5 pitfalls to avoid when it comes to your educational assistance benefit

One of the great things about educational assistance benefits is that they are highly-customizable and flexible; as an employer, you have the ability to tailor these benefit plans to meet your specific goals and needs. 

However, it’s important to remember that there are requirements that govern these programs and, if you’re not careful, you could go too far with customizations and accidentally cause your educational assistance program to fall out of compliance. If this happens, you may invalidate your program’s tax benefits and could potentially end up owing taxes on any educational assistance you provide or have already provided to employees. 

To help you avoid this scenario, we’ve put together a list of 5 pitfalls to be aware of when it comes to creating and managing your educational assistance benefit plan.

Pitfall #1: Favoring Highly Compensated Employees (HCEs).

You have a lot of flexibility when it comes to deciding your benefit plan’s eligibility criteria–which is fantastic, because it enables you to make a prescriptive, targeted, impact on your employees; on the flip side, if you’re not careful, your plan could inadvertently favor Highly Compensated Employees (HCEs). If this happens, your educational assistance benefit could fail non-discrimination testing and potentially lose its tax-free benefits.

Here’s a quick example of how this might happen: a specific department within your company employs a lot of employees with student debt but also has an extremely high churn rate. You decide you want to only offer employees within that department access to this benefit to help retention, so you add eligibility criteria tied to certain job titles or departments. Unfortunately, you didn’t realize that by establishing the title-based eligibility criteria, you limited the availability of your educational assistance benefit to a subset of employees who all made more than $150,000 in 2023 and excluded many employees who made less. Without meaning to, you established a benefit plan that favors HCEs.

When deciding on the eligibility criteria for your educational assistance benefit, be sure that your plan does not favor (or exclusively benefit) HCEs over the rest of your employee population.

Tips to avoid this pitfall: Aim for inclusivity over exclusivity when crafting your benefit plan eligibility criteria. 

Pitfall #2: Not limiting how much benefit participating owners receive.

As you disperse contributions for the year, be sure that any participating owners, (defined as persons who own more than 5% of the company’s stock, capital, or profit interests on any day of the year), do not receive more than 5% of the total annual benefit paid out. This includes spouses and dependents.

Unfortunately, this means that you can’t pay your student loans with tax-free benefit dollars through your business if you are a 1 person company and you can’t pay yours or your family’s student loans with tax-free benefit dollars if you run a company that only employs you, your partner, and your dependents. 

You can, however, contribute to your student loans tax-free as long as other non-owner employees are participating in the plan as well and you don’t receive more than 5% of the total annual benefit paid out. 

For example, if you have 10 employees who each receive $5000 in tax-free student loan contributions during the year, you can contribute up to $2,631 tax-free to your own loans that same year.  

Here’s a formula you can use to calculate the total owners match: Total Payout Owners = Total Payout Employees *(5/95)

‍Tips to avoid this pitfall: As the benefit enrollment may fluctuate month to month, you may want to monitor your company’s payouts for the year and consider making contributions to owners’ student loans on a different cadence to avoid overpayments.  

Pitfall #3: Forgetting the written plan. 

After you’ve done the hard work of coming up with a benefit budget and deciding on your eligibility criteria and plan rules, don’t forget to put your policy in writing! This is a requirement under IRC Section 127 and is a necessary step in order to provide tax-free educational assistance as a benefit to your employees. 

Once you have your written plan, keep it safely stored with your other personnel and benefit policy files for your company’s records and reference.

Tips to avoid this pitfall: Need some help putting your plan in writing? Download our free 127 plan template or speak with a member of our team today. 

Pitfall #4: Forcing an “either/or” choice between benefits.

This one’s important--in order to keep your educational assistance plan compliant, do not force employees to choose between receiving the educational assistance and another taxable benefit or form of compensation.

As tempting as it may be to allow employees to choose which benefits they want to be able to use, you cannot offer employees an “either-or” choice between receiving student loan repayments as a benefit and another benefit or form of compensation, and still provide the student loan repayment tax-free.

This means that if you want to make tax-free contributions to employee student loans: 

• You cannot provide employees with a set benefits stipend and make them choose between paying off their student loans or paying for pet insurance
• You cannot force employees to decide to either take advantage of a 401(k) match or a student loan repayment benefit
• You cannot give an employee the choice between enrolling in your student loan repayment benefit and receiving an equivalent raise

If you force a choice, you’ll have to pay both income and payroll taxes on your employer contributions. 

Tips to avoid this pitfall: Don’t force the choice. 

Pitfall #5: Reimbursing non-qualified expenses. 

When managing an educational assistance benefit, make sure that your tax-free benefit dollars are only paying for (or reimbursing any payments for) allowed expenses.

Generally, under an educational assistance benefit, employers can only offer tax-free assistance for qualified education expenses and qualified student loans. Unfortunately, this does not include payment for any courses or classes related to sports, games, or hobbies (unless it’s specifically related to your business–so sorry, mixology classes probably aren’t covered unless you’re running a bar.). 

Educational assistance generally does not cover payment for any courses or classes related to sports, games, or hobbies unless it’s specifically related to your business. 

As you review tuition assistance or reimbursement requests from employees, be sure to keep an eye out for any unqualified expenses.

Tips to avoid this pitfall: A benefit vendor like Highway can help you verify student loans and review claims for tuition reimbursement. Schedule a demo today to see how our platform works.

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If you have more questions about what’s allowed or not allowed when it comes to your educational assistance benefits, don’t hesitate to reach out! 

Our team of experts at Highway Benefits can help you establish fair plan rules that will meet your talent and budget goals while also remaining tax-compliant. Set up a call to get started.

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_{‍Disclaimer: This article is purely information and is not intended as financial or legal advice. For more in-depth questions related to US laws or the IRS Tax Code, we recommend you speak to a specialized attorney.}