Update: We’ve posted additional information on M.B.A. tuition deductions here.
The Wall Street Journal reported last week about a Maryland nurse who won a long battle with the I.R.S. when the United States Tax Court said she had properly deducted nearly $15,000 for the cost of her master’s degree in business. The article described how the I.R.S.’s rules for deducting work-related tuition were “complicated and onerous” and said the decision “clarifies the rules and will likely lead to more taxpayers taking the deduction.”
But the article neglected to describe how the decision clarified the rules. So I did a little digging to find out.
According to the tax experts I spoke with, under I.R.S. rules, employees can deduct ordinary and necessary expenses they pay in connection with their trade or business that are appropriate or helpful to the business. Taxpayers can deduct education costs, in particular, as “ordinary and necessary” expenses if the education maintains or improves the skills required for the taxpayer’s current trade or business. If not, the expenses are considered personal.
Generally, these rules mean that if you aren’t a lawyer or a doctor and you go to law or medical school, you can’t deduct the cost of your tuition.
What the court said in this case, following a precedent set in earlier cases, is that an M.B.A. degree is different from other degrees because it’s more general and doesn’t provide the foundation for, and lead to, a specific professional license or certification. “The issue in this particular case was whether, as an objective matter, the M.B.A. that the nurse received qualified her for a new trade or business and not just the particular job she had,” said Saul Brenner, a tax partner at Berdon L.L.P.
It turns out the rules for M.B.A.’s depend on whether individuals can prove that they were already established in a certain trade or business before going to get an M.B.A. and that the degree will help them maintain or improve their skills in that specific trade or business.
If they can demonstrate both, they can deduct whatever tuition costs their employer didn’t reimburse or offer to reimburse. And if they can’t — say they are switching careers or didn’t have qualifying work experience before heading to school — they can’t.
“The decisive factor in this case was whether the nurse was already established in her trade or business,” which she proved she was, Mr. Brenner said. “Basically, the bottom line of all of this was that the court concluded that the M.B.A. improved her pre-existing skills. If you can connect the dots between the courses you are taking and your existing skill set or your job, you can deduct it. That’s the basic gist.”
While the case can’t be used as precedent to prove other taxpayers’ cases, tax preparers said it did give them insight into how the I.R.S. was thinking about the issue.
And to actually get the deduction, if you aren’t one of the lucky ones who just sneaks past the I.R.S., you’ll need to be prepared to prove you qualify by being able to demonstrate your employment history and how the M.B.A. — down to the courses you take — will enhance your skills in your existing business. You’ll also need necessary documentation, like canceled checks and tuition bills.
“The court was very impressed with this nurse,” Mr. Brenner said. “She had all her ducks in order. She had her facts. She had her backup documentation. She had all the information the court would have required in order to make a judgment.”
Have you tried to deduct education expenses? How was the process for you? What else do you think should be deductible?