We recently asked church leaders about the following situation:
A member of your congregation operates a day-care business out of her home. She is so loved by parents that she needs more room to handle the demand. She has asked if she can rent some of your church's classrooms and move her business there.
Often church buildings sit idle much of the time. It would seem that if your church leaders could find a way to increase your buildings utilization it would demonstrate better stewardship of what God has entrusted to the church. And besides, it might even provide another way that your church could reach out to your community.
But because churches hold a special status in our societythat of a tax-exempt organizationa church renting extra space to a for-profit could result in costly problems for the churchcosts well beyond the churchs ability to pay.
One of a variety of taxes that churches are exempt from is property tax. Generally the property values of churches can be in the hundreds of thousands, if not the millions, of dollars. If a church was on the local property tax rolls, the amount of taxes that it would be obligated to pay would be thousands of dollars annually. Instead the church pays nothing.
But the reason that churches pay nothing is important. As long as a churchs property is used exclusively for programs and activities that furthers its exempt purpose as a charitable, educational and/or religious organization, it most likely will not be required to pay any property tax. But because property tax laws can vary so much from state to state, and even from county to county, we recommend that churches seek qualified legal counsel if they wish to let another organization use any part of its facilities or property.
Much of what a church can and cannot do depends on what its legal documents state is the "why" of a churchs existence.
One of the questions that a good attorney will ask church leaders is
what is your organizations purpose? A good
place to look for the answer is your churchs governing documents, its Articles of Incorporation and/or its Bylaws.
In fact, thats probably where any inquiring taxing authorities would look, too. So if your churchs tax exempt purposes
were drawn up too narrowly many years ago, we suggest that they be revisited and maybe even revised sooner rather than
later. Much of what a church can and cannot do depends on what its legal documents state is the
why of a churchs
Returning to the issue of property tax exemptions, some states allow church facilities to be used up to a certain percentage of the time for non-exempt activitieseven for-profit organizationswithout requiring that they pay property taxes. Other states set the bar much higher, not allowing any non-church groupeven other tax-exempt onesto use church facilities before requiring that property taxes are owed. In a worse case situation a churchs property tax exemption could conceivably be revoked altogether. Could your church afford to pay the resulting tax bill?
Sorry, but asking the church down the street how theyre able to have a day-care operate in their building is not a prudent way to proceedinstead contact an attorney who is qualified to advise your church about local property tax laws and ordinances.
Okay so youve found out that your churchs property tax exemption wont be jeopardized, whats next? Unrelated business income tax or UBIT.
UBIT is intended to level the playing field somewhat when non-profits, like churches, start competing with for-profit
businesses. There are some obvious situations when a church is obligated to pay UBIT, but often a discussion of UBIT
results in a lawyers most often used phrase,
Often there is a misunderstanding on the part of some church leaders about UBI.
Any income that a church receives that is technically not a donation (sorry, but calling a rental fee a donation doesnt count) should be reviewed by leaders to see if it qualifies as unrelated business income (UBI). Often there is a misunderstanding on the part of some church leaders about UBI. They think that any money spent to further the churchs tax exempt purposes cannot be considered UBI. Before we proceed, lets clear that up. It doesnt matter how noble the purpose money is earmarked for, all that matters is how the money came into the church.
When thinking about charging rent and how it relates to UBI, one must also understand the difference between real and personal property. Real property is the building and anything that is bolted down to it. Kitchen counters, bulletin boards and pews bolted to the floor would be good examples of real property. Personal property is anything inside the building that is not bolted down. Tables and chairs are good examples of personal property.
So why did we digress for a short explanation of real versus personal property? Rent received for personal property is
generally considered UBI while rent received from real property may or may not be considered UBI. Here comes an
depends statementif a church facility is debt financed (this includes loans for remodeling or replacing HVAC
equipment, too), then any rent received for any use of the building is considered UBI. If there is no debt on the
building, then any rent received is not considered UBI.
There are many other ways that churches can generate unrelated business income that can result in taxes being owedthings like bookstores and coffee houses. But the focus of this article is on issues surrounding the use of church facilities by outside organizations, so we suggest that you contact us if you want to know more about UBI.
When a church receives at least $1,000 of UBI in a year it needs to file a form 990-T with the IRS. The amount is based on the actual income received before any expenses are deducted. But even if the $1,000 threshold isnt met, a church might want to consider filing anyway. Doing so puts into place a statute of limitations that doesnt exist if a 990T has not been filed.
