The Housing Allowance is one of the best tax benefits available to members of the Clergy, but also one of the most misunderstood. Here are five common misconceptions about the Clergy Housing Allowance.
1. I can only change my designation once a year.
False. There is no IRS regulation stating that designations can only be changed once a year. You can change your designation multiple times a year, though each time it has to be approved in writing by your church board or whoever is in charge of approving budget changes. If there are restrictions on how often the designation is changed, these are set internally by the Church, not IRS.
2. I can only designate 20% of my wages as Housing.
Also false. Many Ministers and Churches are hesitant to designate higher amounts of their wages as Housing, but in reality IRS regulations do not restrict how much you can designate. Even if you designated 100% of your wages as housing, Internal Revenue Code Section 107 would still restrict your allowance to the lesser of actual expenses and fair rental value.
Granted, you may get some strange looks from your Church Budget Board if you designate all of your wages as Housing without a good reason!
3. If I don’t spend all of the housing allowance, I will have to pay a penalty.
This is a misunderstanding about how the Housing Allowance works. The Housing Allowance is just the portion of your wages that you may get to exclude from federal income tax. If you get paid $60,000 and designate $20,000 as housing, this means AT MOST you will get to exclude $20,000 from calculating your income tax. There is no additional penalty generated for underspending the allowance.
4. I can change my Housing Allowance at the end of the year to match whatever I spent.
This is incorrect. Housing allowances can never be retroactive. This is why it is important to document any changes to your housing allowance in the Church budget or meeting minutes.
5. My denominational pension is 100% designated as retirement, so I don’t need to track housing expenses.
This is also incorrect. Even in retirement, IRS always limits the housing allowance to the lesser of three categories- the amount designated, the fair rental value of your home (including furniture and utilities), and your actual home expenses. If you don’t keep any records of your home expenses, IRS could set your expenses as zero and decide to disallow your Housing Allowance, meaning all of your pension would be taxable income.