Endowment Tax for Higher Education: 3 Questions With Heather Myers and Seth Steiman

Endowment Tax for Higher Education: 3 Questions With Heather Myers and Seth Steiman
August 7, 2025 7 mins

Endowment Tax for Higher Education: 3 Questions With Heather Myers and Seth Steiman

Endowment Tax for Higher Education: 3 Questions With Heather Myers and Seth Steiman

Learn how the 2025 “One Big Beautiful Bill” changes endowment tax rates and impacts university finances and investment strategies for higher education.

Key Takeaways
  1. New Endowment Tax Laws Significantly Expand Scope and Rates
  2. Increased Tax Burden May Drive Cost-Cutting and Spending Reviews
  3. Investment Strategies May Adapt to Prioritize Liquidity and Tax Efficiency

The opinions referenced are as of the date of publication and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Nothing in this document should be construed as legal, tax or investment advice. Please consult with your independent professional for any such advice.

1. What is the endowment tax?

Historically, non-profit organizations (501(c)(3) organizations) such as universities have been exempt from federal income tax, including investment income generated by their endowments. By the mid-2000s, as some university endowments grew to billions of dollars, lawmakers in Washington began questioning whether these funds were being used effectively for educational purposes.

Reform efforts gained minimal traction until 2017, when the Tax Cuts and Jobs Act (TCJA)1 introduced an excise tax on large private university endowments. The excise tax rate was set at 1.4% on net investment income and applied to colleges and universities that:

  • Had at least 500 students
  • Had endowment assets exceeding $500,000 per student (not indexed to inflation)

In 2023, 56 universities paid approximately $380 million under the endowment tax, up from about $68 million in 2021.

On July 4, 2025, Congress enacted "The One Big Beautiful Bill" (OBBB), introducing a new three-tier tax system for private educational institutions based on per-student adjusted endowment levels:

  • 1.4% tax on endowments ranging from $500,000 to $750,000 per student
  • 4% tax on endowments ranging from $750,000 to $2 million per student
  • 8% tax on endowments exceeding $2 million per student.

The bill also significantly altered the exemption criteria, raising the threshold from institutions with at least 500 students to those with at least 3,000 students (in contrast to earlier drafts, the final bill includes international students in student adjusted endowment calculations). Notably, there is no exemption for faith-based institutions in the final version of the bill.

The types of income impacted by the tax have been broadened; interest income from student loans and royalty payments, including those from student products and other forms of intellectual property, are now taxed at the above rates.

2. How will an increase in the endowment tax impact higher educational institutions?

Many institutions will now see a significant increase in tax payments in taxable years beginning after December 31, 2025. Universities are already responding to freezes in federal funding related to research endeavors. In recent weeks, a growing number of schools have announced hiring freezes due to the uncertain funding outlook. Harvard University and the University of Pennsylvania have already begun the process of cost-cutting measures beyond headcount, including a reduction in non-compensation expenses2 and a review of capital spending.3 The forthcoming increase in tax burden for university endowments can be expected to be met with similar capital preservation measures.

For some, such as Harvard, investment returns on its $50 billion endowment are the single- largest source of funding for the school, representing more than a third of revenue.4 According to the 2024 NACUBO-Commonfund Study of Endowments, university endowments funded an average of 14% of operating budgets across all institutions in the study. In addition, student financial aid (48%) and academic programs and research (18%) remained the largest spending categories. While it is unclear exactly how universities will respond, it can be surmised that these larger line items will be scrutinized.

14%

University endowments covered an average of 14% of institutional operating budgets. Source 2024 NACUBO-Commonfund Study

3. What are the investment considerations for endowments in response to higher taxes?

The taxes enacted are less severe than some of the earlier versions of the legislation, so in most cases, the impact on investment strategies will be modest. That said, we recommend affected endowments consider if the tax changes are significant enough to warrant changes to the investment strategy. The most common change might be to consider reducing high frequency trading strategies (to the extent they are in the portfolio), including assessing the impact of active management in public equity. While tax- exempt bonds were discussed by many observers when there was draft legislation with significantly higher tax rates, we don’t see them as being attractive at the level of tax rates implemented.

