CRS Reports on Federal Tax Education Benefits

[1] Some believe that comprehensive school reform is needed to improve the quality of elementary and secondary (K-12) education being provided to our nation's children. Proponents of reform have called for, among other things, policies to encourage parents to select the public or private schools they deem most appropriate for their children, with federal assistance provided through vouchers or tax credits. While the 107th Congress did increase school choice with enactment of the No Child Left Behind Act, it did not authorize private school tuition vouchers. The debate over federal support of school choice as a means of reforming and improving K-12 education now has shifted to tax policy. For some, authorizing tax subsidies for elementary and secondary education expenses beyond those already included in the tax code (e.g., the deduction for charitable contributions to qualified scholarship-granting organizations among others) would minimize concerns that have inhibited expansion of school vouchers (e.g., church-state entanglement). They further argue that a new tax benefit would be more effective than previously tried school reforms at providing better educational opportunities. Others oppose further expansion of K-12 education tax subsidies as just another strategy that could undermine public education, which might exacerbate rather than ameliorate inequities in the quality of education available to children of different segments of society.

[2] Several proposals have been offered during the 107th Congress to provide additional assistance, chiefly through an income tax credit that would be available to families who incur K-12 education expenses. Some would provide a refundable credit that would allow eligible families with children in elementary and secondary school to receive the credit even if it exceeded their regular tax liability; for a family with no income tax liability, the government would send it a check for the full amount. The refundability feature would thus provide low-income families, who are the least financially able to send their children to private schools, the opportunity to make use of an education tax credit. However, the value of the proposed credits ($1,000-$3,500) often would fall well short of a family's total cost of sending their child to a private school. Accordingly, a credit (even a refundable one) would not necessarily make school choice a viable option for lower income families.

[3] K-12 education credits or scholarships of "school tuition organizations" (STOs) funded through a newly authorized credit could benefit families who would have sent their children to private schools anyway, which some regard as an inefficient use of public funds. To target the credit to families who would not otherwise have been able to exercise school choice, some of the bills establish an income ceiling for claimants. The Administration has proposed a refundable credit that lacks an income cap but that would be available only to families of children in failing public schools. This might not be as good a proxy for income as some think, if a large proportion of schools are identified as failing. Other bills would allow families to claim credits or receive scholarships from STOs whether or not their children currently attend public or private schools.

Contents

 Background on Elementary and Secondary Education Reform Efforts

[5] At the same time, the Congress increasingly has turned to the tax code to provide subsidies beyond traditional student grants and loans to persons attending public or private postsecondary institutions. And in 2001, after several failed attempts, the 107th Congress extended one of the higher education tax benefits (i.e., Coverdell Education Savings Accounts) to include certain costs families incur when sending their children to private secular and religious as well as public K-12 schools.

[6] This report focuses on proposals before the 107th Congress that are meant to subsidize the expenses of families with children enrolled in the elementary or secondary school of their choice. It begins with a discussion of K-12 education reform efforts to provide a context for recently proposed education tax subsidies. Next, we review existing federal tax provisions that could help families with expenses concomitant with their children attending elementary and secondary schools.¹ Then, several recent proposals introduced during the 107th Congress to expand existing or to authorize new federal tax benefits for families with K-12 education expenses are examined. Our analysis considers such things as the types of families most likely to gain from the various proposals, their potential effectiveness and impact on the federal budget, and how such federal tax subsidies might affect public and private elementary and secondary education in the United States.

[8] While many school choice reform proposals have garnered broad- based support, and several have been enacted and implemented by various states or the federal government, others have languished amid controversy. Public school choice reforms that have been implemented successfully in a majority of the states include open enrollment policies (either intradistrict or interdistrict), magnet schools, and charter schools. Only a few states have adopted policies supportive of private or comprehensive school choice, such as tuition vouchers and tax subsidies. The federal government supports public school choice through a number of programs authorized under the Elementary and Secondary Education Act (ESEA), as amended by the No Child Left Behind Act (NCLBA, P.L. 107-110). These include components of the Title I-A program, which funds educational services for the disadvantaged, and the following Title V programs: Charter Schools, Innovative Programs, Voluntary Public School Choice, and Magnet Schools. The federal government also provides support for families opting to send their children to private schools through its tax treatment of scholarships, among other things, which are discussed below. Attempts to authorize vouchers for private school tuition through federal legislation have faltered, however. The remainder of this section focuses on key issues in the broader school choice debate that are relevant to the consideration of additional education tax benefits that have been proposed during the 107th Congress.

[9] Two particularly volatile issues are among those that make choice-based education reforms controversial: the locus of control over education policy decisions, and the separation of church and state. Many people are suspicious of school choice proposals that would limit LEAs' or state educational agencies' (SEAs) autonomy over education governance issues, such as the establishment of curriculum requirements and criteria for enrollment, including the boundaries of attendance areas; the authorizing or chartering of schools; and the control of locally generated revenue. Others are concerned about the possibility of states and localities either being permitted or required to allow the use of public funds to pay for the cost of a student's attendance at a private school. Particularly controversial are proposals that would allow public funding of private religiously affiliated or for-profit schools. Still others are concerned about the potential for increased government oversight of private schools and homeschools.

[10] Church-state entanglement issues are complex and comprise much of the debate over public funding of private school choice. While some support the expansion of public funding for education to include religiously affiliated school options, others remain adamantly opposed to the prospect that public money might be used to pay for religious instruction. Supporters of public funding for religious schools often offer rationales that mirror those espoused by proponents of providing public funding to private schools in general. Examples include the presumptions that such schools are more effective than public schools, that competition between public and private schools in attracting students might make both types of schools better, and that parents who send their children to private schools should not have to pay both taxes to support public education and the cost of their own children's private school education. Those who oppose public funding of educational expenses at religious schools do so for a host of reasons. While some oppose the use of public funds to support a faith that is different from their own, or that they might consider aberrant, others simply believe that all aspects of religion, including religious education, should continue to be privately supported and financed.

