IRS would strip schools of tax -exempt status for DEI violations

The Internal Revenue Service and Treasury Department Thursday issued proposed regulations to strip the tax exempt status of private schools "that engage in racial discrimination" by promoting diversity, equity and inclusion practices.

The rule would apply to private universities, colleges, secondary schools and trade schools that the IRS views as having discriminatory policies. The regulations would affect more than 18,000 institutions, the agencies said.

"Schools rebranding race-based preferences as equitable, inclusive, or diversity-enhancing does not change their discriminatory nature," said Treasury Secretary Scott Bessent in a press release announcing the rules. "Today's Treasury and IRS proposed regulations establish a clear standard, and the institutions that continue to use discriminatory practices will no longer receive the benefits of federal tax-exempt status."

Stripping the schools of their 501(c)(3) tax-exempt status would terminate their ability to issue tax-exempt municipal bonds, driving up their borrowing costs and limiting a significant corner of the muni market.

It would also potentially drive down donations, as donors would no longer benefit from the tax deduction, and that could mean lower endowments and eroded credit quality.

"This will have an impact on the schools' ability to finance construction projects and other improvement projects," said Adam Young, a partner at Fox Rothschild LLP, where he represents clients in federal, state and local tax controversies. "It would also appear to impact their ability to get donors to donate money."

The rule, if implemented, would take effect after May 2027, Young noted.

"There's a question of how far they could take that, whether the bonds that are still outstanding would lose their tax exemption," he said.

The move comes after President Trump issued an executive orders ending DEI practices at colleges and universities almost immediately after taking office. Last year, the administration threatened to yank Harvard University's tax-exempt status, causing the facility's gilt-edged debt to cheapen on the secondary market.

The proposed rule is set to be published Friday. A public comment period will follow.

"Private educational institutions that promote discriminatory practices will no longer be afforded the benefits of federal tax-exempt status," said IRS Chief Executive Officer Frank Bisignano. "Today's proposed regulations put institutions on notice and schools that continue to engage in racial discrimination should expect to lose that status."