Nonprofit Law/loan to pastor

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Question
QUESTION: If my church makes a $20,000 to $40,000 loan to our pastor to use as a down payment for a home, do we need to charge interest? Can we charge below market interest?  Can we allow repayment of the loan to be deferred until the pastor no longer works for our church or the house is sold?  We want to make sure we don't violate the IRS private inurement rules.

ANSWER: I am assuming that your church is not going to be adequately secured for the amount that it proposes to loan to the pastor.  Internal Revenue Code section 501(c)(3) which is available at http://goo.gl/7lFll (on page 2, first column) provides, in part, that the 501(c)(3) organization must be one of "  Corporations, andany community chest, fund, or foundation, organized and operated exclusively for religious, charitable ...or educational purposes ... no part of the net earnings of which inures to the benefit of any private shareholder or individual".

The term "private shareholder or individual" is defined in regulations 26 C.F.R. 1.501(a)-1(c) "The words `private shareholder or individual' in section 501 refer to persons having a personal and private interest in the activities of the organization."
http://goo.gl/GtQpz on the right column of page 2

From what you wrote, I do not know if the pastor is such an individual, but, if he is then see http://www.irs.gov/pub/irs-tege/eotopicc90.pdf and on pdf page 5 we see, "Other case examples of inurement include... inadequately secured loans, Lowry Hospital Association  v. Commissioner, 66 T.C.
850 (1976)."

If the pastor is not such an individual, then the inadequately secured loan is considered compensation to the pastor, at least to a certain extent, but, more significant for the church is that it is jeopardizing its exempt status because it is, more than in an insubstantial degree, operating for the private benefit of the pastor.  See in that IRS publication on page 10, "even a minimal amount of inurement can result in disqualification for exempt status, whereas private benefit must be substantial in order to jeopardize exempt status."

Harvey Mechanic
Attorney at Law
Harvey108@hotmail.com

P.S. This response is intended to be a general statement of law, should not be relied upon as legal advice and does not create an attorney/client relationship.

---------- FOLLOW-UP ----------

QUESTION: Regarding a loan from our church to our pastor for a down payment on a house, would our church comply w/ IRS private inurement/benefit rules as long as we charge commercial-rate interest and file a lien, i.e., treat the loan similar to the way a commercial loan would be treated?

Answer
The commercial rate of interest is fine, but I do not believe that filing a lien would mean that the church would be adequately secured as that term "security" is used in the real estate financing business, because your loan to value ratio is 100% and that is not considered acceptable (because values often go down), what to speak of the cost of enforcement.  However, I do not know off the top of my head of any IRS cases that address that issue. For me to research that, I would need to spend a substantial amount of time.  If you want to hire me for that, send me an email directly to my email address below and I will quote you my fees.

Harvey Mechanic
Attorney at Law
Harvey108@hotmail.com

P.S. This response is intended to be a general statement of law, should not be relied upon as legal advice and does not create an attorney/client relationship.

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Harvey Mechanic

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I am an attorney and I volunteer time to answer general questions about U.S. Federal income tax issues of nonprofit 501(c)(3) public charities only. Those questions could be about establishing and maintaining legal requirements for such non-profit organizations in the United States, including Internal Revenue service filings and requirements. I will not be working on this free forum to answer questions about Nonprofit's possible unrelated or for-profit businesses or how to fill out forms. This forum is only for general questions about federal tax law, not as the law applies to your specific situation. If you do not make your question public then I will not be spending much of my donated time on answers that would not benefit the public. If you have other questions, please contact me at Harvey108@hotmail.com I will reply from my email. In any case, do not reveal confidential information to me until after I have contracted with you to provide personal legal services. My responses on this forum are intended to be general statements of law, should not be relied upon as legal advice, and do not create an attorney/client relationship. For me to consider your individual situation and how the law applies, I would need to gather extensive information about the situation. To search my previous answers you can do a Google search by "site:allexperts.com/q/nonprofit" without the quotes and then add your search terms before hitting enter.

Experience

I have been practicing law and especially the law of nonprofit organizations since 1990 when I was admitted to the New York Bar and I have maintained my status with the Bar since that time.

Education/Credentials

B.S. Columbia University in New York City, 1970

J.D. (Law Degree) Brooklyn Law School, 1990 -- Cum Laude.


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