[11] Many of those who send their children to religiously affiliated schools worry that government funding would come with too many strings attached. Fears include potential conflict over issues such as hiring practices, enrollment criteria, and curriculum requirements, when differences arise between the norms and mores of a particular school or religious sect and the standards adopted by the government. Public funding of tuition at religiously affiliated schools has never been upheld by the Supreme Court; however, the court soon will be issuing a decision on the constitutionality of a program being operated in Cleveland, Ohio involving school vouchers.³

[12] One means of providing parents with greater opportunities to choose the school that their children attend is through the practice of issuing school tuition vouchers. Under voucher schemes, parents are issued a voucher of a specified value, which they in turn sign over to the school as full or partial payment of the cost of tuition. Some see vouchers as an attempt to avoid church-state entanglement issues. The design of school voucher schemes severs any direct link between the government and the recipient school because the voucher is issued to a student's parents and not provided directly from the government to the school. It is the student's parents who must make the decision to use the voucher for tuition at a private or religiously affiliated school. Voucher programs currently operate in the cities of Cleveland, Ohio, and Milwaukee, Wisconsin, and in the state of Florida. During the first session of the 107th Congress, as reauthorization of the ESEA was debated, Members of both the House and the Senate attempted to incorporate the authorization of school vouchers into their respective versions of H.R. 1. While voucher proposals were debated on the floors of the House and Senate, none of the amendments proposed were adopted by either chamber.

[13] In addition to concerns about the separation of church and state, some base their objection to vouchers on the prospect that local and/or state funded vouchers might divert money away from public schools that need help the most; that vouchers might be used by those most alert to them and who might not be most in need of better educational opportunities; that they might benefit primarily those children who already have the opportunity to attend an alternative school; and that they might drive up the cost of a private education. Some are concerned that vouchers might not cover the full cost of tuition and related expenses, and that matching or supplemental funding would be required by parents or the school. Others question the current capacity of private schools to absorb an influx of students with vouchers.

[14] When the 107th Congress passed the NCLBA to reauthorize the ESEA, it authorized funding for supplemental educational services.⁴ Children from low-income families who attend schools that fail for 3 consecutive years to make adequate yearly progress in student proficiency on state academic assessments must be offered the opportunity to receive supplemental educational services, funded under Title I-A. According to the statute, parents of eligible children may select an approved provider of supplemental educational services. This may be a public, private nonprofit, or for-profit entity. Religiously affiliated organizations may provide supplemental educational services; however, all instruction must be secular, neutral, and nonideological. Approved providers will be compensated by the LEA for the services they provide.

[15] With the 107th Congress' having decided not to authorize federal funding of school vouchers, the debate over federal support of comprehensive school choice as a means of reforming K-12 education and of encouraging its improvement has shifted to tax policy. Some believe that authorizing additional tax subsidies for elementary and secondary education expenses would steer clear of some of the issues inhibiting the expansion of school vouchers and that the new tax benefits would prove more effective than previously tried school reforms at providing better educational opportunities for the nation's school children. Others oppose further expansion of K-12 education tax subsidies as just another strategy that could undermine public education.

Scholarships and Tuition Reduction

[17] Scholarships. Amounts paid to assist students in the pursuit of their studies are tax free to the students and their families if the awards are used toward tuition and fees required for enrollment in the educational institutions or toward fees, books, supplies, and equipment required for the courses at the institutions. Grants that specify their use for other educational expenses (e.g., room and board) or that prohibit their use for tuition or course- related expenses are taxable. Educational institutions at which scholarships are used must maintain a regular teaching staff and curriculum as well as a regularly enrolled student body that attends classes where the school carries out its educational activities.

[18] According to the Thomas B. Fordharn Foundation, there were about 100 privately funded scholarship programs that reportedly enabled between 75,000 and 100,000 low-income children to attend private K-12 schools in 2001. Typically, the scholarships go to elementary or secondary school students in families with incomes below specified levels who live in certain geographic areas. The programs generally provide partial tuition assistance. Recipient families often are selected through lotteries or on a first-come, first-served basis.⁶

[19] The Children's Scholarship Fund (CSF) is the largest source of private school scholarships offered on a nationwide basis to low- income families.⁷ Some 40,000 children received 4- year partial scholarships beginning with the 1999-2000 school year. These subsidized children attend about 7,000 private schools. Families were chosen through a random drawing, and if selected, all their eligible children were entitled to scholarships at the schools of their choice. To be eligible for scholarships, the children had to be entering kindergarten through eighth grades. In fall 2001, the CSF announced that there would be a second round of 14,000 scholarships available to families in 18 locations. The scholarships could total $80 million, or about one-half the amount awarded in the first round.

[20] Proponents of school choice sometimes use the terms scholarships and vouchers interchangeably as they both are intended to help families pay for their children's education costs. Others make a distinction between the two based on the funding source, with vouchers financed through government appropriation of funds and scholarships through private resources.

[21] Tuition Reduction. Educational institutions may reduce the tuition of dependent children of current employees or of former employees who retired or left due to disability, and the benefit is not taxable to the child or employee.⁸ The tuition reduction can occur at a school other than where the employee works, but the subsidy must be remitted by that school rather than employee's school (e.g., school A provides reduced tuition to the 9 year old son of a secretary employed at school B).

[22] Information on the prevalence of tuition reductions offered by private K-12 schools is very scanty. The U.S. Department of Education, in its Schools and Staffing Survey, collects data on the share of private schools, by affiliation, that allow a reduction in tuition. However, schools could provide discounts for reasons other than a student being a dependent of a school employee (e.g., based on a family's financial need or its enrollment of multiple children at the same institution).

