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Letter to IRS on Proposed Student FICA Regulations



May 21, 2004

Internal Revenue Service
CC:PA:LPD:PR (REG-156421-03)
Room 5703
PO Box 7604
Ben Franklin Station
Washington, DC  20044

Re:  Comments on IRS Notice of Proposed Rule Making Regarding Student FICA Exemption and IRS Notice 2004-12

Dear Sir/Madam:

On behalf of the National Association of College and University Business Officers (NACUBO) and the associations listed below, I am providing comments on the notice of proposed rulemaking (NPRM) published in the February 25 Federal Register and IRS Notice 2004-12, related to the student FICA exemption. NACUBO represents chief financial officers at more than 2,100 colleges and universities. Our association’s mission is to promote sound financial management and business administration at institutions of higher education.

Colleges and universities provide jobs for hundreds of thousands students on campus each year, giving students the opportunity to supplement financial aid, and in many instances, broadening the student experience to include training in their chosen fields of study, within the academic environment.

I. Overview
In 1998, following several years of inconsistent application of the student FICA exception to colleges and universities under examination, and a sustained effort on the part of the higher education community to garner clarification from the IRS on the topic, the publication of Revenue Procedure 98-16, 1998-1 C.B. 403 was well received and easily understood by colleges and universities. The safe harbors set forth in Rev. Proc. 98-16 provided the regulated community with a clear framework for application of the FICA exception for students working on campus.   Publication of the revenue procedure afforded colleges and universities the opportunity to approach the FICA exception from the same set of standards, as well as to invest in making the appropriate modifications to institutional payroll and enrollment systems to comport with the safe harbors.  Since that time, institutions have had a clear roadmap for application of the FICA exception to students employed by the institution without significant problems. 

We understand that in developing the proposed regulations, the Service was seeking to definitively exclude medical residents from the FICA exception. Rather than expressly doing so, however, the proposed rules set forth a vague and overly broad set of definitions that could exclude many graduate student workers as well as undergraduate students working on campus that were otherwise well within the safe harbors of Rev. Proc. 98-16.

The preamble states that concepts in the NPRM were adopted from existing Department of Labor (DOL) standards---broad, sweeping standards which are not remotely tailored to the particulars of student employment on campus, within the framework of an academic environment, which is the only employment the Service is addressing with the proposed rules on the student FICA exception.

We are gravely concerned that in an attempt to eliminate one category of readily defined student employees (medical residents) from the FICA exception, the Service has unintentionally rolled back the regulatory clarity and administrative practicality that was achieved by Rev. Proc. 98-16.

Furthermore, Treas. Reg. 31.3121((b)(10)-2(c), promulgated by the Treasury in 1956, specifically allows for a determination on the student FICA exemption to be made upon the basis of the relationship of the employee with the organization for which the services are performed and whether such services are incidental to pursuing a course of study at such college, school or university. While the preamble of the proposed regulations acknowledges that a facts and circumstances test would continue to apply, the actual wording of the regulations negates any practical application of the facts and circumstances test to graduate teaching and research assistants. There have been no changes to the statutory authority of Section 3121 that would justify abandoning the facts and circumstances test that has been relied upon for nearly 50 years.

The preamble states that Notice 2004-12, I.R.B. 2001-10 (March 8, 2004) revises Rev. Proc. 98-16 in limited ways and the background information on the proposed regulations and the notice states “generally, schools, colleges, and universities [SCUs] can continue to administer the student FICA exception as they have since 1998.” Unfortunately, however, the notice revises Rev. Proc. 98-16 in substantial ways that would significantly reduce the number of students eligible for the student FICA exemption. About 75 percent of institutions who responded to an informal poll we recently conducted indicated that the proposed rules, as written, will cause students who were previously exempt from FICA to become subject to FICA at their schools.

The following comments and recommendations will provide additional information on the problems created for higher education institutions by the proposed regulations.

II. Effective Date

NACUBO strongly urges the Service to reconsider the proposed, retroactive effective date of February 25, 2004. As the Service is aware, many higher education institutions are large organizations with complex accounting and information systems. Any change in the way that payroll taxes are calculated involves significant administrative modifications, including reprogramming systems and training staff to identify and gather the appropriate data when entering individual student employees into the payroll system.
The proposed effective date of February 25, 2004, also presents major budgeting problems for colleges and universities. Campus budgets have been set for the fiscal year on assumptions that student workers meeting the standards set forth in Rev. Proc. 98-16 would not be subject to FICA. Further, fringe benefit rates for employment funded by federal research grants are negotiated with the government based on forecasted payroll amounts that do not include FICA taxes for student employees.  At present, these rates at many institutions have already been negotiated for fiscal year 2005 on the basis that student employees would not be subject to FICA taxes.  By the time the Service publishes final regulations, a number of the students who were employed by an institution on February 25, 2004, may no longer be enrolled or employed at that institution. There would be no way to retroactively withhold FICA taxes from those individuals.