Federal tax law requires that the assets of a non-profit such as a church be used exclusively in the organization achieving its exempt purposes. So providing benevolence to someone who needs help in order to survive is okay. Enriching someone who is not in need is considered a private benefit and is generally not allowed.Fortunately federal courts have interpreted
exclusivein the case of private benefits to mean all but an immaterial amount. So government officials when determining whether private benefit has occurred have the flexibility to use a time and frequency test. For example if someone was to use a church classroom for an activity that had nothing to do with the churchs purposes once a year for a couple of hours, that likely would not be seen as a problem. But if that same person is allowed to use the same classroom six hours every week rent free, it would likely be viewed as material. In a worse case situation it might even lead to the revocation of the churchs federal tax-exempt status.
But any flexibility is reduced significantly if the person involved is one of the churchs decision makers or one of
its decision makers immediate family members. The IRS has put them in a special category, classifying them as
disqualified persons. Any private benefit that a disqualified person at a church receives is called
Inurement comes with its own set of penalties.
leaders involved in approving receipt of special treatment will personally have to pay excise taxes of up to 10 percent to the IRS.
In addition to requiring that the person receiving any benefit repay the church, the IRS will charge that person an excise tax of 25 percent of the value of the benefit. If those requirements are not met within a year, the excise tax increases to 200 percent of the value of the benefit. In addition any leaders involved in approving receipt of special treatment will personally have to pay excise taxes of up to 10 percent to the IRS. If the inurement continues, revocation of the churchs federal tax exemption is also a possibility.
So that the church avoids allowing someone who they rent space to from receiving any private benefit or inurement, church leaders
need to research what comparable space in their community leases for, and charge accordingly. This is what is referred
fair market value rent. The easiest way to learn what a fair market value rent would be is to contact a local
commercial realtor and ask them to provide you with a letter giving their qualified opinion. If a church has been
receiving less than fair market value rent from someone, at a minimum it needs to issue the tenant a form 1099
reflecting the difference.
Okay, so lets say youve resolved property tax issues, the UBI issues, the private benefit/inurement issues and the fair market value rent issues and you are still thinking about renting space at your church. Next, you will want to be sure that your tenant has sufficient liability and workers compensation insurance. At a minimum you should get from them a certificate of insurance naming the church as an additional insured. But if youre concerned about the churchs liability exposure, please understand that in the event of an injury, especially one that has no direct relationship to the tenants activities, the certificate of insurance will not necessarily provide the church with coverage. A call to your insurance agent would be a good one to make.
One of the last rulings that the U.S. Supreme Court made during its 2014-15 term made same-sex marriages legal in every state in the country. One may ask, what does this have to do with renting your church building to outside groups? Even if your church supports and performs marriages of same-sex couples, you may want to pay attention to this new legal wrinkle.
Normally churches are not legally considered places of public accommodation. This allows them to determine who can visit them and who cannot. So if your church chooses not to put any limits on who can and cannot use your facilities, that protection for your church may no longer apply.
While we, along with others, previously recommended that a detailed statement of belief be included in a churchs bylaws, a new approach may make better sense. Now it is recommended that before a church allows any individual or outside group to use any of its facilities, the church require that they sign a copy of the churchs detailed statement of beliefs indicating their agreement with it. This simple step demonstrates that the church clearly restricts who can and cannot use the churchs facilities. Taking this step upholds that the church is not a place of public accommodation.
While this approach may be favored mostly by churches that theologically cannot support same-sex marriages, all churches could benefit from using it. For example, a group that is significantly opposed to your churchs theological values may want to rent your church facilities. If they cannot or will not sign your required agreement with your statement of beliefs, then you are under no obligation to let them use your building. This is because of the legal rights granted to your church as a religious entity by the first amendment to the U.S. Constitution.
If the whole process of deciding which and when outside groups can use your church is not one that you want to go
through on a case by case basis, may we suggest that you write or get a facility use policy. Having such a policy
will make it easier to say
no to requests that don.t meet any pre-determined standards that have been spelled out
in the policy. It will also give church staff a way of making more consistent decisions when approached with such
requests. If you would like help in writing a facilities use policy, please contact us.
So far weve focused on churches renting to individuals and/or for-profit entities. If an organization is a valid 501(c)(3) non-profit, and notwithstanding any property tax issues, your church may rent space to them for free or less than fair market value rates. But we suggest that you verify their non-profit status by using the IRS EO Select Check tool on their website. It is available by CLICKING HERE. Nevertheless the concerns about insurance that we raised earlier still apply, and if rent is charged, so does UBI.
While reaching out to its community is a laudable goal for a church, leaders need to remember that doing so through a for-profit may not be the best way to do it. We understand and appreciate the time and effort needed to lead a church with integrity. But cutting corners only diminishes the churchs credibility in representing our Savior. Being informed and proactive enhances a churchs value to its community and our God.
Please Note: This information is provided with the understanding that Church Administrative Professionals is not rendering professional advice or service.