Charitable Contributions

[23] Individual taxpayers who itemize their deductions (i.e., who do not take the standard deduction) may claim a deduction for charitable contributions made to qualified organizations, including a political subdivision of a state (e.g., public schools, which generally are organized into LEAs) and non-profit groups that are religious, charitable, scientific, literary, or educational in purpose (e.g., qualified organizations that provide scholarships as mentioned above). Donations to nonprofit educational organizations are not deductible if they substitute for tuition or other enrollment fees.

[24] Deductions for charitable contributions cannot exceed 50% of a taxpayer's adjusted gross income (AGI). Excess contributions may be carried forward for 5 years. The total of certain itemized deductions, including the deduction for charitable giving, is limited if the taxpayer's AGI is above a threshold that is adjusted for inflation each year. Consequently, high-income taxpayers may be unable to claim the full amount of their deduction for charitable contributions.

[25] Corporations also may make tax-deductible contributions to qualified organizations. The deduction is limited to 10% of taxable income.⁹ Excess contributions may be carried forward for 5 years.

[26] According to the American Association of Fund Raising Counsel, the largest category to receive charitable donations in 2000 was religion (36.5%).¹⁰ The next largest category lagged far behind: education, 13.8%.¹¹

Coverdell Education Savings Accounts (ESAs)

[27] Coverdell ESAs are trusts or custodial accounts that initially were dedicated to paying only the qualified higher education expenses of designated beneficiaries. In the Economic Growth and Tax Relief Reconciliation Act of 2001 (P.L. 107-16), Congress expanded the savings account's purpose to allow distributions to be used for certain expenses incurred after December 31, 2001 in connection with attending public or private elementary and secondary schools (either secular or religiously affiliated). The authorization of Coverdell ESAs to cover K-12 education expenses will lapse after December 31, 2010, unless the Congress extends it.

[28] The Basic Provisions. Anyone below specified income levels may make nondeductible contributions to the ESAs of a beneficiary who is under age 18, provided that total contributions per child do not exceed $2,000 annually.¹² Taxpayers may make deposits to ESAs if their income is below $110,000 for single filers and below $220,000 for married filers. The annual contribution limit, which is not indexed for inflation, phases out for single filers with incomes of more than $95,000 but less than $110,000; for married filers, with incomes of more than $190,000 but less than $220,000. However, corporations, tax-exempt organizations (e.g., a foundation, charity, or union), or lower income individuals could contribute to accounts of children in families whose incomes fall in the phase-out range. Children's assets (perhaps obtained through gifts) could be deposited in ESAs of which they are the beneficiaries, for example.

[29] Earnings on contributions generally grow on a tax-deferred basis. The deferral confers greater benefits on more affluent families because of their higher marginal tax rates. If, for example, two families pay $2,000 annually into an investment for 15 years that earns 6% per annum, the balance would have increased to $46,552 if earnings accumulated tax-free about the time their children begin secondary school.¹³ If the families instead had to pay federal income tax on the earnings each year, the family in the 30% federal tax bracket would have amassed $40,648; the family in the 10% federal bracket, $44,479. Thus, the tax deferral in this example is worth considerably more in additional interest to the higher than to the lower income family. (If states follow the federal law, the tax deferral benefit is even greater.)

[30] When funds are disbursed from the accounts, those applied toward qualified expenses are not subject to federal income tax. Earnings withdrawn for other purposes count as taxable income to the beneficiary with some exceptions (see "Tax Consequences of Transferring Funds" below). Nonqualified distributions that exceed qualified expenses also are subject to a 10% penalty unless they are made due to the beneficiary's death or disability or made due to receipt of a nontaxable scholarship or educational allowance.

[31] Qualified elementary, secondary and postsecondary expenses include tuition, fees, books, supplies and equipment. Costs incurred by special needs beneficiaries for special needs services are included as well. Qualified expenses for beneficiaries attending or enrolled in a public, private, or religious K-12 school also include academic tutoring; computer software, hardware, or services such as internet access if used by the beneficiary and the beneficiary's family during the years in which the beneficiary is in school;¹⁴ and room and board, uniforms, transportation, and supplementary items or services (e.g., extended day programs) that are required or provided by the school.

[32] A school is defined as any institution that provides elementary or secondary education as determined by state law. Although expenses associated with homeschooling are not explicitly mentioned, some states consider homeschools to be private schools (e.g., Alabama, California, Delaware, Illinois, Indiana, Kansas,¹⁵ Kentucky, Louisiana, Michigan, Nebraska, North Carolina, Tennessee, and Texas).

[33] Tax Consequences of Transferring Funds. An amount withdrawn from one ESA in a 12-month period and rolled over to another ESA on behalf of the same beneficiary or certain of their family members is not taxable.¹⁶ Rollovers are useful for a number of other reasons. By making a same-beneficiary rollover, the type of investment can be changed. In addition, amounts transferred between accounts are excluded from the ESA's annual contribution limit. The transfer of account funds to a younger family member extends the period during which deposits can be made and tax-deferred earnings can accumulate. Thus, while the original beneficiary's account balance might be too low to offset much private school tuition, room and board, etc., the transferred funds could immediately bolster the account balance and thereby be of greater use to other family members (e.g., the original beneficiary's younger sibling).

[34] Balances remaining in ESAs when beneficiaries reach age 30 or die, whichever is earlier, generally must be distributed and the earnings included in the beneficiary's or the estate's income.¹⁷ If, however, account balances of beneficiaries under age 30 are rolled into accounts of other family members or if account balances are transferred to other family members upon the original beneficiaries' death, there are no tax consequences.

[35] Rather than transferring funds between ESAs of the same beneficiary or to other family members, the beneficiary of an ESA may be changed. The particular trust or custodial account must permit this action to be taken. As in the case of rollovers, the new beneficiary must be a member of the original beneficiary's family.

