The IRS allows business owners numerous benefits. Don’t get me wrong, there’s plenty of tax we all pay and business owners are no exception. But when it comes to paying for college, I believe saving on taxes is crucial. One way in which business owner parents and students can save is through a Section 127 Plan. If you’re looking for ways to pay for college and save on taxes, this is a way to benefit both parties. It’s worth understanding the benefits of paying for college using section 127 plans.

What Is a Section 127 Plan?

Section 127 plans are often referred to as Educational Assistance Programs. The plans provide both the employer and the employee a tax benefit that can help defray the cost of college. The funds are used for college and do not have to be related to the employee’s current position. The amount of assistance is capped per employee at $5,250 per year.

Due to the CARES Act passed in 2020 as a result of the COVID Pandemic, through the end of 2025, employers and employees can also utilize this benefit for student loan repayments.

Who Could Utilize This Benefit?

It’s a benefit that business owners can offer and there are some good reasons to want to do so. For starters, it can be a great attraction and retention tool for employees. The other benefit is that the expense is fully deductible, creating a tax savings for the business. It’s also a way that business owners can compensate employees without FICA taxes.

Employees stand to benefit in that the $5,250 can be received without FICA tax or income tax levied upon them. It also could benefit the employee while going to school, but also upon graduation if he/she has student loans.

What are the Criteria for this Benefit?

There are some important distinctions that must be made within the business in order to take advantage of this benefit. Per IRS rules & guidelines:

• The employer must have a written educational assistance plan
• The plan must not offer other taxable benefits or remuneration that can be chosen instead of educational assistance (cash or noncash)
• The plan must not discriminate in favor of highly compensated employees
• An employee may not receive more than $5,250 from all employers combined
• Eligible employees must be reasonably notified of the plan

There are also important distinctions that need to be made in terms of qualified education expenses. Specifically, room and board and transportation are NOT included, while tuition, books and equipment are.

Solo Business Owner with a Child Employee

Unfortunately, these plans have further restrictions if the owner is trying to pay for a child. Children of owners are generally unable to participate in these plans, with one exception. If the child is over the age of 21 and not a dependent, he/she could be eligible to participate in the plan.

Therefore, for certain business owners who may have a child in his/her junior or senior year and is not a dependent of the business owners could be eligible for this benefit. Keep in mind, this benefit can last into a fifth year, or grad school if necessary. When you add the federal tax rate, state tax rate, and self-employment taxes together, it can end up saving a couple thousand in taxes if executed properly.

What Should I Do if this Fits my Business?

There are a few steps to follow if you would like to establish this plan, and executing it properly is paramount. To start, you should work with a financial planner or tax professional to determine if the plan is worth it. Secondly, you should work with an attorney to draft the resolution to make sure this plan is sound and compliant with the IRS. Next, work on a process to make sure each employee can be reasonably notified of the plan. Lastly, establish a process to track this and focus on the specific rules within the plan that will maximize the benefit for both employer & employees.

Conclusion

Being a business owner is no easy work. If you are a solo business owner, you often need to rely on other professionals to make sure you’re following the rules to both be compliant and maximize savings. Paying for college using Section 127 Plans is no different. In order to maximize the benefit, it’s worth reviewing if you think this is something you could be considering within your business, and if your child/children would be a fit. Make sure you contact a professional if you have questions.