Republican policymakers in Congress are considering options to raise revenue as part of their expected legislative package in 2025. That package will tackle a wide variety of priorities, including the looming expirations of the TaxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. Cuts and Jobs Act (TCJA) individual tax provisions at the end of this year.
One such option involves raising the tax rate on university endowments first put in place as part of the TCJA in 2017. Under current law, a 1.4 percent tax applies to university endowment income if a university has at least 500 students and endowment assets exceed $500,000 per student.
In 2023, 33 universities paid about $380 million under the endowment tax, up from about $68 million in 2021 and slightly more than the $200 million annual forecast made by the Joint Committee on Taxation (JCT) in 2017.
Earlier this month, Rep. Troy Nehls (R-TX) introduced the Endowment Tax Fairness Act, which would raise the tax rate on university endowments from 1.4 percent to 21 percent, matching the federal corporate income taxA corporate income tax (CIT) is levied by federal and state governments on business profits. Many companies are not subject to the CIT because they are taxed as pass-through businesses, with income reportable under the individual income tax. rate.
The House Ways & Means Committee also appears interested in raising the endowment tax rate—Chair Jason Smith (R-MO) pitched the idea to members this month, for example.
The amount of revenue a 21 percent endowment tax would raise depends on the size of future endowment investment returns. Endowments averaged a 7.2 percent annual return over the past 10 years, with larger institutions with assets over $5 billion earning closer to 9.1 percent over that time.
Assuming a 7.5 percent average annual return, we estimate that raising the endowment tax from 1.4 percent to 21 percent would raise about $69.8 billion in additional revenue over 10 years. Under a 10 percent average annual return, the proposed 21 percent rate would raise $112.3 billion over 10 years.
Revenue Effect from Raising the University Endowment Tax from 1.4 Percent to 21 Percent (2025-2034), Billions of Dollars
| Revenue Effect (Billions of Dollars) | 2025 | 2026 | 2027 | 2028 | 2029 | 2030 | 2031 | 2032 | 2033 | 2034 | 2025-2034 |
|---|---|---|---|---|---|---|---|---|---|---|---|
| Revenue assuming a 5% annual return | $3.1 | $3.2 | $3.4 | $3.5 | $3.7 | $3.9 | $4.1 | $4.3 | $4.5 | $4.8 | $38.5 |
| Revenue assuming a 7.5% annual return | $4.9 | $5.3 | $5.7 | $6.1 | $6.6 | $7.1 | $7.6 | $8.2 | $8.8 | $9.5 | $69.8 |
| Revenue assuming a 10% annual return | $7.0 | $7.7 | $8.5 | $9.4 | $10.3 | $11.3 | $12.5 | $13.7 | $15.1 | $16.6 | $112.3 |
A House Ways & Means Committee document outlining dozens of potential policies for reconciliation noted that raising the endowment tax rate to 14 percent would bring in $10 billion in additional revenue over 10 years. Even with a lower rate of 14 percent compared to the Nehls proposal of 21 percent, $10 billion seems likely to be a low-end estimate.
A substantially higher tax rate would reduce the after-tax returns to investment for the impacted universities, but it is ambiguous whether the tax would alter their investment behavior. Assuming universities have a constant relative risk aversion, the tax itself would not impact the relative attractiveness of investing in more risky or conservative options.
It is also unclear whether the endowment tax would change donor decisions about contributing to a university’s endowment or providing financial support to programs more directly.
The policy basis for the tax increase centers on the tax-exempt status of nonprofit universities. One argument for the exemption is to maximize the broader social benefits of university research and education, including the societal value of subsidizing higher education.
The tax code, however, is not an ideal tool to shift the behavior of universities. Rep. Nehls’s press release about the proposal pointed out a concern with tuition increases. While the proposed tax increase would raise revenue, it is unclear how it would impact tuition decisions.
Setting aside the debate over whether institutions in higher education should be exempt from tax, the design of the endowment tax itself is worth scrutiny. The current tax applies narrowly to larger endowments with a per-student endowment size threshold.
This design may make sense if the tax is intended to encourage a spend-down of endowment funds, but not if the idea is to place endowment funds on the same playing field as other types of earned income in the tax code. If neutrality is the policy goal, a more broadly applied tax on endowments, irrespective of size or per-student assets, would be more appropriate.
In many ways, a simpler and more broadly applied endowment tax at a lower tax rate than the corporate income tax would be more sound than a very narrow tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. with a tax rate at parity with corporations.
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