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Loudoun County Attorneys > Blog > Church Law > Seventh Circuit to Hear Constitutional Challenge to Ministerial Housing Allowance

Seventh Circuit to Hear Constitutional Challenge to Ministerial Housing Allowance

Does your organization have ordained ministers?  Do you give them a tax-free payment yearly to help with their housing?  If so, read more about the upcoming hearing that challenges the constitutionality of this practice, as well as what it means and does not mean for your organization.   

Later this year, in the case titled Freedom from Religion Foundation, et al. v. Jacob Lew, et al.,the Seventh Circuit Court of Appeals will hear argument on the constitutionality of the ministerial housing tax exemption provided by 26 USC 107(2). This provision of the tax code grants “ministers of the gospel” a tax exemption for funds they receive from their church either to rent or to purchase housing in the use of their ministry. The Seventh Circuit will not look at 107(1), the “parsonage exemption,” which is a separate tax exemption for ministers who live in church-owned parsonages. That means, for the time being, the parsonage exemption remains unchallenged and intact.

What is this case about?

The plaintiffs in Lew will likely argue that the ministerial housing allowance in 107(2) is a violation of the Establishment Clause and Equal Protection Clause because it gives a tax break only to ministers of the gospel, and not to other taxpayers who receive similar housing allowances or housing stipends from their employers. The plaintiffs are employees and leaders of the atheist group Freedom from Religion Foundation (FFRF).  While the plaintiffs receive a housing allowance/stipend from their employer FFRF, they argue they are ineligible for the tax exemption under 107(2) because they do not qualify as ministers of the gospel.

Why did the lower court find the exception unconstitutional?

The district court ruled that the 107(b) ministerial allowance violates the Establishment Clause of the Constitution because “the exemption provides a benefit to religious persons and to no one else, even though doing so [i.e. providing the benefit] is not necessary to alleviate a special burden on religious exercise.”  Judge Crabb reasoned that the exemption violated the Constitution because a reasonable observer would conclude that the government’s purpose is to “endorse religion,” and that the statute actually conveys a message of endorsement.  The tax exemption under the statute is only granted to “ministers of the gospel,” whose primary function, the court reasoned, is to disseminate a religious message.  Because the statute, therefore, gives preferential treatment to a religious message over a secular message, the court decided that it violated the Constitution.

The court further rejected the argument that the government may accommodate religion even if it may not prefer it.  The court reasoned that while some other federal statutes have historically exempted those individuals whose religion would be substantially burdened by compliance, section 107 is not so limited.  The court argued that ministers, while they receive less compensation typically than other professionals, do not receive less than the average tax-payer and do not categorically need an exemption to be relieved of a substantial burden on their religion.

What will happen now that the lower court’s decision was appealed? 

On appeal, this reasoning will hopefully be challenged.  Understandably, several churches have filed briefs with the Seventh Circuit arguing in support of section 107.  The Church Alliance filed such an amicus brief.  They pointed out that the district court had failed to consider that the Supreme Court’s precedent allows the government to extend a benefit to, or alleviate a burden on, the exercise of religion without preferring religion in violation of the Constitution.  At the lower court, the United States government has itself defended section 107, arguing that it does not violate the Establishment Clause because it does not endorse or promote religion, but only minimizes the government’s entanglement with a church’s internal matters.

Thankfully, when the Seventh Circuit Court of Appeals hears and decides this appeal, they will be able to review the Judge Crabb’s constitutionality decision de novo, meaning they will not have to rely on her reasoning in their own decision.

The Seventh Circuit will also likely spend a lot of time considering whether the plaintiffs have standing to bring the lawsuit.  The plaintiffs appear never to have applied to the IRS for the tax exemption, and therefore have no injury that the court could redress.  The Seventh Circuit may find that the plaintiffs have not actually suffered an injury that a favorable decision would resolve, although Judge Crabb ruled that they did.

What does this decision mean for me and my organization? 

It is first important to note that the geographic reach of Judge Crabb’s decision is limited to the Seventh Circuit: Wisconsin, Illinois, and Indiana. Unless this decision is appealed all the way to the U.S. Supreme Court and is there affirmed (thus becoming the law of the land), this decision will not affect ministers outside of the Seventh Circuit.   This case, however, may lead to challenges of this same exemption in other judicial circuits around the country.