[36] Interaction with Qualified Tuition Plans (QTPs). Starting after December 31, 2001, contributions can be made to an ESA and to a QTP on behalf of the same beneficiary. (A QTP allows contributions to grow tax-deferred and funds to be withdrawn tax-free if used to pay qualified higher education expenses.)¹⁸ Thus, funds may now accumulate simultaneously in an ESA and a QTP, with a family perhaps using the former for K-12 expenses and the latter for higher education expenses. If funds from an ESA are used to pay K-12 expenses and the beneficiary goes to college, any balance remaining in the account could be used toward the beneficiary's higher education expenses or transferred to the beneficiary's QTP.

[37] Some have suggested that, rather than drawing upon a college- bound student's ESA to pay K-12 expenses, the account should be allowed to continue to grow. About the time a child starts elementary school, for example, a $2,000 contribution made each year for 6 years to an ESA that earned 6% per year would have grown to just $13,951, with the great majority of the balance accounted for by contributions. The preferential tax treatment accorded ESAs would produce only $210 in additional interest for a family in the 10% tax bracket and only $618 in additional interest for a family in the 30% tax bracket.¹⁹ Thus, the expansion of the tax deferral to saving for K-12 expenses generally and elementary school expenses particularly appears to be of limited immediate value to families.

[38] Observations. Because the preferential tax treatment of ESAs is worth more to higher income families, they are more likely to establish them than are lower income families. Higher income families also are more likely to set up ESAs because they have a greater propensity to save than lower income families. The $220,000 income ceiling on contributions by joint tax filers suggests that affluent families would not be subsidized; however, others (e.g., lower income individuals, including their children, or tax-exempt organizations) may contribute the full $2,000 annually to the ESAs of dependent children in families whose income is in the phase-out range (incomes of $190,000-$220,000 for joint filers). In contrast, the tax provision is of no benefit to families with such low incomes that they (a) are unable to save or (b) do not pay tax on savings because their incomes are completely offset by the standard deduction and personal/dependent exemptions. It thus appears that expansion of ESAs to elementary and secondary school expenses will be of more assistance to higher than to lower income families.

[39] Although the tax-deferred savings accounts will enable families to accumulate more money for K-12 education expenses than they otherwise would have, the amount of the tax benefit is probably too small to affect a family's decision about whether to send their children to public or private school. The influence of the ESA on a family's choice of school will be even less significant if the account is drawn upon for elementary school expenses and if less than the maximum is contributed each year. In terms of school choice, then, the main outcome of extending the ESA to pay for K-12 education expenses may be to slightly subsidize higher income families who might have sent their children to private school anyway.

[41] Some of the credits would be refundable, while other would be nonrefundable. In general, a refundable credit is not limited by the taxpayer's regular tax liability; the taxpayer can receive the full value of the credit for a given income even if it exceeds his/her liability.²¹ For example, if a family had a regular tax liability of $1,000 and a $1,400 refundable credit, the credit would eliminate the liability and the Internal Revenue Service (IRS) would send the taxpayer a check for the remaining $400. In contrast, a nonrefundable credit is limited by the taxpayer's regular tax liability.²² Thus, if a family had a regular tax liability of $1,000 and a single nonrefundable credit of $1,400, the credit would eliminate the liability but the taxpayer would not receive the outstanding balance. If the taxpayer had several nonrefundable credits, the regular tax liability limitation would apply to all of them taken together.²³

[42] Some of the bills described below would modify an existing nonrefundable credit or propose a new nonrefundable K-12 credit (H.R. 253, H.R. 2410, and S. 1414). Others would authorize a new refundable credit (H.R. 257, H.R. 315, H.R. 3685, S. 488, and the Administration's proposal).

Proposals to Amend Existing Tax Credits

[43] Mirroring the ESA's legislative history, some of the bills introduced to date would extend already existing tax credits to elementary and secondary education expenses. H.R. 253 would amend the DCTC and H.R. 2410 would amend the Hope Scholarship Credit.

[44] Families with employment-related expenses incurred for the care of a dependent child under age 13 can claim the Dependent Care Tax Credit (DCTC). (The care may also be for a spouse or a dependent of any age who is disabled.) Qualifying expenses normally are limited to the earned income of the parent or, in the case of married couples, of the lesser-earning spouse. Covered expenses can include the education costs only for children attending preschool and only if they are incidental to and cannot be separated from the cost of caring. For 2002, the stated maximum DCTC is 30% of qualifying expenses up to $2,400 for one child (i.e., $720) and up to $4,800 for two or more children (i.e., $1,440). The subsidy rate is gradually reduced for taxpayers with incomes that exceed $10,000 until it reaches 20% for taxpayers with incomes over $28,000. Since the DCTC is nonrefundable, however, taxpayers whose entire tax liability is eliminated by their standard deduction and their personal/dependent exemptions do not benefit from it. In 2002, a single parent with one child having income up to $12,900 would have no tax liability due to these factors; the largest credit this taxpayer could claim is $600 (i.e., $2,400 x 25% subsidy rate) if her income were at least $18,900 but not over $20,000.²⁴ Similarly, taxes on the first $19,850 of income for a married couple with two children would be offset by these factors; the largest credit they could technically claim is $960 ($4,800 x 20% subsidy rate) if their income were at least $29,400. Beginning in 2003, taxpayers will be able to claim a credit equal to 35% of qualifying expenses up to a ceiling of $3,000 for one child (or $1,050) and $6,000 for two or more children (or $2,100). The stated subsidy rate of 35% will gradually fall for taxpayers with incomes above $15,000 until it reaches 20%. As in 2002, however, taxpayers whose entire liability is eliminated by their standard deduction and their exemptions will not benefit from it, and others with low tax liability will have their credit similarly reduced.

