Every federal income tax law since 1894 has contained an exemption for religious organizations. The policy behind such tax breaks was the benefit to the general welfare provided by such charitable organizations. The current federal regulation concerning tax-exempt status is Internal Revenue Code } 501. Under this statute, religious organizations are treated similarly to charitable, scientific, or educational institutions.
An important aspect of the discussion of tax exemption and religious groups concerns the free exercise and establishment clauses of the First Amendment. The provision of a tax benefit to religious organizations raises the issue of whether this benefit violates the doctrine of separation of church and state. The U.S. Supreme Court in Walz v. Commissioner (397 U.S. 664, 1970) considered the implications of tax exemption for religious groups and concluded that the First Amendment neither requires tax exemptions for religious organizations nor forbids them. The only requirement in order to avoid violation of the establishment clause is the neutral administration of benefits to religious and secular organizations. Incidental benefit to a religious group is acceptable in the administration of a secular governmental interest. In Texas Monthly v. Bullock (109 S. Ct. 890, 1989) the Supreme Court reiterated this position when it held that exemption of religious publications from sales or use taxes violates the establishment clause because it was not applied equally to secular groups and the exemption was not founded on a valid state secular interest.
Numerous state and local governments have also established tax exemptions for religious organizations. Taxes from which groups may be exempt include sales and use taxes and property taxes. Religious groups in general receive a number of tax benefits from the federal, state, and local governments. The fundamental benefit to the organizations is the financial benefit of tax exemption. The Internal Revenue Code } 501 provides religious organizations with an exemption from income taxes. Since income is derived by the organization, it cannot be extended to other individuals, groups, or contractors associated with the organization. On the other hand, other taxes—such as use or sales taxes—may transfer to individuals acting on behalf of the organization.
Besides sales and use taxes, some states also exempt taxes for property owned by religious groups. Because not all religious organizations own property, the further limitation of tax exemption to churches acts as an additional criterion. While individual states differ on the extent of property tax exemption, some common requirements include incorporation, nature and use of the property, composition of religious group, and activities of the religious group.
Beyond financial benefits, religious organizations also receive numerous procedural benefits associated with their status as religious organizations. The majority of procedural benefits provided to religious organizations are limited to ‘‘churches,’’ a distinction referenced in numerous tax statutes. For example, churches are allowed to deduct property intended to be used for tax-exempt purposes within fifteen years as non-debt-financed property from otherwise unrelated business income subject to taxation. This is distinguished from other tax-exempt organizations, which are limited to a ten-year period. Notably, Congress and the Supreme Court have each refused to provide a useful definition of ‘‘church’’ with regard to the tax code. The Treasury Department has provided certain guidelines for a religious organization to qualify as a church; it restricts the ‘‘church’’ designation to religious groups whose duties include ‘‘the ministration of sacerdotal functions and the conduct of worship.’’ This definition, however, has not been universally applied by courts interpreting the federal tax regulations.
Likewise, clergy and other employees of religious groups are provided numerous substantive and procedural tax benefits under the federal tax code. These benefits are dissimilar from tax effects on members of other charitable organizations, even organization heads. Among the substantive benefits received by clergy are the exemption of the value of rental allowances or rental value of homes provided as part of their compensation and exemption from social security. Church employees also receive numerous procedural benefits related to retirement plan requirements. Church retirement plans, for example, are exempted from normal minimum participation standards, vesting standards, or funding standards.
A major limitation on religious organizations regards political participation. Political activity can jeopardize a religious organization’s tax-exempt status. The Internal Revenue Code } 501(c)(3) states that ‘‘no substantial part of the activities’’ may be involved in influencing legislation and the organization may not participate in ‘‘any political campaign on behalf of (or in opposition to) any candidate.’’ This portion of the statute significantly limits religious organizations from engaging in protected free speech, though the Supreme Court in Regan v. Taxation With Representation of Washington (461 U.S. 540, 1983), held that free speech was not violated by the political limitations of } 501(c)(3).
As a practical matter, however, the Internal Revenue Service prefers not to revoke an organization’s tax-exempt status, but rather focuses on correction. An organization’s tax exemption is revoked only when there is a case of clear and unambiguous political activity and the organization fails to correct the error and safeguard against further political activity.
References and Further Reading
Cases and Statutes Cited