The Ivies and the Muni Bond Market
Ongoing tensions between (currently tax-exempt) elite universities and the Trump administration are spilling over into the municipal bond market, and it is impacting capital markets in consequential ways. The most recent flashpoint: universities’ (e.g., Harvard’s and Princeton’s) once-premium tax-exempt bonds are now trading at a discount, reflecting investor uncertainty about the durability of these schools’ tax privileges.
Historically, tax-exempt debt issued under IRC §§ 103 and 145 has allowed qualified 501(c)(3) organizations—including private colleges and universities—to issue bonds with interest payments exempt from federal income tax. These instruments are attractive to investors, especially those in high-tax states, because they offer lower-risk, tax-free income. As such, bonds from elite universities have typically traded at yields below AAA-rated municipal debt, reflecting both their top reputations and their favorable tax treatment.
That changed earlier this year, when the Trump administration threatened to revoke certain universities’ tax-exempt status under IRC § 501(c)(3). This prompted immediate market reactions: spreads on Harvard’s 2036 bonds widened to as much as 97 basis points before settling recently at 28. Princeton’s 2038 bonds saw a similar climb and subsequent partial recovery. While the yields have tightened in recent weeks, the episode has left a lasting impression: tax-exemption risk is now being priced in.
But the ability of private universities to issue tax-exempt bonds was never not automatic. Under IRC § 145, such financing is available only to organizations that qualify as 501(c)(3) entities and meet a host of eligibility rules—including use restrictions, private use limits, and compliance with public approval requirements under the Tax Equity and Fiscal Responsibility Act of 1982 (TEFRA). Crucially, interest on these bonds is exempt under IRC § 103(a) only if the issuer maintains compliance with 501(c)(3) operational and organizational tests.
Loss of 501(c)(3) status—even temporarily—would make any associated bonds potentially retroactively taxable, triggering investor lawsuits, SEC scrutiny, and likely downgrades in credit ratings. It could also block access to future tax-exempt debt, raising capital costs significantly for institutions that rely on long-term borrowing to finance infrastructure, dorms, labs, and more.