As we round out the first month of the new year, many employers are reviewing and updating employee handbooks and workplace policies. At the same time, employers are increasingly offering or considering educational benefits in response to the rising cost of college. Employers should, however, take care to ensure these benefits are properly structured and documented.
Educational assistance programs are a common benefit that employers offer to their employees, which allows employers to provide up to $5,250 annually in tax-free benefits to pay for tuition and other education expenses. These programs can also be used to pay principal and interest on an employee's qualified education loans. Payments made directly to the lender, as well as those made to the employee, qualify.
Educational assistance benefits do not include payments for the following items:
- Meals, lodging or transportation.
- Tools or supplies (other than textbooks) that an individual can keep after completing the course of instruction (for example, educational assistance does not include payments for a computer or laptop that the individual keeps).
- Courses involving sports, games or hobbies unless they:
- Have a reasonable relationship to your business, or
- Are required as part of a degree program.
Many employers include a brief description of their educational assistance program in their employee handbook and consider the issue addressed. While handbooks are a useful communication tool, they are not sufficient for tax purposes. Under Internal Revenue Code Section 127, educational assistance programs must be established and maintained pursuant to a separate written plan document in order for benefits to be excluded from employees’ taxable income. The plan also may not allow employees to choose to receive cash or other benefits that must be included in gross income instead of educational assistance and must not favor highly compensated employees.
It is important to ensure that any educational assistance benefits that you intend to be offered tax-free comply with the requirements for a written plan document under Section 127. If not, benefits offered under a non-compliant education assistance plan may become taxable income to the employee or a non-deductible expense for the employer.
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