Are your company’s supervisors current on the latest and most effective management strategies? Do IT staffers have the most advanced knowledge about cybersecurity and network administration?
If your workers could use upgraded skills and fresh professional knowledge, you might want to pay to educate them with tax-advantaged education benefits. You can do this through a payment or reimbursement program or an educational assistance plan. These benefits often help with recruitment and retention and, of course, infuse your business with new ideas and competencies that could help it become more profitable.
Payment or Reimbursement Plans
Generally, payments or reimbursements for work-related education expenses are tax-deductible for employers. For employees, this “working condition fringe benefit” is exempt from federal income tax if at least one of two conditions is met:
- The education is legally required for employees to keep their present compensation, statuses or positions, or
- The education improves or helps maintain skills required in an employee’s current job.
On the other hand, educational expense payments or reimbursements are taxable if:
- The education is required to meet certain minimum qualifying educational requirements of the employee’s current job, or
- The education qualifies the employee for a new trade or business.
If this sounds straightforward, it’s not. In fact, many employers get tripped up by the tax rules governing educational benefits. Your organization doesn’t have to enter into a new trade or business to lose its tax exemption. If, for example, a rank-and-file employee takes courses to develop supervisory skills, the payments or reimbursements are taxable — even if the employee is never promoted.
Also, not all educational payments are tax-exempt. Qualified expenses include tuition, lab fees, books and supplies, and certain transportation and travel costs.
Finally, for payments or reimbursements to be tax-exempt, they must be made under an accountable plan. Reimbursements under an accountable plan aren’t subject to withholding taxes or W-2 reporting. You can use an accountable plan for educational expenses as long as:
- The education expenses are work-related,
- Employees receiving the benefit adequately account for their expenses, and
- Employees return excess payments.
Note that if you provide payment or reimbursement for education that isn’t work-related — for example, as a perk — you can still deduct the amount as compensation. However, the payments are fully taxable to the employee.
Educational Assistance Plans
Many employers choose to formalize payment of employee education expenses through an educational assistance plan. If you go this route, the first $5,250 of annual payments made on behalf of an employee is tax-deductible for you and tax-free to the employee, so long as certain conditions are met. This exclusion under Section 127 of the tax code is available for tuition, books, equipment, fees and supplies for study with a reasonable relationship to your business or if the courses are required as part of a degree program. Your plan may pay for graduate or undergraduate studies. But it can’t be used for education involving sports, games or hobbies.
For your company’s educational assistance plan to qualify for tax advantages, it:
- Must be documented in writing,
- Must be communicated to all eligible employees,
- Can’t provide more than 5% of its benefits annually to shareholders or owners with more than a 5% stake in your company,
- Can’t discriminate in favor of highly-compensated employees, and
- Can’t allow employees to choose to receive cash or other benefits that must be included in taxable income.
Eligible employees include current employees (and those who have been laid off), retired employees, disabled employees and certain self-employed individuals. But spouses or dependents of employees aren’t eligible. You’re usually free to impose additional qualifying standards. For example, you may require employees to earn a grade of “B” or higher or to remain employed by your company at least a year after they complete coursework.
Sec. 127 benefits were extended by the Coronavirus Aid, Relief, and Economic Security (CARES) Act to include student loan repayments. Thus, you can currently help employees managing student loan debt by making loan payments on their behalf (without them incurring tax). Initially, this CARES Act provision applied only to payments made between March 27, 2020, and December 31, 2020, but the Consolidated Appropriations Act extended it through December 31, 2025.
Payment or reimbursement programs, as well as educational assistance plans, can be valuable fringe benefits for employees. And in today’s tight labor market, you can’t offer too many perks and enticements. Contact us to discuss whether it makes financial sense for your company to include one of these or other perks in your employee benefits package.