A congregation typically has a number of individual whom it pays for services. The most important consideration to determine is whether the individual is an employee or is self-employed.

The IRS has developed a list of twenty factors that are to be "used as an aid in determining whether an individual is an employee under the common law rules." (Revenue Ruling 87-41.)

1. Instructions. An individual who must comply with instructions is usually considered an employee.

2. Training. If the worker needs training in order to do the work for which he was hired, it usually indicates that he is an employee.

3. Integration. If the worker’s services are an integral part of the operation of the organization this generally shows that the individual is an employee.

4. Services rendered personally. If the services must be done personally by the individual, this suggests she is an employee. A self-employed individual generally has the right to hire a substitute.

5. Hiring, supervising, and paying assistants. Hiring, supervising and payment of assistants by the employer normally means that all of the workers are employees. A self-employed individual would hire, supervise and pay their own assistants.

6. Continuing relationship. The existence of a continuing relationship between an individual and the organization for whom the individual performs services is a factor tending to indicate the existence of an employer-employee relationship.

7. Set hours of work. If the worker has set hours, this generally means he is an employee. A self-employed individual sets his own hours.

8. Full-time required. If Full-time work is required, the worker is generally an employee. Self-employed persons can choose when and for whom to work.

9. Doing work on employer’s premises. Doing the work on the employer’s premises can indicate that the worker is an employee.

10. Order or sequence of work. If the organization sets the sequence of work for the worker, this generally indicates that she is an employee.

11. Oral or written reports. If the worker is required to submit oral or written reports, this suggests he is an employee.

12. Payment by hour, week, month. An employee is normally paid by the hour, week or month; whereas a self-employed person is usually paid by the job.

13. Payment of business expenses. If the employer pays the worker’s business or travel expense, this usually suggests that the worker is an employee. A self-employed individual generally takes care of their own business and travel expenses.

14. Furnishing of tools and materials. Self-employed individuals generally furnish their own tools and materials. If such are provided by the employer, then the worker is generally an employee.

15. Significant investment. If all the necessary equipment and premises are furnished by the employer, this can suggest that the worker is an employee.

16. Realization of profit or loss. Employees do not realize profits or losses on the services they perform, whereas self-employed individuals may.

17. Working for more than one firm at a time. An employee typically works for only one firm. A self-employed person typically works for a number of organizations at the same time.

18. Making services available to the public. Workers who make their services available to the general public are normally considered self-employed.

19. Right to discharge. The right to discharge is generally a right of the employer and indicates that the worker is an employee. Self-employed individuals usually cannot be fired as long as they are producing the results specified in their contract.

20. Right to terminate. An employee can normally leave her employer at any time she wishes. A self-employed person, on the other hand, is usually legally obligated to complete the contracted job.

A couple of recent court cases involving employment status highlighted the following seven factors:

1. The degree of control exercised by the employer over the details of the work.

2. Which party invests in the facilities used in the work.

3. The opportunity of individual for profit or loss.

4. Whether or not the employer has the right to discharge the individual.

5. Whether the work is part of the employer’s regular business.

6. The permanency of the relationship.

7. The relationship the parties believe they are creating.

Please do take a look at both lists of factors before making payment to anyone for services rendered. Your classification of individuals as either employee or self-employed should take place before any checks are written rather than at the end of the year when doing the W-2's and 1099's.

Employees (other than clergy)

Typically most of the workers that congregations hire fall into this category. This can include Associates in Ministry, secretaries, office staff, organists, choir directors, and janitors. In very few instances do these individuals meet the requirements for being considered self-employed.

For tax purposes, workers of tax-exempt organizations such as churches are treated basically the same as workers of any other business with the exception of unemployment benefits and some tax deferred savings plans. For the congregation, this means that they are required to withhold the correct amounts of federal income tax, any applicable state tax, and social security tax from the employees’ wages. They also need to match the amount of social security tax from their own funds. IRS Circular E states that once an employee reaches $100.00 in wages he is subject to FICA (social security) withholding. The congregation as the employer is required to make timely deposits of these taxes, file Form 941 every quarter, and at year end issue a W-2 to each employee as well as a W-3 transmittal statement to the IRS along with copies of the W-2s.

Clergy

By far one of the most difficult concepts to understand is the employment status of the ordained clergy. Ordained ministers have "dual status treatment" under the provisions of the Internal Revenue Code.

1. Ordained minister may generally be treated as employees for income tax purposes (Revenue rule 80-110). But the IRS code exempts the ordained minister from federal income tax withholding (Code section 3401 (a).

2. Ordained ministers are to be treated as self-employed for social security reporting purposes.

While some clergy consider themselves self-employed, IRS Publication 517 states that in most cases ordained clergy are considered to be employees of the congregation. Page 1 reads as follows:

Even though you are considered a self-employed individual in performing your ministerial services for social security tax purposes, you may be considered an employee for income or retirement plan tax purposes. Some of your income may be considered income from self-employment and other income may be considered income from wages.

Common law rules. Under the common law rules, you are considered an employee or a self-employed person depending on all the facts and circumstances. Generally, you are an employee if your employer has the legal right to control both what you do and how you do it, even if you have considerable discretion and freedom of action.

Example. A church hires and pays you a salary to perform ministerial services subject to its control. Under common law rules, you are an employee of the church while performing those services.

A couple of other factors strongly suggest that pastors are indeed employees of the congregation.

Employer-paid pension benefits

Employer-paid medical benefits

Worker’s Compensation Insurance coverage

The benefits listed above are some typical employee benefits, but such things would never be given to a self-employed contract laborer. If your pastor is receiving the above benefits, the IRS would in most cases label her as an employee and advise that she should be getting a W-2 at the end of the calendar year. 

Furthermore, the consequences for classifying someone as an independent contractor who is actually an employee, could include penalties, interest, the employees FICA and all taxes that should have been withheld.

Self-employed Independent Contractors

If after going through the definition of a common law employee and applying the twenty criteria or seven factors stated earlier, the congregation deems that certain individuals whom they pay for services are indeed not employees, then they are considered self-employed or independent contractors.

There are not tax consequences to the congregation for hiring independent contractors. That is, there is no withholding, no quarterly filing or no remitting of taxes on behalf of such individuals. There is, however, one important year-end filing requirement. The IRS requires that Form 1099-MISC be prepared and given to the worker in the event that the individual received more than $600.00 during the course of the year. Form 1096 is also prepared and sent to the Social Security Administration telling the number of 1099s issued as well as the total dollar amount.

It is suggested that whenever the congregation has contract work done, they request that the contractor file form W-9 with them so that the congregation can secure the social security number of this individual.

Also, if the independent contractor is in the business of supplying, it’s services to the general public and advertises such services, it would be appropriate for the congregation to request a "Certificate of Insurance" from the contractor naming the congregation as "Additional Insured" on the contractor’s insurance policy. This would indicate to the congregation that for this particular project the contractor has liability and Worker’s Compensation insurance in place.