Most beneficiaries of tuition reductions have only modest incomes.
Now that they have both passed tax bills, the House and the Senate will have to reconcile their respective plans, which differ on many points. The House plan places new taxes on many educational benefits, while the Senate leaves them alone. If these new taxes stay in the final bill, they could put private K–12 schools in the crosshairs.
Section 1204 of the House bill repeals the section of the tax code — 117(d) — that exempts various tuition discounts from taxation. Under the current tax code, if a school gives a tuition discount to the children of employees, this discount is not treated as taxable income. So, if a private college allows the child of a secretary to attend for free, the $40,000 of waived tuition will not count as income. But under the House bill, that tuition discount would be treated as taxable income. If a family had a 10 percent federal tax rate, taxes on $40,000 of income would be $4,000. The repeal of 117(d) would also classify as taxable income the tuition discounts that graduate students get as part of a teaching or research assistantship. (Stipends paid to graduate students for living expenses are currently treated as taxable income, but tuition discounts are not.)
A November New York Times story draws attention to the effects of 117(d) repeal on higher-education financing. That story shows how it would be a significant tax hike on a range of Americans, from middle-aged janitors to young Ph.D. students. The Times gives the real-life example of a physics graduate student at Carnegie Mellon who would see his annual tax bill rise by $7,000 if his tuition discount were counted as income. The Times also cites a survey that found that 50 percent of college employees who receive tuition discounts for their families make less than $50,000 a year. Classifying these tuition discounts as income could be a significant tax on some working-class families.
While much media attention has focused on the implications of eliminating 117(d) for higher education, the effects of 117(d) repeal on private K–12 schools have gotten much less notice. However, organizations such as the National Association of Independent Schools (NAIS) and the Southern Association of Independent Schools have expressed concerns about how eliminating 117(d) would affect employees at private schools. As this report from NAIS shows, 117(d) is the provision of the tax code that allows private schools to give tax-free tuition discounts to the children of their employees. Thus, removing 117(d) would tax one of the major fringe benefits of many private schools. NAIS has called for eliminating Section 1204 and other provisions that may increase taxes on educational benefits.
Making tuition benefits subject to taxation (as well as other efforts to tax benefits for private-school employees) could place additional burdens on private schools, especially religious ones. Teachers at private schools often make considerably less than their public-school counterparts; according to federal statistics, the average private-school teacher makes a base salary of about $40,000, while the average public-school teacher has a base salary of around $53,000. Private schools try to offer employees various fringe benefits, such as tuition breaks, in order to compensate for lower pay. Making these tuition discounts taxable would likely make it harder for low-paying private schools to keep and attract teachers. Teachers who used to send their children for free could potentially have to pay thousands of dollars more in taxes. Private schools already face significant financing disadvantages compared to public schools (which are, after all, supported by taxes), and taxing more of the benefits of private-school teachers would compound these disadvantages.
The argument for taxing these tuition discounts is that the goal of tax reform should be to remove “loopholes” in order to lower tax rates for everyone. When asked about the implications of repealing 117(d) for private schools, a spokesperson for the House Ways and Means Committee said, “Parents teaching at private K–12 schools, like all Americans, will be taxed at lower, simpler rates based on the compensation they receive — not based on the maze of costly deductions and exclusions Americans must navigate today.” However, while it’s true that many families would get a tax break under tax reform, it seems quite possible that many of those whose tuition discounts would be taxed would end up paying considerably more on net. It is unlikely, for instance, that the physics student from Carnegie Mellon would end up paying lower taxes if he had to pay an extra $7,000 in taxes on his discounted tuition.
It’s worth noting that the House plan continues to exempt other employment benefits, including employer contributions to health-insurance plans, from taxable income.
Further complicating the case for taxing the tuition discounts of families of employees is the fact that tuition discounts through a student scholarship would remain untaxed. Thus, if a school discounted tuition as part of an athletic or academic scholarship, that would not be counted as compensation. But if a school discounted tuition for a child of an employee, it would count as compensation. Treating tuition discounts as compensation for some but not for others might be the opposite of making the tax system clearer. It’s also worth noting that the House plan continues to exempt other employment benefits, including employer contributions to health-insurance plans, from taxable income.
Schools would find ways to work around some of the effects of eliminating 117(d). Some of the discounts given to graduate students or the families of employees could be reclassified as financial-need or merit scholarships, which would remain untaxed. But such applications might be rolled out unevenly and would likely decrease the transparency of the financing of education (already a fairly byzantine topic).
Many of the provisions of tax reform have generated negative headlines — from the risk of raising taxes on middle-class families in high-tax states to the effects of tax reform on the deficit. The proposed repeal of 117(d) has ignited opposition from many institutional stakeholders, but this repeal could also undercut some of Republicans’ broader policy aims. The House’s plan to levy taxes on tuition discounts could make education more expensive for some and thereby threaten the goal of promoting upward mobility. Furthermore, many conservatives in recent years have argued about the importance of subsidiarity and nurturing a diverse civil society. Increasing burdens on small private schools would seem to undermine that vision.
READ MORE:
A Defense of the Federal Education Tax Credit