Personal-Use Education Tax Credits

The simplest way to make education more affordable is to allow parents to keep more of their own money. Personal-use education tax credits (ETCs) allow parents to reduce their tax liability in proportion to the amount that they spend on their children’s education. As of May 2014, more than 500,000 households are claiming personal-use ETCs annually in four states.

State

Year Enacted

# of Recipients

Avg. Credit Amount

Alabama

2013

n/a

n/a

Illinois

1999

293,509 (2011)

$277 (2011)

Iowa

1987

145,792 (2012)

$103 (2012)

Minnesota

1998

57,331 (2011)

$273 (2011)

Source: Friedman Foundation for Educational Choice.

Ideally, the parent of any child who is not enrolled in a government school should be able to claim the credits for all education-related expenses, including tuition, tutoring, textbooks, educational materials, homeschooling curricula, online courses, and more. Flexibility in spending is crucial to the effective operation of the market. Limiting the credits to private school tuition or textbooks would ossify our education system in its present form, inhibiting innovative new ways of teaching and learning. Granting parents broad discretion in their educational spending, by contrast, will foster such innovation.

In practice, personal-use ETCs vary in participation and design from state to state. Some of the main differences include:

  • Eligibility: Some states allow all parents to take personal-use ETCs. Minnesota only grants the credits to households earning less than $37,000 per year. In Alabama, credits are restricted to parents of children who transfer out of a “persistently low-performing” government school.
  • Expenses Covered: Credit-eligible educational expenses include private school tuition, textbooks, lab or activity fees, after-school programs, and so forth. The precise items covered vary from state to state. Minnesota does not allow credits to be claimed for tuition, which is commonly the largest private school expense.
  • Credit Value: The percentage of educational expenditures eligible for tax credits ranges from 25 percent to 110 percent in existing ETCs.
  • Credit Caps: The maximum amount that a family can reduce their tax liability under existing ETCs ranges from $250 to $3,563 per student.
  • Refundability: Nonrefundable credits can reduce parents’ tax liability to a minimum of zero dollars. So-called “refundable” credits allow a negative tax balance, meaning that the state disburses public funds to the parents claiming the credit “refund.” Because the parents need not have paid any taxes to qualify for the “refund,” the term refundable is actually a misnomer. Refundable ETCs are equivalent to vouchers because they entail the expenditure of government funds. Only Alabama’s ETC is refundable.

State

Eligibility

Expenses Covered

Credit Value

Credit Caps

Refundability

Alabama

Students transferring out of “persistently low-performing” government schools

Tuition

110%

80% of avg. annual state cost per pupil ($3,563)

Refundable

Illinois

All students

Tuition, books, lab or activity fees

25% after the first $250

$500 per family

Non-refundable

Iowa

All students

Tuition, books, lab or activity fees

25%

$250 per student

Non-refundable

Minnesota

Students from households earning less than $37,500/year (plus $2,000 for each child after two)

Books, tutors, academic after-school programs, and so forth. Does not cover tuition.

75% (phases out from annual income of $33,500 until income cap)

$1,000 per student

Non-refundable

Source: Friedman Foundation for Educational Choice.

Unfortunately, the existing personal-use ETC programs are excessively limited. The credit caps in Illinois and Iowa are too restrictive to be much use to low-income families. Moreover, the low credit values further reduce their usefulness. For example, a family in Illinois would have to spend $2,250 on eligible educational expenses in order to receive the maximum $500 credit. Minnesota’s credit value and credit caps are relatively more reasonable, but the tax credit’s utility is undermined because it is restricted to nontuition expenses.

When designed properly, personal-use ETCs expand the range of educational opportunities for middle- and higher-income families. But even where the credit values and caps are generous and tuition is an eligible expense, nonrefundable personal-use ETCs cannot benefit families with income so low that they have little or no tax liability. That’s why personal-use ETCs should be combined with scholarship tax credits, which provide donors with an incentive to support nonprofit scholarship organizations that aid lower-income families. The combination of these two tax credits advances the goal of universal educational choice.

Next up, read about Scholarship Tax Credits.

 

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