[45] H.R. 253 would modify employment-related expenses to include the cost of educational activities provided while children are being cared for, as well as the cost of transporting them to the place where care is provided in certain instances. It would increase the credit to 40% of up to $3,600 of qualified expenses for taxpayers with one child and $6,000 for taxpayers with two or more children. Also, the phaseout of the subsidy rate (down to 10%) would begin for taxpayers with incomes that exceed $50,000. Thus, families with incomes of up to $50,000 would be able to claim a credit of up to $1,440 for the educational expenses of one child and up to $2,400 for two or more children. Families with incomes of $110,000 or more would be able to claim a credit of $360 for one child and $600 for two children.²⁵

[46] The Hope Scholarship Credit currently applies to the qualified tuition and related higher education expenses of each eligible student in the taxpayer's family.²⁶ The nonrefundable credit may be claimed for 100% of the first $1,000 of qualified expenses and for 50% of the next $1,000 (indexed for inflation). Eligible students are defined as those enrolled, on at least a half-time basis, in a higher education program leading to a degree, certificate, or credential. Eligible students cannot have completed their first 2 years of undergraduate education, and the credit can only be claimed for the first 2 years of postsecondary school. Eligibility to claim the credit is phased out for individuals with incomes between $40,000 and $50,000 (between $80,000 and $100,000 for joint filers).

[47] H.R. 2410 would expand the definition of qualified tuition and related expenses to include elementary and secondary school expenses, as defined for ESAs (see page 8 of this report). It also would make explicit that homeschools are considered schools for purposes of the credit. Additionally, it would define qualified K-12 education expenses to include contributions or gifts to a public or private school, other than a homeschool, that the taxpayer's dependent attends. The bill, however, neither modifies the definition of eligible student nor the limitations on the credit as described above.

Proposals for New Tax Credits

[48] H.R. 257, the Education Empowerment Tax Credit Act, would authorize a refundable credit of up to $1,000 for qualified K-12 education expenses for each qualifying child. Allowable expenses would include tuition and fees, books, academic tutoring, special needs services, computers and computer equipment (including software and services), and educational supplies connected with the enrollment of a qualifying child at a public or private elementary or secondary school (including religiously affiliated schools and homeschools). Fees for nonacademic activities and sports would be excluded.

[49] H.R. 316, the Children's Education Tax Credit Act, would allow an individual to claim a refundable credit of up to $1,500 for qualified K-12 education expenses for each qualifying child. Allowable expenses would include tuition and fees, tutoring, books, supplies, computer equipment (including related software and services) and other required equipment connected with the enrollment of a qualifying child at a public or private elementary or secondary school (including religiously affiliated schools and homeschools). Expenses for meals and lodging would be excluded from allowable expenses, as would tuition and fees for homeschooling. The bill would limit eligibility to individuals with dependent children who receive or are eligible to receive free or reduced-price meals under the Richard B. Russell National School Lunch Act or the Child Nutrition Act of 1996.²⁷

[50] H.R. 3685, the Education, Achievement, and Opportunity Act, would authorize a refundable credit of up to $2,500 for qualified elementary school educational expenses, and up to $3,500 for secondary school educational expenses, for each qualifying child attending a public or private school (including religiously affiliated schools and homeschools). Educational expenses would cover tuition and fees; computers, educational software, computer support services, and books required for instruction; academic tutoring; special needs services; transportation fees; and academic testing services. Fees for nonacademic activities and uniforms would not be treated as allowable expenses. Homeschooling expenses would only be covered if the qualifying student is administered the academic assessments otherwise required of students attending the nearest public school. The value of the credit would be phased out for single filers whose income exceeds $75,000 ($150,000 in the case of joint filers).

[51] S. 488, the Education Opportunity Tax Credit Act, would allow an individual to claim a refundable credit of up to $1,500 per qualifying dependent enrolled full-time in a K-12 school, or $2,000. Allowable expenses would cover mentoring and computer technology or equipment, including Internet access and related services.

School is defined as any public, charter, private, religious, or homeschool that offers an elementary or secondary education as determined by state law.

[52] S. 1414, the Parent and Teacher Achievement Act of 2001, would authorize a nonrefundable credit of up to $1,000 for qualified K-12 education expenses for each qualifying student. Allowable expenses would be the same as those for Coverdell ESAs (see page 8 of this report). Qualifying students would include the taxpayer's dependent children, as well as the descendants of a taxpayer's children (i.e., grandchildren), among others.²⁸ While the maximum credit that could be claimed per qualifying child is $1,000, only $500 could be claimed for tuition expenses. Although the credit would not be limited to taxpayers with incomes below a specified amount, another tax provision in the bill is intended to help low-income families send their children to a school of their choice. It will be discussed later in the report.

[53] In its FY2003 budget request, the Administration proposed authorization of a refundable tax credit of 50% of the first $5,000 of qualifying educational expenses (i.e., up to $2,500) per child for certain costs associated with attendance at different schools for children assigned to public schools that fail to make adequate yearly 29 Allowable expenses associated with students progress (AYP) on state assessments.²⁹ Allowable expenses associated with students attending a qualifying school appear to be the same as for Coverdell ESAs (see page 8 of this report), but would exclude tuition and fees for attending any public school within the same LEA as a student's assigned local school.

[54] A qualifying school would be any public school (other than the local school), including a public charter school, that made AYP during the prior year, a private (including religiously affiliated) K-12 school, or a homeschool. A qualifying student would be one who attended, at the close of the prior school year, a public elementary or secondary school identified as failing to make adequate yearly progress for that year according to the terms of the ESEA, as amended by P.L. 107-110. In addition, a student newly assigned to a school identified as failing to make adequate yearly progress for the prior school year would be considered a qualifying student. Such students generally would continue as qualifying students from year to year, even if their local school ceased to be identified as failing, until such time as they would be assigned to a different school that had made adequate yearly progress (e.g., being newly assigned to a successful high school). A qualifying child would be defined as a taxpayer's son, daughter, stepson, stepdaughter, sibling, stepsibling (or descendant of such individuals), or foster child, who shared the same principal residence as the taxpayer for more than half of the tax year.

