The Treasury Department and IRS released proposed regulations that would deny 501(c)(3) tax-exempt status to any private school that “adopts, maintains, or enforces” a policy discriminating on the basis of race, color, or national or ethnic origin, including policies designed to benefit minority students.
The proposed rule focuses on admissions, scholarships, student loans, athletics, and every other school-administered program. The agencies estimate it could affect as many as 18,000 private schools and roughly 750,000 students who may qualify for race-based scholarships. This is happening as the Trump Administration is pushing back against race-conscious education policy.
“Schools rebranding race-based preferences as equitable, inclusive, or diversity-enhancing does not change their discriminatory nature,” Treasury Secretary Scott Bessent said in the announcement, first reported by the Daily Caller.
The regulations would apply to taxable years beginning after May 31, 2027, which the IRS says gives schools time to rewrite policies. This makes sense after the policy debate that came when the administration tried revoking Harvard’s tax-exempt status in 2025.
Would you like to save this?
We'll email this article to you, so you can come back to it later!
Why It Matters
Tax-exempt status is the financial foundation of private education: exempt schools pay no federal income tax and their donors get charitable deductions. This proposal is a big deal because it would end this practice.
Since 1975, IRS guidance (Rev. Proc. 75-50) explicitly stated that scholarships and programs favoring racial minority groups did not threaten a school’s tax exempt status. The proposed rule deletes that language and defines discrimination to include race-based decisions made “for any purpose”. That reverses how schools have structured minority-targeted financial aid for 50 years, along with other diversity practices.
Schools can keep helping disadvantaged students, but only through race-neutral criteria: family income, geography, first-generation status, hardship, military family status, or academic merit.
Treasury estimates only about 16% of scholarship dollars sit in donor-restricted endowments, meaning most schools have the ability to update their eligibility rules.
The Details
- A new regulation (§1.501(c)(3)-2) would cover private K-12 schools, colleges, universities, and professional and trade schools but not government-run institutions.
- The rule applies to taxable years beginning after May 31, 2027, with final regulations expected before that date.
- Religious schools keep a carve-out: selecting students based on religious affiliation remains permitted, so long as the criteria are religious rather than ethnic.
- Race-neutral pathways to expand opportunity are expressly allowed.
- Public comments are due 60 days after the September 4 Federal Register publication, with a hearing if requested in writing.
The Legal Fight Ahead
Expect this rule to be challenged in court almost immediately after finalization, with a myriad of organizations filing prospective lawsuits. Here’s the simple version of why.
The IRS’s power to take away a school’s tax exemption over race comes from one Supreme Court case: Bob Jones University v. United States (1983). That case was about schools that banned interracial dating and kept Black students out and the Court said schools shutting students out because of their race can’t call themselves charities.
This new rule targets something different: scholarships designed to help minority students get in. The Supreme Court has never said those programs break the rules, so schools will argue the IRS is using a 40-year-old case about segregation to attack programs that do the opposite of segregation. It’s the same aggressive posture behind the government’s renewed case against Harvard over race in admissions.
There’s a second issue as well: when the Supreme Court ended affirmative action in Students for Fair Admissions v. Harvard (2023), that ruling only covered schools that take federal money or are run by the government. Some private K-12 schools take zero federal dollars, so it doesn’t automatically apply to them. You can’t mix non-profit status with this ruling about federal financial aid dollars.
Congress never passed a law saying these schools lose their tax break either. The IRS is trying to do it on its own through a regulation. That’s harder than it used to be, because the Supreme Court ruled in Loper Bright v. Raimondo (2024) that judges no longer have to accept an agency’s reading of an unclear law. If the IRS’s interpretation is a stretch, courts can simply say no. This is the same issue student loan borrowers can relate too – the SAVE plan was deemed to be a stretch since it was done via rulemaking rather than Congress passing a law. The end result was years of legal battles that ultimately resulted in the end of SAVE.
Likely challengers include schools, donors who funded race-based scholarships, and civil rights groups.
How This Connects
This is the tax-code version of the pressure campaign the administration has run through other agencies. We’ve seen this in other areas like the Justice Department findings against George Washington’s medical school admissions.
For families, the stakes are practical: private college education is expensive (tuition tops $72,000 at the priciest colleges) and race-based scholarships have historically been one tool for closing that gap. Families paying K-12 private tuition, including those using 529 plans for elementary and high school, should watch whether their school’s aid programs change eligibility criteria over the next year.
What’s Next
Comments are due by November 3, 2026 via Regulations.gov (docket REG-119986-25), and Treasury expects to finalize the rules before May 31, 2027.
Watch for three signals: whether major independent school associations request a public hearing, whether schools preemptively convert race-based scholarships to income-based criteria (as many did after SFFA), and where the first lawsuit gets filed once the rule is final.
Given how quickly other education rules have drawn injunctions (like the court order blocking CFPB staffing cuts) a legal stay before the 2027 effective date is a real possibility.
Editor: Colin Graves
Robert Farrington is the founder of The College Investor and is widely recognized as one of the nation’s leading voices on student loan debt and saving for college. He holds an MBA from UC San Diego Rady School of Management and has spent over 15 years researching, writing, and advising on student loans, 529 plans, financial aid programs, and saving and investing for young professionals.
Robert has been featured in the The New York Times, The Wall Street Journal, The Washington Post, NBC News, and Forbes, where he has been a regular personal finance contributor for over a decade. His work combines both professional expertise and personal experience – he successfully navigated his own student loan repayment journey and has helped thousands of readers do the same.
He is committed to making the intersection of personal finance and education transparent and accessible. You can learn more about Robert on the About Page or on his personal site RobertFarrington.com.