I am the church finance secretary. The church gave our Pastor gifts and/or trips this past year. They were added to his W-2 which created quite a large tax liability for him. Our church has approved to pay him a check through payroll in the amount of his tax liability. He does understand this will be considered income, yet again on his 2009 W-2, but his question is should taxes be withheld from this tax reimbursement check or should it be for the full amount of the liability? I say take out the taxes because IRS will consider this more income to him. He says we've already paid the tax on this. Need a little advice on how to handle this correctly.

If the amount is income to him, it will be taxable.

Now I would ask about the "trips" since many are often busienss related and would they have not be deductable from income as a business expense.

The trips were personal vacations paid by the church. The conference trips were not added to his W-2 as this was business.

If you are trying make it so that the Pastor is "made whole" after taxes, what you want to do is gross-up his payment so that after taxes his net is the amount you want him to have left over. The way you do this is as follows:

1. Assume a marginal tax rate for the Pastor. In general I suggest that you assume his federal tax rate is 25%. If you live in a state with income tax add that rate to this 25%. So for example if state income tax is 5%, then his total tax rate is 30%.

2. Determine the amount you want the Pastor to have after taxes. Let's assume for discussion that this amount is $1000.

3. Multiply this amount by 1/(1-tax rate). So in this example you get $1000/(1-.3) = 1000/.7 = $1428.

4. You pay the Pastor $1,428, withholding taxes as normal.

Since you have already paid him the $1000, to make him whole you would need to pay him a second payment of $428.

To follow up on what Fr_Chick said -- if you are reimbusing the Pastor for out-of-poicket expenses in support of church business, then he should submit an expense report and you reimburse him accordingly - reimbursed expenses are NOT income and are NOT included in his W2. However, if you are making an extra payment to him for personal travel, then it is taxable, will be included in his W2, and you use the process described above to gross up his pay.

On a side note - you may want to consult with your auditor to verify that the process is correct and properly documented.