Equity, Windfalls, and the Affordability of Private Schools

[56] The Issue of Refundability. A refundable credit takes the incidence of income tax liability out of the equation in determining which families benefit. All families with K-12 expenses would be entitled to the full amount of the credit regardless of how much or how little income tax they owe the government. The government would forgo revenue from families whose tax liabilities equal or exceed elementary or secondary school expenses. It would draw upon the U.S. treasury to pay families the amount by which their eligible education expenses exceeds their income tax liabilities. The refundability feature thus provides low-income families the opportunity to make use of an elementary and secondary education credit.

[57] In contrast, a nonrefundable credit is unlikely to be of much help to low-income families as one must have an income tax liability against which to apply eligible expenses. The overall limitation on nonrefundable credits in the tax code could further reduce the usefulness of a nonrefundable K-12 education credit for those families with small tax bills and large "competing" credits. If the total of such nonrefundable credits as the DCTC and higher education credits meets or exceeds a family's income tax liability, it could be unable to claim a K-12 education credit.

[58] The only bill described previously that would authorize a new nonrefundable credit for elementary and secondary school expenses contains another tax provision intended to help low-income families send their children to a school of their choice. S. 1414 would give a nonrefundable income tax credit equal to 75% of the charitable contributions made to school tuition organizations (STOs) by individuals (capped at $500 for single filers and $1,000 for joint filers) and corporations (capped at $100,000). These entities, in turn, would award tax-free scholarships to K-12 students eligible for the federal free or reduced-price school lunch program.

[59] Several other bills introduced during the 107th Congress also would provide nonrefundable credits to those who make charitable contributions to STOs, among other things. The credit for contributions to STOs contained in H.R. 1681 appears to be the same as in S. 1414. H.R. 1029/S. 462's credit to fund STOs could not exceed $250 in the case of a single filer and $500 in the case of a joint filer. H.R. 370 sets a higher ceiling, namely, $3,000. H.R. 1029/S. 462 and H.R. 370 would not limit the family income of K-12 students to whom the STOs could give grants.

[60] A scholarship program funded through a nonrefundable credit against state income tax has operated in Arizona since 1998. According to a Cato Institute study, the STOs in the state appear to focus their scholarships on students already enrolled in private school.³⁰ Most neither accept applications from all students nor give awards to students that enable them to attend any private school in the state. Instead, Arizona's STOs typically serve particular groups of students, such as those with a given religious affiliation and those enrolled in affiliated private schools or in specific types of schools (e.g., Montessori). Another study also found that Arizona's tax-funded scholarships mostly go to students who are enrolled in private schools rather than being used to expand the school options of families who, because of limited incomes, cannot afford to transfer their children from public to private schools.³¹ This finding has prompted some to suggest that families who may not be in need of government assistance to send their children to private schools are benefitting from the taxpayer- financed tuition grants, and that this could be related to the program's design. Arizona's STOs are not required to award scholarships based on financial need; and although taxpayers who claim the credit cannot designate that their contributions to STOs be used for their own dependents, taxpayers can make designations for other children (e.g., affluent Family X designates its contribution for the child of a neighbor who, in turn, does the same for a child of Family X). It does appear, however, that

[62] Targeting the Credit to Certain Families. Depending upon their design, K-12 education credits or scholarships of STOs funded through a newly authorized credit could benefit families who would have sent their children to private schools anyway. One means of limiting windfalls is to target the tax benefit to families according to income.

[63] H.R. 257, S. 488, S. 1414, and the Administration's tax credit proposal do not include income as an eligibility criterion. Instead, the Administration would focus eligibility on families whose children, in the previous year, attended a school that failed to make AYP on state academic assessments and who would be assigned to the same or another failing school for the current academic year. The credit would thus be available only to those families whose children were not being afforded a quality public education, as judged according to government standards. Some view this targeting mechanism as a proxy for income based on the assumption that few higher income families will be eligible for the credit because they are unlikely to have children in public schools that fall below minimally acceptable standards. Others believe, in contrast, that implementation of the recently enacted ESEA accountability requirements will result in large numbers of schools being identified as failing schools; if true, the Administration's proposal could have a broader focus than low-income families.

[64] To limit the tax credit to families that would encounter financial difficulties if they sent their children to private schools, H.R. 316's credit could be used only by families whose children receive or are eligible to receive free or reduced-price school meals. As described in more detail earlier (see footnote 27), these are families with incomes below $27,066 for a family of three and below $32,653 for a family of four in the 2001-2002 school year. The U.S. Department of Agriculture (USDA) estimates that some 15.5 million children received free or reduced-price lunches in FY2001. LEAs certify more children as eligible for the program than actually participate, however: the USDA estimates that some 19.7 million children were approved as eligible for free or reduced-price lunches in FY2001. LEAs certify more children as eligible for the program than actually participate, however: the USDA estimates that some 19.7 million children were approved as eligible for free or reduced-price lunches in FY2001.³⁴ While the larger number could represent the pool of children eligible for H.R. 316's credit (and S. 1414's scholarship program), the method used to determine eligibility might effect the size of the population. Under current school lunch program rules, families are certified eligible based on their portrayal of their total annual cash income (a "selfdeclaration" approach); only a very small sample is chosen for verification. Recent USDA reviews of data reported by schools and derived from the Current Population Survey (CPS) strongly suggest that the number of children certified eligible under the self-declaration approach is substantially higher than the CPS estimates based on family income below the appropriate cut-off points -- 27% higher in 1999.³⁵ Thus, if eligibility for the credit were determined by comparing family income limits of the free/reduced-price meals program with family income reported in tax filings, fewer children than certified by LEAs could be eligible for the credit.

