
– Furnishings and appliances; furniture purchase/repair, and reasonable home improvements used as housing,
– Home‑equity loan amounts used to pay qualifying housing costs.
Items not eligible: food, clothing, tuition, domestic help unrelated to housing, or other non‑housing personal expenses. (Ministers who itemize can still deduct mortgage interest and property taxes in the usual way.)
Designation and documentation (practical steps)
1. Obtain a written designation
– Before payments are made, the church or religious employer should designate some portion of the minister’s compensation as a parsonage/housing allowance in official records (meeting minutes, employment agreement, or other written authorization).
2. Track actual housing expenses
– Keep detailed records and receipts for rent or mortgage payments, utilities, insurance, repairs, furnishings, and any home‑equity loan proceeds spent on housing. Maintain canceled checks, credit card statements, invoices, and loan documents showing use of proceeds.
3. Determine fair rental value (FMV)
– Establish the FMV of the home (or the parsonage) including utilities. FMV can be estimated by comparing comparable rentals in the area or using an appraiser if needed. Document how you arrived at the FMV.
4. Compute the exclusion annually
– Excludable amount = the least of (a) designated allowance, (b) actual housing expenses, or (c) FMV + utilities.
– If designated amount > excluded amount, include the excess in gross income on your Form 1040 (follow current IRS instructions for reporting).
5. Reporting and SE tax
– Include the allowance (and the FMV of employer‑provided parsonage) in self‑employment earnings for SE tax and Social Security purposes unless you have an approved exemption. Work with your tax preparer to calculate SE tax correctly.
6. Keep minutes and written evidence
– Maintain employer designation documents and records of the compensation arrangement in case of IRS inquiry.
Special situations
– Church‑provided parsonage: If the church provides a parsonage (housing) directly, the fair rental value of that parsonage (including utilities) can be excluded from income for income tax, but it is included in self‑employment earnings for SE tax.
– Home‑equity loans: If you use a home‑equity loan for qualifying housing costs, that portion can be treated as housing expense. If portions are used for non‑housing purposes (tuition, personal expenses), those amounts are not eligible.
– Retired ministers and retirement plans:
– Many church plans (403(b)(9) church plans) allow retired ministers to designate distributions as housing allowance, enabling a tax‑free housing exclusion for income tax.
– If you roll a 403(b)(9) account into an IRA or a 401(k), you generally forfeit the ability to designate future distributions as housing allowance. Therefore, clergy often avoid rollovers if they intend to claim housing‑allowance exclusions in retirement.
– Employer type and role: A secular (nonreligious) employer generally cannot give a non‑minister an income‑tax‑free housing allowance even if the employee has ministerial credentials. The IRS looks at whether the services performed are ministerial in nature.
– Who qualifies as a minister: The IRS definition of “minister” is functional and not limited to Christians—ordained, licensed, or commissioned clergy of any religion may qualify. However, tax treatment depends on IRS recognition of that individual as a minister for tax purposes; ordained ministers are most likely to qualify, while some licensed/commissioned persons may not.
Illustrative example
– A church pays a minister $50,000 in salary and provides a parsonage whose fair rental value is $15,000 annually.
– For federal income tax: the minister’s gross income = $50,000 (the $15,000 parsonage FMV is excluded from gross income).
– For self‑employment tax and Social Security: earnings = $65,000 (the $15,000 FMV is included in SE earnings).
Common FAQs (short answers)
– What is a 403(b)(9) plan?
– A 403(b)(9) plan is a defined‑contribution retirement plan available to churches and certain religious organizations; it’s not subject to ERISA and may permit employer contributions and housing‑allowance designations for retired ministers.
– Can you take a housing allowance distribution if you’ve rolled over into an IRA or 401(k)?
– No. If you roll a church 403(b)(9) into an IRA or a non‑church 401(k), you typically lose the ability to treat distributions as housing allowance.
– Is a parsonage allowance an exclusion or a deduction?
– It is an exclusion from gross income for federal income tax purposes (not an itemized deduction). It is, however, included in self‑employment earnings for SE tax.
Recordkeeping checklist (practical)
– Written housing‑allowance designation by employer (minutes/contract).
– Receipts and invoices for rent, mortgage principal, utilities, insurance, repairs, furnishings, and improvements.
– Loan documents showing home‑equity loan proceeds and their use.
– Documentation of FMV of residence (comps, appraisal, or reasonable documentation).
– Yearly calculation showing how the excluded amount was determined.
– Copies of retirement plan distribution forms and designations for retired clergy.
When to consult a professional
Because rules intersect with retirement distributions, self‑employment tax, and nuances of “minister” status, consult a tax professional experienced with clergy tax rules when:
– You want to designate a retirement distribution as housing allowance,
– You’re contemplating rolling over a church 403(b) into an IRA or a 401(k),
– Your housing situation or compensation arrangement is complex (e.g., mixed personal/nonhousing use of loan proceeds), or
– You are unsure whether you qualify as a minister under IRS rules.
Sources and further reading
– Internal Revenue Code, Title 26, Section 107 (housing exclusion).
– IRS — Ministers’ Compensation & Housing Allowance (FAQs).
– IRS Publication 517, Social Security and Other Information for Members of the Clergy and Religious Workers.
– IRS Topic No. 417: Earnings for Clergy.
– Investopedia — Parsonage Allowance (summary and examples).
(See official IRS pages for current forms, line numbers, and detailed filing guidance. Rules and form line numbers can change; always use the current year’s IRS guidance and consult a tax advisor.)
Editor’s note: The following topics are reserved for upcoming updates and will be expanded with detailed examples and datasets.