PLR 1029003: The IRS approved two tuition-reduction plans as tax-free benefits

Plain-English summary

The IRS concluded that an educational organization’s two tuition-reduction plans qualified for exclusion from employees’ gross income under IRC § 117(d). Plan A covered eligible children of full-time, benefits-eligible employees at the organization, while Plan B covered certain faculty, administrators, and other eligible employees for tuition at another qualifying educational institution. The IRS found that the plans did not discriminate in favor of highly compensated employees, including because Plan A covered a broader group and Plan B’s eligibility criteria appeared tied to bona fide business and educational considerations. The ruling also concluded that the benefits were not wages subject to specified income-tax, FICA, or FUTA withholding and reporting requirements.

Ruling snapshot

• Question: Were the organization’s Plan A and Plan B tuition benefits qualified tuition reductions that could be excluded from employees’ income?
• Outcome: approved
• Key authorities: IRC §§ 117(d), 132(h), 170(b)(1)(A)(ii), 3102, 3301, 3401, 3402, 410(b), 414(q), 6041, and 6110(k)(3); Treas. Reg. § 1.410(b)-4

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201029003
Release Date: 7/23/2010
Index Numbers: 117.06-00, 117.06-05

                                                           Person To Contact:

-------------------------------------------- ----------------, ID No. ------------
-------------------------------------- Telephone Number:
------------------------------------- ---------------------
Refer Reply To:
Attention: ------------------------ CC:ITA:BR05 – PLR-103676-10
------------------------------------------------------------ Date:
-- April 15, 2010

     LEGEND:

           X (Taxpayer) = -------------------------------------------------------------------------
     -----------------------------------------------------------------------------------------------------------
          EIN                     = ----------------
           Y                     = ---------------------------------------

     Amounts:
        m                        = -------
        n                        = -------
        o                        = -------
        p                        = -----
        q                        = -------
        r                        = -------
        s                        = -------
        t                        = ----- -----

     Date 1                      =     --------------------------

Dear ------------:

    This is in response to your authorized representatives’ letters and submissions of

January 14, 2010, in which they requested on your behalf rulings under section 117(d)
of the Internal Revenue Code of 1986 (Code) regarding the proper federal income tax
treatment of certain tuition reduction benefits provided by you, X, (sometimes referred to
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herein as the Taxpayer) under X’s tuition reduction program (the "Program"), more
fully described below. We are pleased to address your concerns.

FACTS

   The information submitted indicates that X is an educational organization

described in section 170(b)(1)(A)(ii) of the Code, providing both undergraduate and
graduate-level education.

   The purpose of X’s tuition reduction Program is to assist faculty and staff with the

cost of providing undergraduate college education for their children. The Program, as
amended, consists of two component plans: “Plan A,” a tuition exemption program for
children of employees, and “Plan B,” a tuition scholarship program. Plan A is available
with respect to the eligible children of all full-time, benefits-eligible employees of X
(which includes faculty and staff employees), provided the eligible children are selected
through normal admissions processes to attend X, and maintain standards of
scholarship and conduct considered satisfactory to X’s deans. Plan A provides a
benefit of 100% of X’s tuition.

   Plan B is available to tenured faculty members, associate professors, assistant

professors, members of X’s administrative council and other administrative officers,
certain employees of Y, and certain upper-level management employees. Plan B
provides tuition reduction benefits with respect to studies of eligible children outside of
X, at another section 170(b)(1)(A)(ii) higher-educational institution. The benefit is equal
to 50% of the actual tuition and academic fees charged by the other school, not to
exceed 50% of X’s current tuition. Certain other benefit limitations apply under Plan B.

    As of Date 1, X, including affiliates controlled by X, employed approximately m

employees (excluding those who have failed to complete a year of service); n of these
are highly compensated nonexcludable employees, of which o are eligible to participate
in the Program. All o Program-eligible highly compensated employees are eligible to
participate in Plan A; p are eligible to participate in Plan B. X employs approximately q
non-highly compensated nonexcludable employees (NHCEs); r of these are eligible to
participate in the Program: s in Plan A and t in Plan B.

