Treasury and IRS Propose Rule Stripping Tax-Exempt Status From Schools That Use Race in Admissions or Scholarships

The Treasury Department and IRS proposed a rule Thursday, September 3, that would strip tax-exempt status from private schools, colleges and universities that consider race in admissions, scholarships, athletics or other policies. The proposal could affect as many as 18,000 institutions, according to Treasury and IRS estimates cited by the Associated Press.

The rule targets any benefit tied to a student's race, color, or national or ethnic origin. Schools could still help disadvantaged students using race-neutral criteria like family income, hardship or academic achievement, according to the proposal.

Treasury Secretary Scott Bessent framed the move as closing a loophole. "Schools rebranding race-based preferences as equitable, inclusive, or diversity-enhancing does not change their discriminatory nature," Bessent said in a written statement. "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."

How This Fits the Bigger Push

The administration has spent the past year using civil rights law to dismantle DEI infrastructure on campuses following the Supreme Court's 2023 ruling banning race-conscious college admissions, according to the Associated Press. Federal officials have opened investigations into several medical schools over alleged discrimination against white and Asian applicants, and dozens of universities have already shut down or renamed their DEI offices under pressure.

The administration also threatened Harvard University's tax-exempt status last year during its standoff with the school. Harvard officials pushed back at the time, arguing there was no legal basis for the threat and that losing the exemption would force cuts to financial aid and medical research, the Associated Press reported. That dispute illustrates the practical stakes: tax-exempt status saves major universities millions of dollars annually, and losing it doesn't just hit endowments, it can hit financial aid packages for low-income students who have nothing to do with race-based programs.

The legal precedent here is narrow but real. The IRS stripped Bob Jones University of its tax exemption in the 1970s over a ban on interracial dating and marriage, and the Supreme Court upheld that decision. The school ended the ban and got its exemption back in 2017. That's the only major precedent for the government pulling tax-exempt status over a school's internal policies, and it involved an explicit, intentional racial restriction, not the more contested question of whether diversity, equity and inclusion programs count as "discrimination" under the law.

Federal law bars the IRS from targeting organizations for ideological reasons, and officials aren't allowed to personally direct IRS investigations, according to the Associated Press. That safeguard was cited by critics of past IRS controversies, and it will matter if this rule faces legal challenges over whether it's being applied as viewpoint-based punishment or as neutral enforcement of a nondiscrimination standard.

The proposal isn't final. It's subject to a public comment period, and if it goes through as written, it wouldn't take effect until after May 2027, according to Treasury and IRS filings reported by the Associated Press.

The Discipline and School Choice Pieces

The rule lands amid a broader education agenda. On Tuesday, September 1, the Department of Education's Office for Civil Rights issued guidance ending Obama-era discipline policies that flagged racial disparities in suspension rates as potential Title VI violations, according to the Daily Signal. Assistant Secretary Kimberly Richey said the office would now "vigorously enforce Title VI to ensure that schools' disciplinary systems are neutral and fair." The department simultaneously opened civil rights investigations into two school districts over alleged race-based discipline practices, though the Daily Signal did not name which districts.

On Monday, August 31, President Trump used a Rose Garden event with Education Secretary Linda McMahon to promote school choice, touting the Education Freedom Tax Credit, up to $1,700 for donations to scholarship organizations starting in 2027, and a doubled 529 savings plan withdrawal limit of $20,000 a year for K-12 expenses, according to Fox News. The White House says nearly 52 million students could qualify.

What's unresolved is how sweeping the tax-exemption rule ends up being in practice. The proposal's language about programs that are "incompatible" with nondiscrimination could reach far beyond formal DEI offices into scholarship funds, cultural clubs and diversity-focused financial aid that schools argue serve a race-neutral purpose even when framed around historically underserved groups. That fight, over where legitimate need-based aid ends and race-based preference begins, will play out during the public comment period and, almost certainly, in court.