Early Withdrawal Penalties (might not be so bad)

early withdrawal penaltiesEarly withdrawal penalties may have scared people off from investing in the right place! If you’re investing in a non-retirement account and your retirement accounts aren’t completely maxed out, you’re probably throwing away thousands of dollars!

All we need is 403(b)!

If you’re a minister, you can invest in a retirement account through a 403(b). A 403(b) is a tax-sheltered annuity, which means you put money in before it gets taxed and it’s sheltered from taxes while it grows. Clergy members also have a benefit of being able to withdraw from a 403(b) tax-free for housing expenses after retirement!

A 403(b) does an amazing job of lowering your taxable income (therefore lowering your taxes) and helping you save for retirement. In 2015 and 2016, you can put up to $18,000/yr into your 403(b). Pastors over 50 may also contribute an extra $6,000/yr as a catch-up contribution!

How much should I put away for retirement?

Retirement and finance gurus like Dave Ramsey tell us to invest 15% for retirement.

If you’re a pastor, it’s likely 15% of your income won’t come anywhere close to maxing out your 403(b). And don’t forget, you can also use an IRA to reduce your taxable income and save up to $5,500/yr per spouse.

Let’s pretend you’re under 50, married, and make $100,000/yr as a pastor (Hah!). If you put away 15% ($15,000) toward retirement, you still have $14,000 in potential 403(b) and IRA limits that you could be sheltering.

After I’ve funded my retirement, where do I invest?

After you’re done putting 15% of your income into retirement accounts, where should you invest?

Most people will open up a non-retirement investment account at Charles Schwab, Vanguard, T. Rowe Price, or Fidelity (BTW, these are the ONLY four places I would consider).

But why? Why would you invest in a non-retirement investment account when there’s plenty more room to invest in your retirement accounts? Three little words: Early Withdrawal Penalties.

Everyone will tell you that you need to invest in non-retirement investment accounts because:

  • Non-retirement account withdrawals are taxed at only 15% (capital gains taxes)!
  • Retirement account withdrawals are taxed at your marginal tax rate (25% for most pastors)!
  • Retirement accounts are additionally subject to 10% early withdrawal penalties!

So it seems like it would make sense. If you want to grow your investments, withdraw them, and not have them subject to higher taxes and penalties, you should invest in a non-retirement investment account. Right? Wrong.

When I did the math, it blew my mind!

It turns out that the benefit of being able to put more money into a retirement account (remember, it’s pre-tax) completely outweighs the benefits of investing in a non-retirement account.

NOTE: I AM NOT suggesting that you pillage your retirement account! I’m simply saying that if you have more room in your retirement account, it can make you thousands of extra dollars over investing in non-retirement accounts. AND it can lower your taxes!

early withdrawal penalties might not be so badLook at the comparison chart I put together. This chart assumes a one-time investment and marginal tax rate of 25%. It also assumes a 10% return on investment each year for math convenience.

The same money will buy you $10,000 of investments in a 403(b) OR $7,500 in a non-retirement account. This is because you have to pay $2,500 in taxes on the $10,000 before you invest in a non-sheltered account.

Being able to invest a higher dollar figure into your 403(b) makes the higher tax and early withdrawal penalties completely irrelevant. Even if you take an early withdrawal again and again and again, it still makes more sense to start with the higher initial investment that can be made pre-tax.

What I’m saying is this: If you have not maxed out your 403(b) AND your IRA limits, you’re throwing money away by investing in a non-retirement account.

Don’t Give Up

“Let us not become weary in doing good,
for at the proper time we will reap a harvest if we do not give up.”

– Galatians 6:9

don't give up

Don’t give up!

Budgeting is hard at first. It takes a while to get it right.
Getting out of debt can be a boring, grinding slog!
Putting money away today for retirement doesn’t sound like a lot of fun.
Tithing can be scary when you don’t have any extra margin.
Writing and publishing your book are daunting tasks!

Don’t give up on doing the right things. You will finally have a lot to show for your efforts if you just keep going!

Sometimes you just need someone to be there to cheer you on and motivate you to keep moving forward, even when the going gets tough. Do you have a coach or mentor to keep you on track?

Salary vs. Package

The compensation package is NOT the salary!

compensation packageOur church is in the market for a new Collegiate/Young Adult pastor. As we were working through the numbers on our budgetary finance committee, one of the members was aghast at how much we budgeted for this new pastor: “Is that how much pastors get paid?!”