LAW AND ANALYSIS

   Generally, amounts paid to or for the benefit of employees are presumptively

compensatory in nature, and ordinarily includible in gross income as wages. Section
117(d)(1) of the Internal Revenue Code, however, provides a special rule in the case of
a Aqualified tuition reduction@: section 117(d)(1) provides that gross income shall not
include any Aqualified tuition reduction@.

   Section 117(d)(2) defines a Aqualified tuition reduction@ as the amount of any

reduction in tuition provided to any employee of a section 170(b)(1)(A)(ii) educational
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organization for the education (below the graduate level) at such organization (or
another organization described in section 170(b)(1)(A)(ii)), of (A) such employee, or (B)
any person treated as an employee (or whose use is treated as an employee use)
under the rules of section 132(h). Section 132(h) refers, generally, to spouses and
dependent children of employees.

    Section 170(b)(1)(A)(ii) describes an educational organization as one which

normally maintains a regular faculty and curriculum and normally has a regular enrolled
body of pupils or students in attendance at the place where its education activities are
regularly carried on. An entity described in sections 170(c)(1) or (2) of the Code, or an
institution that is operated as an activity or function of such an entity, may qualify as an
Aeducational organization@ described in section 170(b)(1)(A)(ii) for purposes of section
117(d).

   Except for the case of certain graduate teaching and research assistants, the

exclusion from income provided by section 117(d) is limited to education Abelow the
graduate level.@ Section 117(d)(5)[4] provides an exception for individuals who are
graduate students at the employing institution and who are engaged in providing
teaching or research activities for that educational institution.

    Section 117(d)(3) of the Code provides that the exclusion from income of a

qualified tuition reduction will apply to highly compensated employees only if such
reduction is available on substantially the same terms to each member of a group of
employees which is defined under a reasonable classification set up by the employer
which does not discriminate in favor of highly compensated employees (within the
meaning of section 414(q)).

   Section 1.410(b)-4 of the Income Tax Regulations generally provides the test for

determining whether a classification is reasonable and nondiscriminatory. That test has
two parts: (1) section 1.410(b)-4(b), requiring that a classification established by an
employer for its employees be reasonable; and (2) section 1.410(b)-4(c), requiring that
a plan pass an objective test to assure that the reasonable classification is
nondiscriminatory. The objective test has a safe harbor, an unsafe harbor, and a "facts
and circumstances" test for situations falling between the safe and unsafe harbors. The
test applies with respect to the minimum coverage rules of Code section 410(b) and
may be incorporated into Code section 117(d), taking into account the differences
between a qualified retirement plan and a qualified tuition reduction plan. Nonetheless,
although section 117(d)(3) prohibits discrimination in favor of highly compensated
employees described in section 414(q), there is no specific language in section 117(d)
mandating that the same coverage tests applicable under section 410 are also
applicable under section 117(d). Thus, the determination of whether a tuition reduction
plan in fact discriminates in favor of highly compensated employees for purposes of
section 117(d)(3), is made based upon an analysis of all relevant facts and
circumstances.
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    Section 1.410(b)-4(b) of the Regulations provides that a classification will be

reasonable if, based on all of the facts and circumstances, the classification is
reasonable and established under objective business criteria that identify the category
of employees who benefit under the plan. Reasonable classifications include specified
job categories, nature of compensation (i.e., salaried or hourly), geographic location,
and other similar bona fide business criteria. The House Ways and Means Committee
Report on the Deficit Reduction Act of 1984, H.R. Rep. No. 98-432, Part 2, 98th Cong.,
2d Sess. 1606 (1984), provides additional examples of reasonable classifications. The
report explains that an employer could establish a classification based on such factors
as seniority, full-time vs. part-time employment, or job description, provided that the
classification is nondiscriminatory.

