Many employers provide educational benefits for employees. Some of these benefits are for continuing education, to maintain professional licenses, or to gain new skills, credentials, or degrees to benefit both the employee and employer. Self-employed business owners also may be able to deduct education expenses.
Education expenses are legitimate business expenses. But there are still some qualifications that must be met before these expenses are fully deductible to your business.
This article looks at four questions:
- Which of these benefits are deductible as business expenses?
- Which of these benefits are taxable to employees?
- How do I report taxable benefits on an employee's W-2 form?
- How do I include deductible benefits in my business tax return?
Employee Taxes and Education Assistance Benefits
The IRS allows some fringe benefits to be excluded from employee pay and taxes. For all of these excluded benefits, including educational assistance, you don't have to withhold federal income tax and FICA tax for Social Security and Medicare (both the employee and employer portion). These excluded educational benefits aren't subject to federal unemployment (FUTA) tax.
In addition, to be excluded from employee pay, these benefits must meet certain conditions.
The exclusion is for education benefits you provide to employees up to $5,250 o benefits each year; anything over this amount is taxable to the employee. Educational expenses include books, tuition, and travel costs to and from school.
You must have a written Educational Assistance Program. The plan requirements include these restrictions:
- The plan cannot favor highly paid employees
- It can't provide more than 5% of benefits to shareholders or owners (or their spouses or dependents)
- Employees can't receive cash or other benefits instead of educational assistance
- You must give reasonable notice of the program to eligible employees
- The educational benefit must relate to your business
- The business use must be substantiated with records, even if you reimburse in cash
You can include yourself (as a sole proprietor) or yourself and your partners who perform services for a partnership in your educational assistance program. You can also include these people in your educational assistance program:
- Current employees
- Former employees who retired, left on a disability, or were laid off
- A leased employee who has provided services to your business on a substantially full-time basis for at least a year if the services were performed under your primary direction or control
As of the 2018 tax year and into the future, education tuition costs are no longer deductible to individuals on Schedule A of their personal tax returns.
Education Benefits Deductible to Your Business
The cost of continuing education credits for employees is included as an expense of your business if it meets these restrictions:
The educational course must not
- Be needed to meet the minimum educational requirements of the current job
- Qualify the employee for a new (different) trade or business
As usual with the IRS, this issue is complicated. See the IRS Employer's Fringe Benefit Guide for more information about qualification, limitations, and restrictions.
Independent contractors working for your business can be treated as employees for the purpose of this benefit. That means they may also exclude allowable education benefit expense payments from income. Their income would be reported on Form 1099-NEC (starting in 2019 and going forward).
Education Benefits As Working Condition Fringe Benefits
Another way to provide employees with education benefits without having them be taxable to the employee is to provide working condition benefits. This policy is for businesses that don't have an educational assistance plan or who provide education assistance over $5,250 in a year.
Working condition benefits are given to employees to help them do their jobs, including job-related education benefits. Degree programs usually don't qualify, because the employee should already have the degree necessary to do the job. To qualify as a working condition fringe benefit:
- The education must be required by the employer or by law for the employee to keep his or her present salary, status, or job. The required education must serve a bona fide business purpose of the employer.
- The education maintains or improves skills needed in the job.
Education Expenses for Self-employed Business Owners
As noted above, self-employed business owners can deduct costs for their education, subject to certain limitations in the same way as individual taxpayers. You are self-employed if you own a business that is not a corporation (this includes ownership of an LLC or partnership as well as a sole proprietorship).
To be deductible, you must be able to show that this education
- "Maintains or improves skills required in your present work."
- It is required by law or regulations for maintaining a license to practice, status, or job. For example, professionals can deduct costs for continuing education
Education expenses are not deductible if
- This education is needed to meet the minimum educational requirements of your present trade or business. For example, you can't deduct the cost of obtaining a license to practice if you don't already hold such a license.
- The education is part of a program of study that will qualify you for a new trade or business.
Where to Deduct Education Expenses on Your Business Tax Return
To deduct employee education expenses, use "Employee Benefit Programs" or similar line on your business tax return.
- For sole proprietors and single-member LLCs, show these expenses in the "Expenses" section of Schedule C.
- For partnerships and multiple-member LLCs, show these expenses in the "Deductions" section of Form 1065.
- For corporations, show these expenses in the "Deductions" section of Form 1120.
For More Information on Deducting Educational Expenses
For more information, see IRS Publication 970: Tax Benefits for Education, Chapter 12, Business Deduction for Work-Related Education.
This article about which employee benefits are taxable might also be helpful.
Disclaimer: This article presents general information but tax regulations change and every business situation is unique. Discuss your situation with your tax professional or employee benefits consultant.