Because any retroactive date impacting payroll would be impracticable for institutions to implement, we strongly recommend that the effective date for the rules be no less than 180 days following publication of the final rules.  An effective date that reflects the Service’s understanding of how colleges and universities operate (for example, one coinciding with most institutions’ fiscal year) would provide a much easier and more efficient transition to the final regulations. For example, if final rules are issued prior to December 31, 2004, an effective date of July 1, 2005 would afford campuses sufficient time to implement required changes and would coincide with most institutions’ fiscal year (i.e., beginning July 1 and ending June 30th).
III. Definition of a Class

Section 31.3121(b)(10)-2 (d)(1) of the proposed rules defines a class as “an instructional activity led by a knowledgeable faculty member for identified students following an established curriculum.”  Many college courses are taught by instructors who are not faculty members of the institution. Students are often enrolled in classes taught by graduate teaching assistants or individuals experienced in the field, often referred to as “adjunct faculty” who are not members of the institution’s faculty.  To limit the definition of a class to only those activities conducted by a faculty member removes many of the classes taught at many institutions from the definition of a “class.”  We recommend that the final rules rephrase the definition of “class” to include an activity led by “a knowledgeable faculty member, graduate teaching assistant, adjunct faculty member, or other individual deemed qualified by the institution to teach the courses.”

IV. Career Employee Status

In sharp contrast to Rev. Proc. 98-16, the proposed regulations create an all or nothing approach to the classification of student employees.  If a student employee meets any of the criteria listed in the NPRM for a career employee, that individual becomes ineligible for the student FICA exemption.  If any one of these numerous criteria is satisfied, all facts and circumstances are ignored and the individual is deemed not to be a student employee.  This approach ignores the reality of the myriad arrangements that are in existence at the various institutions throughout the United States. A variety of facts and circumstances may cause a student to satisfy one of the “career employee” criteria in the NPRM even though the individual is regularly attending classes and the educational aspects of the student’s relationship with the institution clearly predominate over the service aspect of the relationship. If the Service genuinely anticipates that colleges and universities will, as the preamble states, “continue to administer the student FICA exception as they have since 1998,” NACUBO recommends that the stringent career employee test provisions be eliminated from the rules, or in the alternative, that the Service characterize those elements creating a safe harbor that can be overcome by the facts and circumstances of a particular situation. In addition, if the career employee status section is retained as a safe harbor it should be modified substantially, as further discussed below, to address the realties of student employment on campus. 

V. Professional Employees

The preamble indicates that the “professional employee” provisions have been adopted from existing DOL standards defining certain professional employees.  It appears that the Service has taken this approach in an effort to implement a method to exclude medical residents from the FICA exception, without specifically identifying medical residents in the NPRM. We believe that this implicit approach to excluding medical residents from the FICA exception has the unintended consequence of excluding a far broader class of student employees. The Service’s application of these broad standards inadvertently “splatters” the standard seemingly intended for medical residents onto several other categories of students. This scattershot approach is problematic for a number of reasons. 

The DOL standards apply to the vast universe of employment in the U.S., and are not remotely tailored to the unique employment environment that exists in the higher education community – the community that the Service seeks to address with or through these regulations.  Student employees on campuses throughout the country perform a variety of duties that cannot easily be divided into “blue collar” and “white collar” jobs.  An appreciable number of positions held by student workers would fall into the definition of professional employee under DOL guidelines.  Many student employees perform work that requires the exercise of discretion and judgment and/or advanced knowledge.  Typically, students will not be admitted into a graduate program unless they possess the “knowledge of an advanced type in a field of science or learning customarily acquired by a prolonged course of specialized intellectual instruction and study.”  Such work often is varied and does not produce standardized output.  Attempting to separate student employees into those that met the definition of “professional employee” and those that did not would create an administrative nightmare for most institutions.

For instance, Example 7 in the NPRM describes a teaching assistant who grades quizzes, provides class and laboratory instruction pursuant to a lesson plan developed by the professor, and prepares laboratory equipment for demonstrations. Although grading quizzes could require advanced knowledge in a particular field and may involve the exercise of discretion and judgment, the employee is considered a student.  The example is not illustrative of the real-world duties of many teaching assistants, and therefore raises troubling questions:  Would a teaching assistant who taught a class pursuant to a lesson plan that he or she developed be a professional employee and therefore not a student?  If the teaching assistant developed the quizzes and exams, would that make the teaching assistant a professional employee since such activity would involve discretion and judgment?  Under the direction of the professor and for purposes of academic training, the teaching assistant may be left to exercise professional judgment.  In that case, would a teaching assistant be deemed a professional employee?  Teaching assistants would have satisfied the elements of Rev. Proc. 98-16; however, under the proposed rules, depending on their duties, they may be “professional employees” ineligible for the student exception.

