IRS tax plan threatens private college finances, Moody's

A proposal from the Trump administration to revoke the tax-exempt status of private nonprofit colleges over their diversity efforts could bring steep financial consequences, according to a new report from Moody's Ratings. The ratings agency's analysts said widespread loss of tax status is unlikely, assuming most colleges would try to comply, but even compliance could raise legal and operational costs.

Moody's did not provide detailed cost estimates, but the report is clear the change would be financially negative for the sector. The U.S. Department of Treasury proposed the rule earlier this month. If adopted, it would revoke a roughly 50-year-old IRS policy that allows colleges to favor racial minority groups in programming and financial aid if it supports the institution's nondiscriminatory student policy.

Philanthropic funding at risk

The most significant potential cost is the loss of philanthropic dollars. For the institutions rated by Moody's, gifts represented 6.6% of gift revenue in fiscal 2025. Donors would likely move their giving to other tax-exempt organizations to preserve their own tax write-offs if a college lost its status.

Analysts said philanthropic gifts are a vital source of capital funding for new academic, residential and athletic facilities. A decrease in large gifts for such projects could further stress institutional balance sheets and debt capacity. "Philanthropic gifts are also a vital source of capital funding for new academic, residential and athletic facilities across higher education," the analysts noted.

Debt and compliance costs

Colleges that lost tax-exempt status would also face much higher costs for borrowing. They would lose the ability to issue tax-exempt bonds and would have to rely on more expensive taxable debt. Moody's analysts warned this could add millions in debt service costs over the long term.

"An entity could ultimately have to absorb millions in additional debt service costs over the long term given the higher cost of capital of taxable debt," the report stated. The potential federal tax bills colleges might face were described as "somewhat uncertain" and would vary dramatically among institutions.

Legal and political challenges

The Moody's report predicts a legal challenge to any final rule, pointing to past successful lawsuits against Trump administration policies on research funding and anti-DEI guidance. Frank Bisignano, head of the IRS, said the proposal puts institutions on notice. "Today’s proposed regulations put institutions on notice and schools that continue to engage in racial discrimination should expect to lose that status," he said.

The Treasury is taking public comments on the proposal into early November before issuing a final rule, which is expected to go into effect in June. Fearing the regulations could become a tool to target politically disfavored colleges, two House Democrats introduced a bill to create additional due process procedures for IRS investigations.

The proposed legislation would require the IRS to document evidence against a college before launching an investigation and would bar probes based on a college's curriculum or ideological positions. It covers public colleges, private nonprofits, and their affiliated foundations and endowments.