Section 3121(b)(10) of the Internal Revenue Code (the "Code") allows an exemption from U.S. social security (FICA) and Medicare tax on wages for services performed in the employ of a school, college, or university by "a student who is enrolled and regularly attending classes" at the institution. The IRS interpreted this provision as applying only to full-time students. In a 1993 technical advice memorandum, the IRS provided a safe-harbor definition of a full-time undergraduate student as one who is taking 12 credit hours and working no more than 20 hours per week. On audits, the IRS applied the "12/20 rule" restrictively, refusing to allow the exemption for any student that failed to meet the requirements.
In response to requests for guidance by institutions of higher education, the IRS issued Rev. Proc. 98-16 on January 16, 1998 setting forth new guidelines. The revenue procedure notes that the regulations under section 3121(b)(10) define the status of student for purposes of the FICA exemption by the relationship between the student and the school, college, or university for which the services are performed. The regulations explain that the exemption is intended to apply to employment that is "incident to and for the purpose of pursuing a course of study."
Expanding on this definition, the revenue procedure distinguishes between career and noncareer employees. The IRS defines a "career employee" as any individual performing services for an institution of higher education who is 1) eligible to participate in a defined contribution retirement plan or 403(b) annuity plan, 2) eligible for reduced tuition under section 117(d) except for teaching and research assistants qualifying under section 117(d)(5), or 3) classified by the institution as a career employee. An individual who is a career employee for one job position at an institution would be a career employee for any other position held as well. The revenue procedure further stipulates that the FICA exemption does not apply to postdoctoral students or fellows, medical residents, or medical interns because the employment services performed by these individuals cannot be assumed to be incidental to and for the purpose of pursing a course of study.
Under the revenue procedure, all students who are not career employees who are half-time undergraduate or half-time graduate or professional students will qualify for the FICA exemption, regardless of the amount of remuneration, the type of services performed, the place where the services are performed, or the number of hours worked. "Half-time undergraduate student" has the same meaning as under the Department of Education regulations. (Refer to 34 CFR section 674.2) "Half-time graduate or professional student" is defined as a student who is carrying at least a half-time academic work-load at an institution of higher education as determined by that institution's standards and practices. To qualify for the exemption, the services must be performed at the institution of higher education in which the student is enrolled or at an affiliated organization as that term is defined in section 509(a)(3) of the Code. The revenue procedure notes that students performing services at public schools that are covered by social security under a section 218 Social Security agreement are not eligible for the student FICA exemption.
The determination of student status is made at the end of the drop-add period which may be subsequently adjusted at the option of the institution. For payroll periods ending before the end of the drop-add period, the determination is based on the number of hours the student is taking at the end of the registration period for the term. Services of a qualifying student that are performed during all payroll periods of a month or less that fall wholly or partially within the academic term are eligible for the exemption. Services performed by a qualifying student during school breaks of more than five weeks, including summer breaks of more than five weeks, are not eligible for the exemption except for services performed during payroll periods that span into the break. Services of a student performed during breaks of five weeks or less are eligible for the exemption provided the student qualifies on the last day of classes or examinations preceding the break and is eligible to enroll in classes for the first academic period following the break.
Lastly, the revenue procedure adds an "anti-abuse rule" that permits the IRS to make a determination based on all the facts and circumstances rather than on the standards set forth above. This rule will be applied in situations where the IRS determines that the relationship between the individual and the institution has been manipulated in a way to improperly avoid the payment of FICA taxes. The revenue procedure is silent as to the retroactive effect of these new standards.
The Student FICA Rule applies to U.S. citizen and foreign national individuals alike. However, foreign national individuals in the United States in F-1, J-1, M-1, or Q-1 immigration status can qualify for exemption from social security and Medicare taxes under section 3121(b)(19) of the Code provided that they 1) are nonresident aliens for federal tax purposes under the substantial presence test and 2) the services performed carry out the purpose of that immigration status. This exemption applies to all individuals meeting the criteria irrespective of whether or not they or the services that they provide qualify under the new Student FICA rule.