    In the instant case, Plan A satisfies the "reasonable classification" of employees

test of section 117(d)(3). Pending the adoption of Temporary or Final regulations
providing differently, Plan B will also be treated as satisfying the "reasonable
classification" of employees test of that section.

      Plan A satisfies the "safe harbor" test, and does not discriminate in favor of

highly compensated employees. Plan B falls below the unsafe harbor percentages;
thus, whether that plan is discriminatory for purposes of section 117(d)(3) is determined
based on all relevant facts and circumstances. Based on the consideration that X
maintains as well, as a part of its overall tuition reduction benefits Program, Plan A,
which plan is available to a much larger cross-section of its workforce, including
significant number of non-highly compensated employees, and the fact that the different
eligibility criteria for Plans A and B appear to be grounded in bona fide business and
educational considerations not related to compensation, we conclude that Plan B will be
treated as not discriminating in favor of highly compensated employees. Thus, X's
tuition reduction Program consisting of Plans A and B satisfies the prohibition against
discrimination in favor of highly compensated employees as described in section
117(d)(3) of the Code.

CONCLUSION

    Based on the information provided and representations furnished, we have

determined that the described tuition reduction benefits provided under the Taxpayer=s
tuition reduction Program, consisting of both Plan A and Plan B, to employees (within
the meaning of section 117(d)(2) of the Code) of the Taxpayer for the education below
the graduate level of such persons at X or at any other educational institution described
in section 170(b)(1)(A)(ii), are excludable from the gross incomes of such employees
under section 117(d)(1) of the Internal Revenue Code as Aqualified tuition reductions.@

    Accordingly, the value of the described tuition reduction benefits granted under

X's tuition reduction Program to employees (within the meaning of section 117(d)(2) of
the Code) of the Taxpayer for the education below the graduate level of such
individuals does not constitute "wages" for purposes of section 3401(a). Additionally,
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such amounts are not subject to section 3402 (relating to withholding for income taxes
at source), section 3102 (relating to withholding under the Federal Insurance
Contribution Act (FICA)), or section 3301 (relating to the Federal Unemployment Tax
Act (FUTA)). X is not required to file Forms W-2, or any returns of information under
section 6041, with respect to such payments or remissions.
This letter ruling is based on the facts and representations provided by the
Taxpayer and its authorized representatives, and is limited to the matters specifically
addressed. No opinion is expressed as to the tax treatment of the transactions
considered herein under the provisions of any other sections of the Code or regulations
which may be applicable thereto, or the tax treatment of any conditions existing at the
time of, or effects resulting from, such transactions which are not specifically addressed
herein.

    Temporary or Final regulations pertaining to one or more of the issues addressed

in this ruling have not yet been adopted. Therefore, this ruling may be modified or
revoked by adoption of final regulations, to the extent the regulations are inconsistent
with any conclusions in this ruling. See section 11.04 of Rev. Proc.
2010-1, 2010-1 I.R.B. 1, at 49. However, when the criteria in section 11.06 of Rev.
Proc. 2010-1 are satisfied, a ruling is not revoked or modified retroactively, except in
rare or unusual circumstances.

  Because it could help resolve federal tax issues, a copy of this letter ruling should

be maintained with X's permanent records.

    Pursuant to a power of attorney currently on file with this office, copies of this

letter are being sent to X's designated authorized representatives.

    This ruling is directed only to the taxpayer who requested it. Section 6110(k)(3)

of the Internal Revenue Code provides that it may not be used or cited as precedent.

                                       Sincerely yours,

                                       /s/ William A. Jackson

                                       ___________________________
                                       William A. Jackson
                                       Chief, Branch 5
                                       Office of Associate Chief Counsel
                                       (Income Tax and Accounting)

Enclosures:
Copy of this letter
Copy for section 6110 purposes