DOL regulations at 29 CFR 541.3, in defining a professional employee, specifically include “teaching, tutoring, instructing, or lecturing in the activity of imparting knowledge …” This clearly describes the activities of a teaching assistant at any college in the country.  The DOL professional employee definitions are not workable for institutions in terms of determining whether an individual is a student employee, nor were they intended to serve as such a standard. Further, we find no statutory authority suggesting that the type of work performed  by a student should determine the individual’s status as a student for purposes of  §3121(a)(10). 
Many student employees, particularly graduate students, perform research as part of their job duties as well as part of their course of study. Under the proposed regulations, a student worker performing research could easily fall into the definition of a professional employee.  For example, a graduate student in biochemistry working in a lab as a research assistant arguably performs duties that:

  • consist of performance of work requiring knowledge of an advanced type in a field of science…;
  • requires consistent exercise of discretion and judgment; and
  • is predominantly intellectual and varied in character.

As stated above, we perceive this provision to be the Service’s regulatory basis for excluding medical residents from the FICA exception. However, adoption of the professional employee standards set forth in the NPRM results in the erroneous exclusion of many thousands of student employees from the exception from FICA taxes.  The professional employee standard is overly broad, ill fitting, and not practically applicable to student employment on campus.  NACUBO recommends that the Service eliminate the professional employee standard.

VI. Hours Worked

According to the NPRM, any student worker who regularly performs services for forty hours a week or more will be considered a career employee, and therefore subject to FICA.  There is no support in the statute for a limitation on student employment based on hours worked.  Although not common, there are instances where students may hold more than one part-time job on campus and work a total of 40 hours per week while still maintaining status as a full-time student.  Students may also work 40 hours a week over breaks or during the summer.  The hours-worked provisions are also inappropriate for student employees who receive a stipend for their services because the students are paid for work performed over the course of the academic period (not on an hourly basis), so records of hours worked are not typically maintained.

Discerning hours worked is also problematic in student employment situations. For example, a graduate student may be employed and paid wages for her work as a research assistant to a professor. The compensation takes the form of a stipend paid to the student, based on work performed over the course of a semester. The same student will typically perform work on individual projects as part of her course of study, requiring her to be in the same laboratory where she performs her compensated work. During a semester, that research assistant may easily spend more than forty hours a week in the laboratory, performing both paid duties and her own projects for class.  

NACUBO recommends that the Service drop the “hours worked” criterion from the final rules. Alternatively, the provisions should only be retained as part of a safe harbor and modified to indicate that student worker has career employee status only if the employee is regularly being paid for performing services in excess of forty hours per week. 

VII. Terms of Employment

The proposed regulations provide that certain terms of employment automatically make a student employee ineligible for the student exemption. Colleges and universities, for a multitude of reasons, including in some cases state government employment policies, provide a number of opportunities and/or benefits to their student employees. No single factor should be sufficient to exclude a student the student employment exemption.

A. Eligibility to Participate in a 401(a) Retirement Plan

According to the NPRM, an individual will be deemed a career employee if he or she is eligible for retirement benefits in a plan qualified under IRC Section 401(a). This provision will create problems for state colleges and universities that must adhere to rules mandated by their states regarding options for students to participate in state retirement systems. 

For example, in the state of Ohio, every student employee at the more than 30 state institutions would be considered a career employee under the rules as proposed. Ohio Revised Code Section 145.03(A) makes participation in the Public Employees Retirement System of the state compulsory for all employees engaged in public employment. Section B of that statute gives students employed by state universities the option of electing to be exempted from compulsory participation. Although many students elect out, their eligibility to participate in the state retirement system makes them career employees, ineligible for the student FICA exemption, under the proposed regulations. This includes every student employed by all state universities in Ohio regardless of how many hours the student employee works each week. 

If this provision is not eliminated from the regulations, student employment opportunities at public higher education institutions will be drastically reduced.  It would be inequitable to deny the FICA exception to students at these state colleges and universities, when the public institution has no control or responsibility over the terms of the pension system in which they participate.   

NACUBO recommends that the Service drop the eligibility to participate in a 401(a) retirement plan criterion from the final rules.

B. Eligibility to Participate in Section 403(b) and 457(a) Retirement Plans

The proposed regulations automatically make any student employee a career employee if such student is eligible to participate in either a Section 403(b) or Section 457(a) retirement plan.  While few student workers have the financial means to participate in such plans, many institutions offer them the opportunity. Eliminating students from the FICA exception based solely on their eligibility for such deferred savings plans is unnecessary. While we believe it is unintended, this provision, like others in the NPRM, create unnecessary administrative burdens because they do not fit into the context of student employment. 

