If you’re a small business owner trying to upskill your employees for current goals and future needs, you aren’t the only one. Over 63% of employers in the US are in the same boat as you. They all want to hire the best and the brightest employees and then give them the experience and education they need to perform in their roles.
What you’ll learn
What you’ll learn
Updated: February 6, 2025
Fast facts on how to utilize employer-paid education tax breaks
- You can pay for an employee’s education and get tax breaks for the education expenses.
- According to the Internal Revenue Code (IRC) Section 127, you can sponsor tax-free educational assistance programs for up to $5,250 per employee per year.
- The benefit allows your business to cover qualified expenses for an employee’s undergraduate or graduate education.
- You can overcome the $5,250 limit by utilizing work fringe benefits under IRC Section 132(d), which employees can deduct from their tax returns.
The good news is that although the initial cost might be limiting for small employers, sponsoring employees’ education can be a win-win for your business and employees. If administered correctly, employer-paid education expenses can be a business deduction and a tax-free benefit for your employee. More importantly, it can help you attract and retain top talent in your industry.
Understanding employer-sponsored education benefits
Understanding the tax breaks for education expenses paid by employers is almost as important as knowing how to leverage them. If you don’t understand the tax reliefs, you can’t take advantage of them or choose the best alternative for paying your employee expenses.
Tuition assistance vs. student loan repayment
Tuition assistance is an employee benefit under which a business covers part or all of the worker’s qualified education expenses for up to $5,250. With tuition assistance, your business pays for an employee’s education expenses upfront. These programs are widely accepted in the US, with 48% of US employers reporting that they offer tuition assistance.
On the flip side, the student loan repayment benefit is a temporary education assistance program that Congress extended in 2020 under the Consolidated Appropriations Act. Thanks to the extension, you can now offer tax-free student loan repayments.
The table below summarizes the comparison of tuition assistance and student loan repayment benefits.
| Aspect | Tuition assistance | Student loan repayment |
| Tax-free | Yes | Yes |
| Annual tax-free limit | $5,250 per employee | $5,250 per employee |
| Primary goal | Employee upskilling | Employee’s financial wellbeing |
| Qualification requirement | Employees must qualify under the employer’s plan | Employees must have qualifying student loans |
| Eligible expenses | Tuition fees, books, supplies, and equipment | Principal and interest payments on qualified higher education student loans |
| Permanency | A permanent feature of Section 127 | Temporary, expiring tax benefit in January 2026 |
Key legal considerations under Section 127
To offer tax-free educational help to your employees, you should consider key legal aspects under Section 127.
- You can exclude up to $5,250 per year per employee from taxable income for educational assistance. Beyond this limit, the excess educational assistance becomes taxable and subject to income and payroll taxes.
- For your educational assistance program to qualify for tax breaks, your business must draft a written plan that meets the IRC requirements. The plan should outline eligibility, benefits, and administration rules.
- Your business cannot fund the benefit through salary reduction — it must be separate from the employee’s wages. Reducing an employee’s salary creates tax complications as it implies that your employee is funding their own education.
Tax implications for employees
When you sponsor your employees’ education with up to $5,250 in a year, they won’t pay income tax on that money, and it won’t show up in their taxable income on their W-2. If you pay more than $5,250, the extra money is taxable.
Tax implications for employers
On your end, you can leverage the tax break of education benefits you offer to employees as a business expense. For the amount you exclude from your employee’s taxable income — up to $5,250 a year — you won’t pay:
- Social Security
- Medicare
- Federal unemployment (FUTA) taxes
These tax breaks reduce your overall payroll tax liability. Any amount exceeding $5,250 is taxable income for the employee. You’ll have to withhold income, Social Security, and Medicare taxes on the excess amount.
Now that we understand the benefits, let’s talk about some of the potential issues to guard against.
Common pitfalls to avoid
The flexibility of educational assistance benefits can be a double-edged sword. While highly customizable, the benefits are subject to IRS regulations. You want to be aware of the common pitfalls to maximize the benefits for you and your employees.
Pitfall one: Overlooking ownership limits for tax-free benefits
As you consider which employees to sponsor, ensure they don’t own more than 5% of your company stock, capital, or profit interest. Unfortunately, this means you can’t pay your student loan or fund your education with tax-free benefits through your business – if you’re the business owner.
Pitfall two: Making employees choose between benefits
To keep the educational assistance plan compliant, you can’t force employees to choose between receiving the educational assistance benefit and another tax-free benefit or form of compensation. When you make an employee choose between benefits, your educational assistance plan becomes taxable.
Pitfall three: Failing to have a written plan
Without a written plan, an educational assistance program doesn’t qualify for a tax break under IRC Section 127. After creating a sponsorship program budget and establishing your eligibility criteria, remember to write a policy.
Moving on, let’s find out more about how taking advantage of this credit can be a game changer for your organization.
Optimizing education benefits for organization growth
You can turn education benefits into a powerful tool for driving growth within your business. For instance, you can design the benefit programs to achieve the following positive outcomes:
- Attract top talent
- Increase retention
- Enhance employees’ skills
- Improve employee satisfaction and engagement
- Maintain upward trajectory for your business
However, to do so, there are some steps you should take.
Align educational benefits with your business goals
When offering benefits, ensure the education programs reskill or upskill employees to meet the high-demand roles in your business. For example, you can use the program to prepare employees for future roles or projects, such as rolling out a new product or expanding your geographic footprint.
Similarly, you can tailor sponsorships for advanced degrees or executive training programs to groom employees for future leadership. In the process, you can elevate performance and improve the probability of achieving strategic goals.
Utilize the working fringe benefits
While most tax breaks for employer-sponsored education are available via Section 127, you can also tap into the working fringe benefits under IRS Section 132(d). This code offers tax-free work fringe benefits for any business-related expense an employee can deduct on their tax return.
For instance, you can reimburse employees for business-related expenses, such as professional certification, continuing education courses, and licenses, as long as they are necessary for their current jobs. Unlike Section 127, which has an annual cap of $5,250, there is no limit to how much you can spend on an employee’s education under Section 132(d).
Use educational benefits as a retention tool
According to a study by LinkedIn, 94% of employees would stay at a company longer if it invests in their professional development. Another 70% of employees cite student debt as a major factor in their job decisions after graduation. Across the board, offering educational benefits can make your business more attractive to top talent. You can tie tuition reimbursement programs and student loan repayment benefits to tenure milestones and incentivize employees to stay longer.
Bottom line: Leveraging tax breaks for employee learning is worth a closer look
Providing employees with opportunities to learn new skills not only keeps your top performers engaged, but also drives meaningful growth for your company. Beyond offering an outlet for professional development, educational benefits represent a strategic investment in your organization’s long-term success. By understanding and leveraging available tax breaks, you can offset the costs of this investment while empowering your team to reach their full potential.
Best of luck as you grow your team and take your business to the next level.
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Jon Davis is the Sr. Content Marketing Manager at OnPay. He has over 15 years of experience writing for small and growing businesses. Jon lives and works in Atlanta.