Can a Church Give an Employee Loan?

During times of economic hardship, individuals may approach their employer and request a personal loan in order to help make ends meet. If an employee of a church requests a personal loan from the church, there are several issues to consider.

As a matter of policy, will the church give loans to its employees?

The church should consider the issue of precedent. Is the church willing to give similar loans to other employees? What criteria will be used to make a consistent determination regarding loan requests? Once approved, who will manage the many details surrounding the loan, as discussed below?

As a matter of law, can a nonprofit organization issues loans to individuals?

In order to ensure that the church continues to operate within its nonprofit purposes, it must charge an appropriate amount of interest to the employee for the loan. The interest rate charged cannot be less than the applicable federal rate (AFR) or the loan is deemed a below-market loan. The IRS publishes information that can be used to determine the AFR at the following link:

https://www.irs.gov/applicable-federal-rates

In some cases, there is an exception to this rule for loans of less than $10,000. Consult a tax or financial expert if assistance is needed in calculating the proper interest rate, or determining if the exception applies.

A promissory note should be drafted that documents the details of the employee loan. This document should contain the amount of the loan, the annual percentage rate of interest and frequency of compounding, the duration of the loan, the payment schedule, whether prepayment is permitted, and the terms for late fees. The loan should be signed by an authorized representative of the lending employer, and by the employee recipient.

If at any time during the duration of the loan the church decides to forgive repayment of any portion of the loan, care should be taken to ensure proper tax treatment. Any financial benefit to an individual must be reported as taxable income to the person. Because loan forgiveness bestows a financial benefit upon the recipient, it must be reported as taxable income on the recipient’s Form W2. Otherwise, the church has used money it received as nonprofit, tax-deductible dollars and transferred them toward an individual’s personal benefit, which could jeopardize the church’s tax-exempt status.

Since the church can compensate employees a reasonable amount for services performed in furtherance of the church’s nonprofit purposes, the question presented by loan forgiveness is whether the financial benefit of the forgiveness, over and above the existing compensation amount, is still a “reasonable” amount of compensation for the employment position. Reasonableness is a measure of how similarly-situated employees in other organizations are compensated.

The church also should be careful to only forgive the portion of the loan due in the current tax year. If a church documents its intention to forgive the entire loan at once, that entire amount must be reported as taxable income in that same tax year.

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Clergy Financial Resources
Tax I Payroll I Bookkeeping I HR
11214 86th Avenue N.
Maple Grove, MN 55369

Tel: (888) 421.0101
Fax: (888) 876.5101

Clergy Financial Resources serves as a resource for clients to help analyze the complexity of clergy tax law, church payroll & HR issues. Our professionals are committed to helping clients stay informed about tax news, developments and trends in various specialty areas.

This article is intended to provide readers with guidance in tax matters. The article does not constitute, and should not be treated as professional advice regarding the use of any particular tax technique. Every effort has been made to assure the accuracy of the information. Clergy Financial Resources and the author do not assume responsibility for any individual’s reliance upon the information provided in the article. Readers should independently verify all information before applying it to a particular fact situation, and should independently determine the impact of any particular tax planning technique. If you are seeking legal advice, you are encouraged to consult an attorney.

For more information or if you need additional assistance, please use the contact information below.

Clergy Financial Resources
11214 86th Avenue N.
Maple Grove, MN 55369

Tel: (888) 421-0101 
Fax: (888) 876-5101
Email: clientservices@clergyfinancial.com