IRS Notice 89-23 permits colleges and universities to exclude employees who are students under 3121(b)(10) from the opportunity to participate in a 403(b) plan without creating nondiscrimination issues.  However, when student employees continue to work on campus during summers when they are not enrolled in classes they are no longer covered by the exclusion.  If the provision in the NPRM is retained, it will have the unintended consequence of forcing schools to open the opportunity for students to contribute to 403(b) plans during summers and other times when they are not enrolled in classes, but limit their opportunity to contribute to the 403(b) plan when the students are enrolled in classes.  Establishing such a “toggle switch” bureaucracy would not be in the best interest of any of the parties, and goes well beyond the Service’s intent in drafting these regulations to narrow the scope of the student FICA exception.

NACUBO recommends that the Service drop the provision subjecting student employees to FICA taxes on the basis of their eligibility to participate in a section 403(b) or section 457(a) plans.

C. Other Benefits

While many institutions do not permit student employees to participate in most of the benefits programs offered to their career employees, some provide benefits to student employees and others allow student employees to participate in benefit programs at their own expense. For example, one of our member institutions allows graduate students to participate in the state’s group benefit program that includes health, life, dental, accidental death and disability, long-term disability, short-term disability, and a Section 125 cafeteria plan.  Another member university allows graduate student employees to participate in the dependent care plan under Section 129.  Institutions of higher learning, in an effort to attract the best and the brightest students, should be afforded the flexibility to offer benefits without jeopardizing the FICA exception for these students.

In addition, some state laws and/or union contracts for graduate students require institutions to provide benefits.  Some colleges and universities offer sick leave, holidays, and/or vacation to certain student employees.  Others offer reduced tuition to students other than teaching or research assistants (e.g., resident advisors).  An institution’s compliance with laws and contracts, and the desire to provide some students with benefits should not sweepingly jeopardize the FICA exception for their student workers.  Participation by student employees in a benefit program should not, in and of itself, be sufficient to make a student employee ineligible for the FICA exception.  

NACUBO recommends that the Service remove from the final rules criteria that eliminate student employees’ eligibility from the FICA exception based on participation or eligibility for benefit programs.

VIII. Licensure Status

Under the proposed regulations, any student employee who is required to be licensed to perform the services that he or she is performing for the institution is not eligible for the exception. We are struck again by the glaring impracticality of such an overly broad criterion in the context of student employment on a college campus.  For example, under this provision a student employee with a commercial driver’s license, hired by the college’s bus service to drive a campus bus or hired to drive a van to an event, would not be eligible for the student FICA exemption.  There are many other examples too numerous to mention in which student employees would be magically transformed into career employees due to mere fact that their services require them to have some type of license.  NACUBO recommends that this provision be eliminated from the final regulations.   .

IX.  Conclusion

In their current form, the proposed regulations will make all students at many institutions ineligible for the student FICA exemption. These are not career or professional employees by any stretch of the imagination. By deeming these students “career employees,” the IRS will simply be reducing their paychecks and making it more expensive for colleges and universities to offer them employment.

Further, this dramatic change will primarily affect students who were covered by the safe harbor in the Revenue Procedure 98-16, directly contradicting the IRS’s claim in paragraph 49 of the proposed regulations that “in clarifying the regulations interpreting [the student FICA exemption], the IRS and Treasury fully intend to retain the safe harbor in the revenue procedure.”  In fact, the proposed regulations and proposed revenue procedure eliminate the Revenue Procedure 98-16 safe harbors. Due to the variety of situations on campuses across the country, no one factor should be permitted to eliminate a student from classification as a student employee under the exemption.

Considering the intense pressure institutions are under to control tuition increases, and in an environment of unprecedented drops in state support for higher education, the proposed regulations place yet another financial strain on colleges, universities, and students. NACUBO recommends that the proposed rules and revenue procedure be withdrawn, or modified as discussed above so that the vast majority of student employees continue to be eligible for the exemption provide by IRC section 3121(b)(10). 

We are grateful for the opportunity to provide comments and testimony on the proposed rules and look forward to presenting testimony at the public hearing scheduled for June 16th.  Joseph R. Irvine, tax counsel at The Ohio State University, will present NACUBO’s testimony at that time.  If you have any questions, please contact Mary M. Bachinger of my staff at 202.861.2581.


James E. Morley, Jr.
President and CEO

The following associations join NACUBO in this statement:

American Association of Collegiate Registrars and Admissions Officers
American Association of Community Colleges
American Association of State Colleges and Universities
American Council on Education
American Council of Jesuit Colleges and Universities
Association of American Universities
Council of Graduate Schools
Council on Governmental Relations
National Association of Graduate-Professional Students
National Association of Independent Colleges and Universities
National Association of State Universities and Land-Grant Colleges
National Association of Student Financial Aid Administrators