Harvard University pushed back against the U.S. government after President Donald Trump said the school should lose its tax-exempt status, warning that such a move would endanger its ability to carry out its mission and threaten higher education in America. 

“There is no legal basis to rescind Harvard’s tax-exempt status,” university spokesman Jason Newton said in a statement, adding that such a move would damage Harvard’s medical research efforts and ability to offer financial aid for students. He also cautioned that using this “instrument” would have “grave consequences for the future of higher education in America.”

Trump has escalated his fight with the oldest and richest U.S. university after the school refused to bow to his administration’s demands. The U.S. froze more than $2.2 billion of multiyear grants this week, Trump suggested the Internal Revenue Service should tax the university as a “political entity” and then his homeland security chief threatened to prevent the school from enrolling foreign students. 

The White House has sought to overhaul elite education arguing that schools need to combat antisemitism after protests against Israel broke out on campuses across the U.S. in the wake of Hamas’s attack on the Jewish state and the resulting war in Gaza — but its efforts have sparked concern the administration is trying to suppress free speech and imperil academic freedom. 

Harvard president Alan Garber said the university was willing to work with the administration to fight antisemitism, but the U.S. demands made clear that wasn’t their intent. Instead Harvard said the government was seeking to determine what the university teaches and who it hires and admits — and that it won’t “surrender its independence or its constitutional rights.”

CNN first reported the IRS was looking at revoking the tax-exempt status, a move that would deal a significant financial blow to the university and send a message to other institutions that they face a similar risk. A Bloomberg News analysis estimated that Harvard’s tax benefits totaled at least $465 million in 2023.

The White House hasn’t yet formally confirmed it’s pursuing the IRS path, which would almost certainly face legal challenges. 

Harrison Fields, a White House spokesman, said the IRS was investigating Harvard’s tax status before Trump called for the school to pay taxes, adding that “any forthcoming actions by the IRS will be conducted independently of the president.”

With a $53 billion endowment, Harvard has emerged as the highest-profile university to contest Trump’s attempts to force sweeping changes. Other university leaders, including Princeton’s, have expressed support for Harvard’s stance, but they also face pressure from the White House. The administration has already canceled $400 million in federal money to Columbia University and frozen dozens of research contracts at Princeton, Cornell and Northwestern universities. 

While Harvard’s rebuke sparked cheers from Democrats and many Harvard alumni, including former President Barack Obama, the university’s resistance has come at a cost that could spiral. U.S. agencies previously said they are reviewing about $9 billion of grants and contracts to the Cambridge, Massachusetts-based school. 

On Wednesday, Homeland Security Secretary Kristi Noem also threatened to prevent Harvard from enrolling international students if it doesn’t comply with sending records to the government related to foreign student visa holders. This would threaten Harvard’s ability to attract students from foreign countries, which make up more than 27% of the university’s student body in this academic year.

“Harvard bending the knee to antisemitism — driven by its spineless leadership — fuels a cesspool of extremist riots and threatens our national security,” Noem said in a statement.

A Harvard spokesperson said in a statement that the federal scrutiny, including funding cuts and the threat to its tax status, “follows on the heels of our statement that Harvard will not surrender its independence or relinquish its constitutional rights.”

“We will continue to comply with the law and expect the Administration to do the same,” according to the statement.

The Trump administration is reportedly making plans to shut down the Internal Revenue Service’s Direct File free tax prep system next year.

The Associated Press reported Wednesday about the plans, which come amid widespread layoffs at the IRS. Elon Musk had posted on X in February that he had “deleted” 18F, a digital services team that helped build the Direct File system ahead of its initial pilot test last year. The IRS staff who had taken over development of the program were reportedly told last month to end their work on developing the system for next tax season. The U.S. Digital Service that also worked on developing Direct File has been renamed the U.S. DOGE Service after a takeover by Musk’s Department of Government Efficiency. 

Senate Finance Committee ranking member Ron Wyden, D-Oregon, blamed the move on lobbying by the tax prep software industry, as well as Treasury Secretary Scott Bessent.

“No one should have to pay huge fees just to file their taxes,” Wyden said in a statement Wednesday. “Direct File was a massive success, saving taxpayers millions in fees, saving them time and cutting out an unnecessary middleman that took money out of Americans’ pockets for no good reason,” Wyden said. “Trump and Secretary Bessent are robbing regular American families to pay back lobbyists that spend millions to make tax filing more expensive and more difficult.”

The Direct File system expanded from pilot tests in 12 states last year to 25 states this year, aided by the nonprofit group Code for America and its FileYourStateTaxes project.  A survey of over 1,000 Direct File and FileYourStateTaxes users reportedly found that 98% of respondents said they were either satisfied or very satisfied with the programs, according to the Federal News Network. Last year, former IRS commissioner Danny Werfel announced plans to make the Direct File program permanent, but the program has been repeatedly attacked by Republican lawmakers in Congress and the tax prep industry.

Electing to establish an S corporation could unlock the tax benefits enjoyed by millions of small business owners — as long as financial advisors and clients avoid some pitfalls.

