IRS Revives Section 7611 Church Compliance Audit
By Raul Rivera
Several years ago a church's tax-exempt status was revoked, retroactive 15 years. When Music Square Church was audited by the IRS under section 7611 it resulted in the church losing its tax-exempt status retroactively to the date they started. During the days of the extended audit, peace of mind did not come easy for the pastor. In fact, some of his nights were sleepless, as he contemplated what the possible outcome would be.
Getting 501(c)(3) status is only the beginning
Like many churches, Music Square Church was under the impression that once it got its 501(c)(3) status, it could operate any way it wanted. Yet, the law is contrary to that belief. What you do after approval is even more important than what you do before. At all of our Ultimate Church Structure conferences, I tell churches that getting 501(c)(3) status is only the beginning. In a court case, Better Business Bureau of Washington, D.C. v. United States, the Supreme Court ruled that "the presence of a single . . . [non-exempt] purpose, if substantial in nature, will destroy the exemption regardless of the number or importance of truly . . . [exempt] purposes." Unfortunately, when the IRS took a second look at Music Square Church under a section 7611 compliance audit, it decided to revoke the church's tax-exempt status because the church did not operate in a manner consistent with the information it supplied the IRS in its application. This is a well-hidden pitfall that many churches fall into that will cause havoc in the years to come. That pitfall will soon become more dangerous as the IRS is set to once again reinvigorate with full force section 7611 compliance audits. Just the other day Ruth Madrigal, attorney with the Treasury's Office of Tax Policy, announced that the IRS is very close to finishing up the final rules on section 7611 audits and will soon begin to go after churches it suspects have violated provisions of section 501(c)(3). What does this mean to your church and ministry?
Let us go back to 2004
In 2004, the IRS implemented a compliance initiative, which sent letters of inquiries to 1223 organizations and examined 782 organizations. Under this initiative, the IRS issued over 21 million dollars in fines and penalties. In all, it was a 5-year project that resulted in the IRS forming new compliance techniques that targeted particular demographics and governance practices, of which churches fare the worst.
Then in 2009, a federal court ruled that the IRS could not conduct section 7611 compliance audits because the final rules lacked key approval from the appropriate IRS officer. Hence, for the last three years the IRS has held these audits in abeyance as it got final approval on the rules. This brings us up to date. I am like one crying out in the wilderness for churches to get ready. Now is the time to prepare. I have dedicated an entire section of the Ultimate Church Structure Conference manual to section 7611 because the effects of this audit can be devastating. Do not get caught off guard.
How churches land in IRS pitfalls
I have been blessed and privileged to look into the way thousands of churches start and grow. It usually happens like this.
1. The church planter starts with a vision from God.
2. He/she dares to step outside of his/her comfort zone and starts to hold prayer meetings and/or worship services.
3. Because the work is very small, the pastor handles everything until the point comes when he/she can no longer do it all.
4. This is where pitfalls enter the church planter's world. The pitfalls are hidden because growth in numbers does not mean that you have commensurate growth in church compliance and tax management.
5. By the time the church has 50 people, significant tax issues have arisen that are yet to be discovered. This is a big deal because one simple church inquiry could lead into serious trouble for the future of the young church.
6. Just one simple inquiry can stop momentum, and once momentum has been stopped, it is very difficult to regain.
Face the past and fix it
One of the most difficult things to do in any church is to ask yourself the hard questions about the church. I have had numerous conversations with pastors who are apprehensive about the condition of their church's books and what IRS issues they need to correct. I want to encourage you today with a reminder my wife mentioned to me during the early stages of starting the church we pastored. "God will finish what He started in you." She said those words to me when the very existence of our church was at stake. We were being attacked on every side and yet she knew that if we stayed true to the call, He would finish it. It is true that one IRS audit could ruin your church's future, but it is also true that if you face the past now and fix it before the IRS takes a look at it, you will have nothing to fear. We can help you, and once we do...we know you will sleep better.