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Student Loan Repayment Freeze Ending – What Options Can Employers Offer?
Student loan repayments were frozen for several years. The forbearance period has ended, and although many had hoped for an indefinite extension of the forbearance or partial or complete forgiveness of the federal student loan debt, that is not currently available. With all the other financial stresses on younger (typically the group with the most student loan debt) employees, restarting the repayment requirements will likely cause some serious concerns and anxiety. What can employers do to assist their employees?
Recent estimates of outstanding student loans put the figure at $1.8 trillion. How and why the figures are so large and if there is a “bad guy” in the story are complex societal questions. For decades, it was the undisputed truism that “everyone” would benefit from attending college and that they should do so in whatever way they could. Many millions did that by taking out student loans that were very easily available. Even though repayment issues have been popularized over the years, in the last dozen or so years, the outstanding levels of debt and a changing economy have made the accepted wisdom of college and its debt less compelling. With the onset of the pandemic lockdowns, furloughs, and layoffs, repayment of that debt took on an added crisis characterization. Two presidential administrations froze repayment and interest on the loans to provide the borrowers with some breathing room. The Biden administration attempted to wipe out much of the debt entirely but was overruled by the Supreme Court.
Although the administration is still attempting to figure out a way to ease the repayment of that debt (and has announced that approximately $9 billion of student debt was excused under the Public Service Loan Forgiveness program), payments are due to resume in October 2023. With the resumption, employers might expect their employees to resume their anxiety around that debt.
Employers have become much more cognizant of the overall financial well-being of their employees. Just like their employees’ physical well-being, employers are seeking options to address the issues that cause financial anxiety among their employees. In that vein, what options exist for employers to assist in the repayment of student loan debt to augment employees’ financial well-being?
Three Options Employers Should Consider to Assist Employees With Student Loan Repayments
1. Direct Cash Payments or Offsets of Other Perks – Employers can (and always have) pay their employees’ student loans or provide employees with the funds to do so. Any cash payment (or other value provided) from an employer is taxable income to the employees, unless there is a specific exclusion in the Internal Revenue Code (IRC).
Employers are free to provide as much or as little as they desire to employees for that purpose. Like all compensation, employers should be sure to communicate the program’s structure and any requirements or restrictions around such payments. Similarly, if the employer wants to structure the payment differently, such as in the form of a signing bonus (perhaps to attract new employees) or to permit employees to offset other benefits (such as unused vacation or PTO), they can do so.
Employers that choose to assist employees in this way are generally free to structure the programs in the way that best fits the culture and circumstances of the employer. Since the payments are not part of a tax-benefit program, there are no tax rules that must be followed, and employers have a significant amount of freedom to design their programs in a way that best fits the needs of their employees and those of the employer. (Of course, general labor and employment rules must still be followed, so the plans cannot discriminate against any groups and must comply with wage and hour laws.) For example, employers that want a net amount to be applied to the student loans can even consider grossing up the payments for the employees so that they can apply the full net amount of the payment toward their student loan payments.
2. Student Loan Payments Via a Qualified Educational Assistance Program – Qualified Educational Assistance Programs were adopted by Congress as part of the Coronavirus Aid, Relief, and Economic Security (CARES) Act in 2020. CARES expanded IRC Section 127, which permits employers to provide tax-free tuition reimbursement to employees of up to $5,250 annually to cover student loan repayments on a tax-free basis as well (up to the same limit). That expansion to student loans was extended through 2025 by the Coronavirus Response and Relief Supplemental Appropriations Act (CRRSA), which was incorporated into the Consolidated Appropriations Act, 2021.
Historically, employers were permitted to pay tuition for their employees on a tax-free basis for current coursework, but that tax benefit did not apply to student loan repayments. Congress expanded the tax benefit as one way to address the economic dislocation caused by the pandemic restrictions and expanded the exclusion for a time. Advocates are seeking to make this change permanent, but it is only available for the next 2+ years.
The tax-free nature of this benefit is likely very attractive to most employees with student debt, but the amount available tax-free is relatively modest given the size of the student debt issues for some employees. In addition, since it is part of the IRC 127 exclusion, any program for this process must meet the requirements of Section 127 (unlike straightforward cash repayments included in taxable income).
To qualify for the tax-favored treatment, a 127 plan must:
- Be part of a written plan that provides educational assistance to employees
- Not discriminate in favor of highly compensated employees or provide more than 5% of its benefits to shareholders or owners (including their spouses or dependents)
- Not permit employees to choose between cash or other taxable income in lieu of educational assistance (so it cannot be part of a cafeteria plan), and
- Provide reasonable notice of the program to eligible employees
Employers that already maintain educational assistance plans for current tuition reimbursement will not find those requirements difficult to meet. However, employers seeking to implement the tax-free loan repayment plan as part of a standalone 127 plan may not want to take on those obligations until they know this will not be a short-term option.
3. 401(k) Match Option – SECURE 2.0 Act of 2022 provides a new and unique option tying student debt repayment to employer 401(k) plans. Recognizing the difficulty of saving for retirement while still being burdened by student debt, Congress passed a new provision that is unique and forward-thinking. It permits employers to treat employees’ student loan repayments as though they were contributions to the employer’s 401(k) plan and, therefore, eligible for employer matching contributions into the 401(k). The loan repayments are not retirement plan contributions and are not directly subject to the normal 401(k) requirements, but the employer contributions are subject to the 401(k) rules.
However, the loan repayments are subject to additional requirements as specified in the law (regulations have yet to be adopted to clarify all the requirements). Some of the rules that the employer must consider are:
- The match can only be made for qualified student loan payments (QSLP).
- The match can be for any employee eligible to participate in the 401(k) plan, even if they are not participating.
- The debt must have been for the higher education expenses of the employee, the employee’s spouse, or a dependent of the employee (when the debt arose).
- The loan payments are capped at the annual deferral limits that apply to the plan and the individual, less any actual plan contributions ($22,500 in 2023 plus any catch-up contribution for employees 50 or older of $7,500 in 2023). Simple plans have an annual limit in 2023 of $15,500 plus a $3,500 catch-up.
- The loan payments will not count for plan testing or other requirements.
- The employee must certify annually that the QSLP has been made.
- Nondiscrimination testing and matching will be complicated due to the QSLP certification requirements.
- The match on the QSLP must mirror the regular match and vest at the same rate.
- Plans must be amended to take advantage of the QSLP match.
These new requirements may not be overwhelming for all employers, but if there was hope that the QSLP would be an easy way to assist employees, that might have been optimistic. Regulations may provide some guidance that makes the process easier.
Employers who want to aid employees struggling with student loans have options available. The easiest option is to make those payments on an after-tax basis. The other options will generally offer more tax benefits and, therefore, more value for the employees, but they will come with some additional administrative friction in their adoption.
This Legal Update is not intended to be exhaustive, nor should any discussion or opinion be construed as legal advice. Readers should contact legal counsel for legal advice. All rights reserved.