[65] Of the proposals that include an income criterion directly, all have much higher ceilings than does the free and reduced-price school lunch program. The proposal to amend the DCTC (H.R. 253) would allow the full credit for families with incomes of $50,000 or less. The value of the credit would be reduced, but not eliminated, for higher income families. The proposal to amend the Hope Scholarship Credit (H.R. 2410) would allow families with incomes of $40,000 or less ($80,000 or less when filing jointly) to claim the full credit. The amount of the credit would diminish until a family's income reached $50,000 ($100,000 when filing jointly), at which point it could no longer be claimed. H.R. 3685 would not begin to reduce the value of the credit until a family's income reached $75,000 ($150,000 when filing jointly). Families with incomes of up to $124,000 ($199,000 when filing jointly) would be able to claim a partial elementary school credit, and those with incomes up to $144,000 ($219,000 when filing jointly) would be able to claim a partial secondary school credit.

[66] The Affordability of Private Schools. As discussed earlier, allowable expenses for which a K-12 education credit could be claimed are broadly defined in the proposals to include many more costs than tuition. If the credit is used to send a child to a school of choice, however, the greatest expense to a family likely would be tuition. The limited data that are available on private school education expenses suggest that, in many instances, tuition alone would exceed the maximum amounts of the proposed tax credits, which are between $1,000 and $3,500 per child. Similarly, if the average scholarship of $1,049 that CSF reportedly awarded to students beginning in the 1999-2000 school year can be taken as a guide for grants funded through a newly authorized credit for charitable contributions to STOs, then tuition alone would also exceed the typical amount of scholarships.³⁶

[67] The most recent data from the National Center for Education Statistics (NCES) indicates that in school year 1993-1994, private elementary school tuition ranged between $1,572 and $3,773 for elementary school, and between $3,699 and $10,488 for secondary school. (See Table 1.) Given the effect of inflation, tuition is undoubtedly higher today. Upon the addition of other education expenses commonly associated with private school attendance (e.g., uniforms and transportation), even a tax credit of as high as $3,500 would often fall well short of a family's total annual cost. This raises doubts about its effectiveness at providing low-income families with viable school choices. Partial payment of K-12 education expenses either through a tax credit or scholarship could, however, be sufficient for families on the margin of private school affordability to decide to transfer their children from public schools.

[68] The prospect of partial coverage of education costs would not only limit a tax credit's or scholarship's utility to lower income families, but it also would likely affect the type of schools families select. As shown in Table 1, religiously affiliated schools charge lower tuition than nonsectarian private schools. The typically lower tuition of religiously affiliated schools could make them more attractive to families compared to either nonsectarian private schools or out-of-boundary public schools, which also usually charge comparatively high tuition. This possibility has caused some to express concern about church-state entanglement even though the credit would be neutral on its face about the type of school parents choose.

[71] The Administration's proposal is the only K-12 credit for which budget effects have thus far been developed. For qualified expenses incurred beginning with the 2002-2003 school year and extending through the 2006-2007 school year, the Joint Committee on Taxation (JCT) estimates that the President's proposal will cost $295 million through FY2007 in the form of revenue forgone and refunds.³⁷ In contrast, the Treasury Department estimates that the credit could have receipt and outlay effects of $3.5 billion over the same period.³⁸ The marked difference in these estimates principally is due to their different assumptions about the credit's take-up rate (i.e., the proportion of families with eligible students that will claim the credit). About 95 cents of every dollar the Treasury Department estimates the credit will cost the government is expected to be in refunds to families with little or no income tax liability, which reflects the expectation that a substantial share of low-income families will be financially able to pay up to $5,000 in qualified expenses in order to later get back up to $2,500. The JCT appears less persuaded that very many families with children in failing schools possess the financial resources that would enable them to incur educational expenses for which they will only be partially reimbursed sometime later. At least in part because of this design feature, the JCT expects far fewer families will utilize the Administration's proposed K-12 education credit.

[72] The other proposals would not condition eligibility for a K-12 education credit on the school that a child currently attends. That is to say, families with children in public and private schools (including, in some cases, homeschools) could be eligible for a credit against the price of a computer or the fee of academic tutors, among other things. The sheer number of eligible families could result in a much larger tax expenditure on the part of the government: the NCES estimates that, in 2000, there were approximately 54 million children attending public and private elementary and secondary schools (including homeschools).

[73] A K-12 education credit could promote greater educational equity among those families whose children would continue to attend public schools. For example, as a result of the credit, more low- income families might be able to afford a computer for their children to use at home. Alternatively, some higher income families might claim the credit for buying a faster computer with more memory, a larger monitor, and better speakers than their children actually need for educational purposes. The potential for this unintended behavior, and for the heightened cost to government that would accompany it, is greater in the case of a credit than in the case of the Coverdell ESA where people are spending their own money.

[74] An elementary and secondary education tax credit could well impose costs that extend beyond the federal budget. It would place an added burden on the IRS, including the drafting of new or amended tax forms and the issuance of regulations. The credit design in some bills could be more onerous than others if administered properly. For example, the Administration's proposal limits use of the credit to students in failing schools; presumably, the IRS would have to verify that schools fit the definition to ensure that only legitimate claims are paid. Similarly, H.R. 316 and S. 1414 target students eligible for free and reduced-price school meals; the IRS might have to determine for itself from the income figures on families' tax returns whether their children are eligible for the program or require that LEAs provide families with documentation of their children's eligibility for inclusion with their tax forms. (Not all LEAs currently provide documentation.)