Those include the ramifications of filing for deductions on the pass-through entity’s so-called qualified business income, the requirement of one single class of stock for the company’s equity and the implications of the S corp holding real estate, according to Tal Binder, CEO of Gelt. Binder’s firm works with high net worth clients and business owners through certified public accountants and artificial intelligence-powered tax services.

The caveats of S corp classification

For advisors and their clients, the S corp entity classification — named after Subchapter S of the Internal Revenue Code as a “Subchapter S corporation” or a “Small Business Corporation” — represents an opportunity with some tradeoffs. 

“Instead of thinking about it as just a tax structure, think about it as a tool — it’s a tool in the toolbox when you’re doing tax planning or tax strategy,” Binder said in an interview. “The S corp has a lot of tax benefits. It just becomes more complicated as you dig into the specifics and the numbers.”

Business owners and their advisors have likely run into those challenges in any number of situations — Binder noted that professional services firms such as a small wealth management company usually make the best candidates to be S corporations. The entity classifications of registered investment advisory firms affect industry M&A deals, and S corporations come in handy for clients who, for example, may be elite college athletes seeking tax savings on their “name, image and likeness” payments.

Most service-based businesses do elect to be S corporations, according to Miklos Ringbauer, the founder of Los Angeles-based tax firm MiklosCPA. However, state tax rules can alter the equation significantly, he noted, citing how California charges a flat annual duty of $800 per year for limited liability partnerships regardless of their profit, compared with a 1.5% rate on the net income generated by S corporations.

“You have to understand the state rules first — before you look at tax structure,” Ringbauer said in an interview. “Where we shine as tax professionals is providing that value, that guidance to the taxpayers, the investors to make the right choices, to help them to decide what is the best, optimized tax structure for their operation.”

READ MORE: 24 tax tips for self-employed clients

History to of S corporations

And tax pros have been doing so for decades.

Almost 70 years ago, small business owners gained the exemption from double taxation on corporate income flowing to their personal returns to the IRS, so long as they are domestic corporations, maintain a limited number and type of shareholders and have one class of stock. Today, there are about 5 million S corporations, according to the S Corporation Association, a business association and advocacy group. Before a recommendation by President Dwight Eisenhower’s Republican administration passed through Congress with the support of Harry Byrd, a Democrat from Virginia who was chairman of the Senate Finance Committee, small business owners faced “an oppressive level of tax,” a history on the group’s website stated.

“How significant was the creation of subchapter S?” it asked. “Consider that in 1958, the top income tax rate was 52% for corporations and 91% for individuals. That means dividends paid by a C-corporation to a high-income shareholder faced an effective tax rate of 96% Even a shareholder with median family income faced an effective federal tax of more than 60%.”

READ MORE: Business entities affect taxes and M&A — how RIAs weigh the choice

Potential downsides to S corp entities

The savings to the owners of S corporations add up in the right circumstances, but laws and individual tax implications could call for a sole proprietorship, partnership, limited liability company or a C corporation as a better fit.

In the case of a pass-through business tapping into the deduction for qualified business income that started with the Tax Cuts and Jobs Act in 2017, the S corporation could be a limiting factor based on the fact that the owner’s direct W-2 salary is likely to be lower in that situation, Binder noted. For some businesses that have a 401(k) or profit-sharing plan, the S corporation owners’ maximum tax-advantaged contribution can only rise to the level of their personal salary.

As another caveat to the S corporation, certain RIAs launch when advisors team up, but one of the advisors may bring a much more substantial base of clients to the business. That would suggest that one of the owners should have more control of the firm than the other, even if they each own half of the RIA, Binder said. They couldn’t set up the business that way as an S corporation that can only have one class of stock, though.  

“It doesn’t make sense, because you started it and built it for many, many years,” he said. “That might disqualify the S corp, so it’s not best in those cases.”

He brought up the additional problematic use of the structure with the idea of an S corporation RIA holding the building housing the business in the same entity, which is “the right approach” from the perspective of the general tax savings for real estate assets but “in the vast majority of cases not beneficial to you,” Binder said. The real estate could bring higher payments to Uncle Sam for an S corporation, based on the rules for tax basis and mortgage financing.

An LLC or LLP structure also provides more flexibility than an S corporation for transferring the real estate asset out of the business and into the client’s personal holdings without generating a taxable event, Ringbauer noted. From the perspective of a startup company that must take out heavy loans for capital expenses while incurring business losses in the first few years after launch, the S corporation could further cap the level of deductions — far below the amount available to an LLC or LLP, he said.

READ MORE: 25 tax tips for RIA M&A deals and other small business sales

Don’t go it alone on business-entity decisions

Unfortunately, many business owners attempt to choose their entity based on a simple online search or even a question to a public chatbot, according to Ringbauer.

“There’s a lot of incorrect information out there, which would result in incorrect guidance on how to treat stuff,” he said. “It’s a personal preference, but if it is properly guided, then the individuals who are starting the business will be able to make the right choice.”

In that vein, advisors who might otherwise avoid any mention of tax-related topics that fall outside their expertise should engage a local certified public accountant or enrolled agent “just to make sure that everything is correct” before the client fills out IRS Form 2553 electing to be treated as an S corporation, Binder said.

“I’d highly recommend the wealth manager to partner with a competent tax professional or CPA firm,” he said.