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For Employers

Understanding Section 127 Plan: Your Guide to Making Smart Tax Choices

Because every penny counts when you're paying back student loans.

by Team Paidly
Aug 01, 2023 4 min read
Worker looking at Section 127 Plan Aiding Student Loan Repayment

Key Takeaways

  • Section 127 of the tax code provides opportunities for both employers and employees.
  • Knowledge and understanding of the Section 127 plan requirements can lead to significant financial benefits.
  • Higher earners, known as "Highly Compensated Employees," may face restrictions within Section 127 plans, but solutions exist.
  • Paidly helps employers seamlessly incorporate Section 127 benefits into payroll operations

What is the Section 127 Plan?

The Section 127 Plan is an official document detailing a company's Educational Assistance Program (EAP), providing a tax-free benefit that supports an employee's educational pursuits or student loan repayments up to $5,250 per year, overseen by United States Tax Law. An employer will provide this to all their employees.

sample section 127 plan call out

The Power of the Tax Code: Introduction to Section 127

Unbeknownst to many, Section 127 of the Internal Revenue Code offers a remarkable opportunity, particularly for those with student loan debt. Initially launched as part of the CARES Act, this specific section of the tax code opens the door for employers to contribute tax-free money, up to $5,250 a year, towards an employee's student loans.

Regularly reviewing tax law updates like this can make a significant difference in your financial future.

Requirements for Section 127 Programs

As an employer, before jumping into Section 127 plan formation, fulfill your responsibility of maintaining a written "Section 127 plan template." It ensures the program's legitimacy and presents a clear structure for participation.

The IRS calls for an equitable offering of benefits to your employees. On a basic level, ensure your program does not favor "Highly Compensated Employees" (more on this later) or their dependents, to the detriment of others.

Section 127 Requirements

Section 127 Rules and Requirements

Overall, Section 127 proves to be a great tool when understood correctly. The employer's contributions to the student loans of an employee under this program are tax-free if they do not exceed $5,250.

However, the program must meet the requirements of Section 127, such as a written plan and non-discriminatory offerings. Employers should keep these guidelines in mind to enjoy the full benefits available.

The Rules around Section 127 Plans

This provision allows employers to help their employees without facing tax liabilities. To reiterate, the plan should be in writing, provide reasonable notification of availability and its terms to eligible employees, and not provide more than 5% of its payments to shareholders, owners, or their dependents.

To comply with the IRS, verify that your Section 127 plan lets an appropriate segment of the workforce reap the rewards.

What is a "Highly Compensated Employee"?

In IRS terms, a "Highly Compensated Employee" is basically someone who:

  • Owned more than a small piece, specifically more than 5%, of a business in the current year or the year before. This is regardless of the actual money earned or received.

  • For the year before, got sizable earnings from the business, more than a certain limit which changes yearly. Here are the specifics: if we're talking about the year 2020 or 2021, they would have earned over $130,000; in 2022, over $135,000; and in 2023, over $150,000.

  • If the employer decides, the person could also be in the top fifth (or 20%) of all employees ranked by how much they're paid.

Essentially, the program should not disproportionately benefit these individuals. Detailed planning can ensure fairness and compliance with the tax code.

Who Are "Eligible Employees"?

Eligible employees aren't just the ones working presently in a company. This group also includes employees who retired, those who lost jobs, and those who can't work due to disabilities. Unfortunately, this doesn't include spouses or children of employees.

Let's talk about the cool benefits that come with being an eligible employee.

You know student loans? Well, these employees can get money back for payments they've already made. Or even better–payments can be made straight to the lender.

With the Section 127 program, other expenses related to education are also covered.

Thinking about joining a college or grad school program? Don't worry about the fees - it can be covered even if the course isn't related to your job. Plus, necessary school gear like books and equipment are also included. Do remember though; meals, lodging, transport costs, and supplies that you can keep after you finish aren't covered.

What is the IRS Section 127 Limit?

Section 127 of the Internal Revenue Code limit is only a tax-free limit of $5,250 annually. Employers can contribute more to their employees, but will be required to pay taxes beyond the tax-free limit.

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Educational Assistance Programs: Paidly Can Help

Paidly bridges the gap between the good intentions of employers and the financial realities of employees. By allowing employers to make supplemental payments to an employee's student loans, we help businesses leverage Section 127 to the benefit of all parties involved. Don't let a lack of knowledge cost you or your team. Reach out today and let's talk about student loan repayment benefits and section 127 plans.

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Talk to one of our team of experts that will answer any questions or provide you a demo.

Team Paidly

Team Paidly

Paidly is a Student Loan Repayment Benefit platform. Leveraging over a decade and a half of Fintech, student loan origination, and refinancing experience. Paidly specializes in creating custom student loan repayment benefit plans, designed specifically to allow employers to pay directly towards their employees' student loans. Paidly's system requires no integration and enhances talent attraction and employee retention.

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The information provided is of a general nature and an educational resource. It is not intended to provide advice or address the situation of any particular individual or entity. Any recipient shall be responsible for the use to which it puts this document. Paidly shall have no liability for the information provided. While care has been taken to produce this document, Paidly does not warrant, represent or guarantee the completeness, accuracy, adequacy, or fitness with respect to the information contained in this document. The information provided does not reflect new circumstances, or additional regulatory and legal changes. The issues addressed may have legal, financial, and health implications, and we recommend you speak to your legal, financial, and health advisors before acting on any of the information provided.

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