With the tax enactment set for 2026, a reset of the cost basis on high performing assets may be a prudent strategy for impacted endowments. Going forward, some institutions may also consider tax loss harvesting strategies.

A significant consideration is liquidity. If more funds are needed for tax payments, and additional endowment draws are needed to replace the reduction/removal of federal funds, reducing illiquid investments could become common.

We believe understanding the potential impact and being familiar with the laws passed is imperative. A next step could be for institutions to stress test portfolios under different spending scenarios to evaluate the tax impact and liquidity considerations. There could be erosion of the future growth of the endowment with an increased tax, and thus, decisions such as reducing spending today or in the future may become real issues that need to be considered.

Aon’s Thought Leaders
  • Seth Steiman
    Client Service, Aon Investments USA Inc.
  • Heather Myers
    Non-Profit Solutions Leader, Aon Investments USA Inc.

1 IRS.gov
2 Harvard University. (March 10, 2025). Financial Stewardship. Retrieved from https://www.harvard.edu/president/news/2025/financial-stewardship
3 Penn Today. (March 10, 2025). A message about proactive financial measures in response to the federal funding environment. Retrieved from https://penntoday.upenn.edu/announcements/message-about-proactive-financial-measures-response-federal- funding-environment
4 Financial Times. (2025, March 15). Republicans in Congress weight tax increase for top university endowments.

These sites contain information that has been created, published, maintained or otherwise posted by institutions or organizations independent of Aon. Aon does not endorse, approve, certify or control these websites and does not assume responsibility for the accuracy, completeness or timeliness of the information located there.

General Disclaimer

The opinions referenced are as of the date of publication and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Information contained herein is for informational purposes only and should not be considered investment advice. Investment advice and consulting services provided by Aon Investments USA Inc. (Aon Investments). The information contained herein is given as of the date hereof and does not purport to give information as of any other date. The delivery at any time shall not, under any circumstances, create any implication that there has been a change in the information set forth herein since the date hereof or any obligation to update or provide amendments hereto. This document is not intended to provide, and shall not be relied upon for, accounting, legal or tax advice or investment recommendations. Any accounting, legal, or taxation position described in this presentation is a general statement and shall only be used as a guide. It does not constitute accounting, legal, and tax advice and is based on Aon Investments’ understanding of current laws and interpretation. This document is intended for general information purposes only and should not be construed as advice or opinions on any specific facts or circumstances. The comments in this summary are based upon Aon Investments’ preliminary analysis of publicly available information. The content of this document is made available on an “as is” basis, without warranty of any kind. Aon Investments disclaims any legal liability to any person or organization for loss or damage caused by or resulting from any reliance placed on that content. Aon Investments reserves all rights to the content of this document. No part of this document may be reproduced, stored, or transmitted by any means without the express written consent of Aon Investments. Aon Investments USA Inc. is a federally registered investment advisor with the U.S. Securities and Exchange Commission. Aon Investments is also registered with the Commodity Futures Trading Commission as a commodity pool operator and a commodity trading advisor, and is a member of the National Futures Association. The Aon Investments ADV Form Part 2A disclosure statement is available upon written request to the contact information provided below. In Canada, Aon Solutions Canada Inc. and Aon Investments Canada Inc. (“AICAN”) are indirect subsidiaries of Aon plc, a public company trading on the NYSE. Investment advice to Canadian investors is provided through AICAN, a portfolio manager, investment fund manager, and exempt market dealer registered under applicable Canadian securities laws. Regional distribution and contact information is provided below. Aon Investments USA Inc. 200 E. Randolph Street Suite 600 Chicago, IL 60601 ATTN: Aon Investments Compliance

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