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Church Retirement Plans and Retired Ministers May Be Impacted by Housing Allowance Ruling Church Retirement Plans and Retired Ministers May Be Impacted by Housing Allowance Ruling

Church Retirement Plans and Retired Ministers May Be Impacted by Housing Allowance Ruling

On Oct. 6, 2017, a federal district court ruled that the income tax exclusion for cash housing allowances provided to ministers is unconstitutional. In Gaylor et al (Freedom from Religion Foundation) v. Mnuchin, Judge Barbara Crabb of the Western District of Wisconsin held that Section 107(2) of the Internal Revenue Code (Code) violates the Establishment Clause of the First Amendment. Code Section 107(2) provides that a minister can exclude from gross income a cash housing allowance provided to the minister as pay for services in the exercise of ministry. The ruling, if upheld, would have a significant impact on ministers who have a portion of their salaries designated as housing allowance, as well as their employing churches. Moreover, it would have a significant impact on church retirement plans and retired ministers who designate a portion of their retirement income as housing allowance excludible from taxable income. The case is expected to be appealed to the Seventh Circuit and may ultimately be decided by the U.S. Supreme Court. It is expected, but not yet known, that Judge Crabb's ruling will be stayed until the case is fully appealed.


In Gaylor, the plaintiffs challenged the constitutionality of an income tax exclusion provided under Code Section 107, which permits a "minister of the gospel" to exclude from gross income:
  • the rental value of a home furnished to the minister as compensation (an in-kind housing exclusion under Section 107(1)), or
  • the cash compensation paid to the minister that is used to provide a home (a cash housing exclusion under Section 107(2))
The plaintiffs are employees of the Freedom from Religion Foundation, a nonprofit organization that advocates for the separation of church and state. The Foundation designated a portion of the plaintiffs' salaries as housing allowance each year. The plaintiffs then attempted to claim a tax exclusion under Code Section 107(2). The Internal Revenue Service (IRS) denied the request on the grounds that the plaintiffs were not ministers of the gospel. The plaintiffs then challenged the tax exemption as discriminating against secular employees in violation of the First and Fifth Amendments.

The federal government and individual clergy members who receive a housing allowance defended the constitutionality of the tax exclusion on various theories. These included the unique housing needs of ministers in order to live in or near the community they serve, the relatively low income paid to ministers as compared to other professions, and the need to eliminate discrimination between particular religious denominations. None of these arguments persuaded Judge Crabb, who found the exclusion to violate the Establishment Clause of the First Amendment because it provides a benefit to religious persons only and does not have a secular purpose. Judge Crabb concluded the other tax exclusions cited by the defendants were dissimilar from Code Section 107 because those exclusions, such as an exclusion for employee lodging furnished for the convenience of the employer, were broadly available to any employee who met the statutory requirements, ministers and non-ministers alike. She also stated there are other ways Congress could address the concerns raised by the defendants without singling out ministers of the gospel as a group for favorable tax treatment.

Judge Crabb's decision is not surprising. She ruled on the same case brought by the same plaintiffs in 2013 and reached the same conclusion. The previous case was ultimately dismissed by the Seventh Circuit Court of Appeals on the grounds that plaintiffs lacked standing to bring the lawsuit. In the 2013 lawsuit, the plaintiffs had not personally claimed and been denied the exemption from the IRS, so they could not prove actual injury to bring their claim. This procedural hurdle seems to have been cleared in the current litigation.


Code Section 107 on its face applies to the compensation paid to ministers of the gospel, but the IRS has issued guidance extending the housing allowance exclusion to retired ministers with respect to their church pensions. Under this guidance, amounts paid to a minister as part of his or her compensation for past services are excludable under Code Section 107(2), to the extent used for expenses directly related to providing a home. In other words, a retired minister of the gospel can designate housing allowance on his or her pension that represents compensation earned for his or her past services in the exercise of ministry. The housing allowance exclusion is a valuable benefit to retired ministers, who often depend on this exclusion as a critical part of their retirement planning.


Judge Crabb has stayed her ruling for a few weeks to give the parties time to submit supplemental briefs on whether any additional remedies are appropriate and whether her final judgment should be stayed pending appeal to the Seventh Circuit. Accordingly, the ruling does not have an immediate effect on ministers or their ability to claim an exclusion on their 2017 federal income tax returns related to their housing allowance designation.

On appeal, the Seventh Circuit is likely to address the case on the merits. The Seventh Circuit's decision could then be appealed to the Supreme Court. The appeals process could take several years. If the ruling stands, its application to church retirement plans and current designations of housing allowance by retired ministers is not clear. Either the court's final ruling or the IRS could apply the change prospectively only or provide other transition relief.

Gaylor addresses only the constitutionality of the cash housing allowance under Code Section 107(2), leaving open the question of whether the in-kind housing allowance under Code Section 107(1) is constitutional. That provision was not before the court because the plaintiffs did not receive in-kind housing from the Foundation. However, if the Gaylor ruling stands and Code Section 107(2) is unconstitutional, Code Section 107(1) could be challenged next.


Church retirement plan sponsors should be aware that the future of the tax exclusion for ministers' housing allowance designations is uncertain at this time. As the litigation proceeds, church plan sponsors should expect to receive questions from concerned ministers, particularly as they begin their 2017 tax preparation. Ice Miller will continue to publish updates as developments occur.

For more information on the Gaylor ruling or other church plan issues, contact Tara Sciscoe, Shalina Schaefer, or your Ice Miller benefits attorney.

This publication is intended for general information purposes only and does not and is not intended to constitute legal advice. The reader should consult with legal counsel to determine how laws or decisions discussed herein apply to the reader’s specific circumstances.
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