The answer is, “No, that’s not how much pastors get paid.”

The numbers we were looking at weren’t just the salary, they were the total compensation package. This number includes health insurance (“Couldn’t we just not give them health insurance?”), travel budget, continuing education, retirement (“Why should we pay for them to retire?”)…

Your pastor is likely an employee, not an independent contractor. And as an employer, the church has to pay the entire compensation package for the pastor. Church members may see the pastor’s pay as a line-item in the budget and think that the pastor is getting rich off the backs of the members: “I don’t make that much money at my job!” Yes. Well, neither does the pastor. In fact, a pastor may be making only $50,000 out of a $75,000 employment package:

$50,000 salary
$12,000 health and disability insurance (or more with kids)
$5,000 mileage and travel reimbursements
$3,000 continuing education, seminars
$5,000 403(b) match for retirement

Add to this the amount it takes to interview, hire, and move a pastor, and you’re looking at substantial total compensation package.

This can make it very awkward for a pastor going into salary negotiation. Instead of dealing with a Manager or HR professional who understands salary vs. benefits, you may be dealing with church members who are new to the concept, hearing about this for the first time. Or you may be dealing with people who want to “keep the pastor humble.” There may even be people on the church board who have a bone to pick and would love to force the pastor out any way possible.

It can feel downright defensive to have to justify a health benefit and a disability insurance benefit and mileage and a 403(b) match. And this defensive, justifying posture can really derail the entire negotiation!

This is why I believe it’s important to have a standing committee that is educated on these matters. It should be a small subcommittee of the church board. The members should be tasked with reading and bench-marking to become familiar with the overall cost and structure of a competitive compensation package in your area and your denomination. This subcommittee would then make recommendations to the budgetary committee or church board. Ideally, this committee would be bumping the salary every year just to keep up with inflation.

As a pastor, it’s relatively easy to put a standing committee like this in place. And it’s relatively easy to give them resources and benchmarks to look at.

Taking this extra step as much as a year in advance of asking for a pay raise will drastically increase your chances of receiving one!

What are you doing to make sure you have the right structure in place to pay you and all future church employees a fair compensation package?

Do you need to negotiate a better salary? Or better benefits package? You may need a coach to help you. Schedule a free, no obligation 30-minute strategy session to see if Clergy Financial Coaching is right for you!

Are you considered Clergy for tax purposes?

clergy for tax purposesThe IRS is specific about who can be considered clergy for tax purposes. This is important! Only clergy receive the “housing allowance” tax benefit, clergy-specific 403(b) distributions, and a clergy Accountable Reimbursement Plan.

You may be ordained and employed in something you consider a ministry, but the IRS may not agree. You may be a missionary, evangelist, chaplain, administrator, itinerant preacher, educator, or ordained wedding celebrant and NOT meet the IRS guidelines.

Here’s how to tell if you’re clergy for tax purposes. (ProTip: The IRS can’t figure it out by your vestments.)

5 Questions:

  1. Are you Ordained, Licensed, or Commissioned?
  2. Do you administer ordinances or sacraments (baptism, Lord’s Supper, etc.)
  3. Do you conduct worship?
  4. Do you have management or administrative responsibilities in the church?
  5. Does your church consider you a religious leader?

To qualify as clergy for tax purposes, you MUST answer “yes” to question 1 AND to a majority of questions 2-5.

If you ARE clergy, congratulations!

If you ARE clergy, you will need to understand:

  • Housing allowance, calculation, and tax benefits
  • 403(b) tax-free distributions as housing allowance
  • Exemption from Income Tax withholding
  • Calculating and paying Quarterly Estimated Taxes (or arrange to withhold on W-4)
  • Paying both parts of SECA (not FICA)
  • Setting up a 100% Accountable Reimbursement Plan

Clergy Financial Coaching can help you understand the unique financial and tax needs of pastors and walk alongside you in ministry to find financial wholeness.

Schedule a FREE 30-minute coaching session to get some clarity on your financial future!

This Week’s Abysmal Market

The Dow Jones Industrial Average plunged over 500 points today. The stock holdings in your 403(b) just went down by 3%. If you had $100,000 in your retirement account on Friday morning, you only had $97,000 by market close on Friday afternoon.

Dow Jones

Looks pretty abysmal, doesn’t it? People are selling their stock (that’s how the price goes down), exiting the market right and left, freaked out about China and our soft economic recovery.

But I want to show you another chart.

Read more

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