IRS Puts Private Schools on Notice: Race-Based Policies Risk Tax-Exempt Status

Private schools, colleges, and universities have a new reason to review their admissions, scholarship, athletic, and other student programs: their federal tax-exempt status may be on the line.

On September 3, 2026, the Department of the Treasury and the Internal Revenue Service announced proposed regulations that would make a private school ineligible for tax-exempt status under Section 501(c)(3) of the Internal Revenue Code if it discriminates on the basis of race, color, or national or ethnic origin in administering school policies or programs.

The proposal is significant not simply because it addresses race-conscious educational policies. It puts the IRS, and the risk of losing federal tax exemption, into an area already facing heightened legal and regulatory scrutiny and creates challenges at the intersection of tax law and employment law that institutions will need to navigate carefully.

The Treasury and the IRS estimate that approximately 18,000 private educational institutions could be affected.

The Current State of the Law

The IRS’ authority to condition tax-exempt status on racial nondiscrimination dates to 1971, when Revenue Ruling 71-447 concluded that a racially discriminatory private school could not qualify as "charitable" under Section 501(c)(3), a position the Supreme Court affirmed in 1983 in Bob Jones University v. United States. The IRS later issued revenue procedures, most notably Revenue Procedure 75-50, requiring private schools to publicize nondiscrimination statements, maintain enrollment and faculty records, and certify compliance annually through Schedule E of Form 990 or Form 5578.

Critically, existing guidance permitted, or at least did not prohibit, programs that favored racial minority groups. A school could maintain race-conscious scholarships or diversity-focused admissions criteria without jeopardizing its tax-exempt status, provided it did not discriminate against minority students. The framework distinguished exclusionary discrimination from affirmative consideration of race.

What the Proposed Rule Changes

The proposed regulation eliminates that distinction. In other words, under the new framework, any use of race, regardless of direction or purpose, will disqualify a school from tax-exempt status. Thus, any race-based preference or exclusion — such as race-restricted scholarships, diversity-focused admissions preferences, or other programs benefiting historically disadvantaged minorities — jeopardizes an organization’s tax-exempt status under Section 501(c)(3).

The proposed rule also broadens the scope of what is covered, reaching beyond admissions to scholarships, financial aid, athletics, educational policies, and "any other school-administered or school-supported program." The IRS cites Brown v. Board of Education, Bob Jones, and the Supreme Court's 2023 decision in Students for Fair Admissions Inc. v. President and Fellows of Harvard College as the legal foundation for what it describes as a "uniform nondiscrimination standard."

The IRS expects to finalize the regulations before May 31, 2027, with the rules applying to taxable years beginning after that date. The proposed regulations remain subject to review, especially comments from exempt organizations and their advisers, so the precise scope and effect of the new “uniform nondiscrimination standard” remains unknown.

Scholarships and Employment Considerations

The reach of the proposed rule extends well beyond admissions. The proposed regulations expressly cover scholarships and financial aid, athletics, educational policies, and other school-supported programs.

Race-conscious scholarships deserve particular attention. The Treasury and the IRS acknowledged that schools may need to revise eligibility criteria for scholarships currently restricted by race, ethnicity, or national origin, and suggest race-neutral criteria schools could adopt to keep directing assistance toward disadvantaged students. But modifying donor-restricted scholarships and other funded race-conscious programs is not straightforward. Under existing law, exempt organizations generally cannot unilaterally change donor-imposed restrictions — either donor consent or judicial intervention is a necessary precondition to any such modification.

Institutions should also weigh the employment law implications of modifying or eliminating DEI-related programs. Changes to hiring practices, employee resource groups, and training must be managed carefully to avoid claims under Title VII and state anti-discrimination statutes. Faculty and staff whose contracts reference DEI-related duties may raise breach of contract or academic freedom concerns, a risk especially acute in higher education given tenure protections and collective bargaining agreements.

Why Schools Should Start Reviewing Policies Now

These are proposed regulations, not final rules, and the IRS expects to finalize the regulations before May 31, 2027. As currently drafted, the rules would apply to taxable years beginning after that date.

But waiting for final regulations may leave institutions scrambling. Private schools already make annual representations to the IRS concerning racial nondiscrimination through Schedule E of Form 990 or Form 5578, and existing law requires them to publicize nondiscriminatory policies, maintain records of minority student and faculty participation, and certify compliance through these filings.

Compliance, then, is not just a matter of drafting the right policy. If enforcement follows the new rule, the IRS will look beyond an institution’s nondiscrimination statement to how its programs actually operate.

Institutions should consider an attorney-client privileged review that includes:

• Admissions policies and practices, including written criteria and internal guidance;
• Race-conscious scholarships, grants, financial aid, and donor-restricted funds;
• Athletic programs and opportunities;
• DEI and other student programs that use race, ethnicity, or national origin as an eligibility or selection criterion;
• Committees involved in admissions, scholarship, athletic, or DEI-related decisions, and their governing charters;
• School websites, handbooks, application materials, and public statements;
• Governing documents, nondiscrimination policies, Form 990, Schedule E, Form 5578, and other prior representations to the IRS;
• Record-keeping procedures that could become important in an IRS examination;
• Employment agreements, handbooks, and collective bargaining agreements for provisions related to DEI commitments; and
• Any third-party agreements or donor restrictions tied to race-based criteria.

Schools should also distinguish between programs that consider race directly and those designed to broaden educational opportunity through race-neutral criteria. The proposed regulations do not prohibit pursuing diversity or expanding opportunities for disadvantaged students, but they make the mechanism used to pursue those goals increasingly important.

The message from the government is clear: tax-exempt status is becoming another enforcement tool in the federal government’s scrutiny of race-conscious educational practices. For private educational institutions, now is the time to determine where the risk is — before the IRS does.