Second, Judge Crabb stated that the injunction would not take effect until all appeals have been heard. Therefore, because the case is on appeal, there is no change in the law for the time being, and the housing allowance exemption will continue in effect for 2014.

This decision, however, does raise concerns around the country and may lead to increased scrutiny of churches and how they apply the ministerial housing allowance.  Many times churches don’t avoid common pitfalls in granting a housing allowance and can expose themselves to questioning and investigation, particularly as this topic becomes more of a hot button issue.

What are key points of concern about applying my church’s “ministerial housing allowance” so that my church doesn’t invite scrutiny?  

The basic rule is that a “minister of the gospel” may exclude from his gross income either the rental value of a home furnished as part of his pay, OR the rental allowance paid as part of his pay.  This rule has a few basic parameters that are sometimes overlooked by churches and ministers who are claiming or applying this exemption.

  • The minister must be ordained, licensed, or commissioned, and must be performing ministerial services for which he receives the allowance.  Some churches designate housing allowances for employees who do not qualify as a “minister” under the IRS’s test, such as a music teacher, or a children’s worker, etc.  These individuals may provide important ministry services to the church, but if they do not qualify as a minister under the IRS definition, they should not get tax-free housing.  This is usually a very fact-based analysis, so consult legal counsel when categorizing employees.
  • If a minister receives a tax-exempt rental allowance, it is only exempt up to the amount actually used for a home and only to the extent it does not exceed the fair rental value of the home, which includes furnishings and utilities.  If a church designates a large portion of the minister’s compensation as a housing allowance, then the minister can only claim as tax-exempt that portion actually used for housing.  If a church chooses not to use a Fair Rental Value valuation to determine the size of the housing allowance, they should include language on the pay-stub or agreement with the minister that clarifies the minister is responsible to determine the FRV of the allowance and not to take as tax-exempt anything above the FRV or not used for actual housing costs.
  • A housing allowance must be designated in advance and may not be adjusted retroactively.  If a church fails to designate a housing allowance before the year begins, the IRS will not accept retroactive designations.[1]  Churches may, however, amend the allowance moving forward if the original allowance proves to be too low, and may designate a “buffer” amount to ensure that the allowance is not too low.
  • This allowance must be compensation for ministerial services provided (as noted above) and should not exceed a minister’s reasonable compensation.While there is generally no limit on what the church can designate as a housing allowance, the entire compensation package for the minister has to be ministerial services provided and cannot be unreasonable.  Moreover, since (as noted above), the minister cannot deduct any allowances that are above the FRV of the home, there is not much accomplished by over-designating.  
  • A retired minister can receive their retirement benefits in the form of a housing allowance, subject to certain limitations, including that all benefits taken as a deduction have to be tied to actual services performed as a minister.  This can be a complicated rule, so consult professional legal and financial advisors before applying it.

These tips and pointers only scratch the surface of this tax exemption; please be sure to consult experienced legal and financial professionals who can advise as to applying these rules.

In the face of increased scrutiny of this housing allowance, it is important that churches work hard to apply the ministerial housing allowance in a way that is responsible and that does not invite scrutiny.

WANT TO READ MORE ON THIS ISSUE?  Contact the author of this article or call the office at 703-771-4671 to purchase an in-depth analysis of the exceptions available to ministers of the gospel, including employment categorizations and housing allowances.  


Disclaimer: This memorandum is provided for general information purposes only and is not a substitute for legal advice particular to your situation. No recipients of this memo should act or refrain from acting solely on the basis of this memorandum without seeking professional legal counsel. Simms Showers LLP expressly disclaims all liability relating to actions taken or not taken based solely on the content of this memorandum.  Please contact Robert Showers at hrs@simmsshowerslaw.com, Daniel Hebda at djh@simmsshowerslaw.com or Justin Coleman at jrc@simmsshowerslaw.com  for specific legal advice on this issue for your needs. Simms Showers LLP © 2014


[1] Guidestone Financial Issues, Ministerial Tax Issues, Guidestone Financial Resources of the Southern Baptist Convention (2012).

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