[75] A K-12 education credit also could impose costs on eligible families. To the extent the above-described proposals define terms differently from their current definition in the Internal Revenue Code, it could cause confusion among tax filers. Overlapping definitions of qualified expenses between the ESA and a K-12 education credit also could make it difficult for families to decide when to use funds from their accounts and when to claim a credit. The complexity of tax filing could increase, as well, due to the typical requirement that the use of tax subsidies be coordinated.³⁹ In addition, recordkeeping burdens would increase as taxpayers would have to substantiate qualified expenses. Depending on the particular bill, families could encounter other costs (e.g., under the President's proposal, parents would need to "monitor new local schools to know whether the qualifying student could attend such school as a result of passing into a higher grade").⁴⁰

[77] Alternatively, a nonrefundable credit is regarded by some as taxpayers retaining their own money. Because no claim is made "on someone else's wallet," it allegedly would not provide the government an opportunity for further regulation of elementary and secondary education.⁴¹ A similar logic is applied to nonrefundable credits and church-state separation: because a nonrefundable credit allows taxpayers to keep some of their own income, the money does not enter the public coffer, and thus, does not reflect government support of religion.⁴² There is disagreement over this distinction between refundable and nonrefundable credits, however.

[79] Market-Oriented Competition. It is argued that providing families with a tax credit for elementary and secondary school tuition that allows them to enroll their children in the school of their choice will stimulate competition among public and private schools that will lead to improvement in overall quality. For example, schools that prove attractive to parents because they offer a higher quality education per dollar of spending would be expected to draw students away from less productive schools. As a result, either lower achieving schools would close their doors, replaced by the more efficient schools, or they would succeed by increasing their productivity and maintaining their student bodies. Either way, the reasoning goes, school choice could improve the quality of K-12 education for all students whether enrolled in public or private schools.⁴³

[80] To a degree, competition and choice already exist in the elementary and secondary education marketplace. Some metropolitan areas are served by multiple school districts, and fee-based schools exist along side regular public schools. Wealthier families and those who place a premium on education thus can determine which are the best schools for their children and send them there, either by residing in the attendance area of the selected public school or by paying tuition to enroll their children in the selected private school. Those with fewer financial resources are less likely to be able to locate in a district with high-quality public schools or to send their children to alternatives to regular public schools. Some proponents of market-based reforms believe that providing a tax credit for educational expenses will create a more level playing field among families.

[81] Others dispute the idea that a tax credit would make K-12 education markets more equitable. They assert that a credit which is not well-targeted on low-income families could induce additional middle and upper income families to enroll their children in private schools; this, in turn, could shut out lower income students' access to the available spaces (especially if the credit does not cover educational expenses in full). Children from low-income families thus would be relegated to public schools or the least desirable private schools, unaccompanied by middle and higher income classmates. With relatively more children from middle and upper income families attending non-public schools, those who hold this viewpoint argue, support for the funding of public schools could waver and the quality of public education could deteriorate (especially in areas with high proportions of low-income children). Thus, critics of a tax credit believe it would exacerbate rather than ameliorate inequities in the quality of education available to children of different segments of society.

[82] Not only do students compete for schools, but schools also compete for students. At present, nonpublic schools may selectively admit students, giving preference, for example, to those who score well on admissions exams, whose siblings currently are enrolled in the schools, or who are members of a particular religious denomination. Many private schools do not offer costly programs that serve special needs students, nor are they required to. Private schools also can dismiss students for unruly behavior more easily than can public schools. It might be expected that increased competition would encourage private schools to maintain selective admissions criteria in order to bolster their market appeal.

[83] The increased competition that could be fostered by a tax credit might, according to some observers, lead to sorting among schools based on the characteristics of the students they serve. If it were more efficient for schools to tailor their academic programs to a fairly homogeneous student body (e.g., with like abilities or interests), they might limit the programs offered, with different schools targeting different students. For example, some schools might offer International Baccalaureate and Advanced Placement Programs, while others might focus on basic skills or vocational programs. Private schools might opt to admit the easiest to educate students (i.e., skim) and defer to public schools the obligation to serve those who are more costly or difficult to educate, including disadvantaged students, students with disabilities, and students with behavioral problems.

[84] Some of these potential market effects likely would vary according to the characteristics of the K-12 education tax credit. For example, if a credit were large enough to cover nearly all the costs of attending a private school and if eligibility were limited to low-income students, certain effects described above might be less acute (e.g., pricing out of the market those with the least ability to pay). The impact of competition could be further mollified by limiting eligible schools to those that do not discriminate among students in admissions and by requiring that students be admitted on the basis of a lottery when schools are oversubscribed. While the imposition of additional statutory limitations on the eligibility of families might buffer some of the potential negative consequences of market competition, it also might impede some of the anticipated benefits.

[85] Supply and Demand Effects. as noted earlier, a K-12 education credit would allow families to apply a portion of their income toward educational expenses that they otherwise would have applied toward taxes. Consequently, the demand for private school education could increase in the short-run and produce an increase in the supply of private school education in the long-run. Private schools could accommodate the immediate demand shock fairly easily in areas with excess capacity, as happened with the voucher programs in Cleveland and Milwaukee. In those areas in which the initial spike in demand surpasses the currently available supply, families potentially could bid up the cost of private schools to the point where lower income families are denied access.

[86] Sustained demand for private school education eventually would be expected to lead to the opening of more private schools. Tuition in new private schools might be somewhat higher than currently charged because many private schools, especially those that are religiously affiliated, now set tuition substantially below the cost of the education they provide. They are able to do so because many of the operating and facilities costs of religiously affiliated schools are subsidized by charitable contributions and because some staff may work for less than the prevailing wage out of a devotion to serve the faith or may have a portion of their salaries paid by the church rather than by the school. Many private schools, both secular and religious, have endowments which may be used to hold down tuition costs. If more private schools opened, however, they could dilute the pool of charitable contributions and the level of endowments, thereby causing tuition to rise. The extent to which tuition might rise is uncertain.

² For a more in-depth review of school choice issues, see CRS Issue Brief IB98035, School Choice: Current Legislation, by David P. Smole.

³ A federal appeals court has found the program, in which publicly funded vouchers are used for tuition at religiously affiliated schools, to be in violation of the establishment clause of the first amendment to the U.S. constitution. For more information, see CRS Report 98-163, The Law of Church and State: Public Aid to Sectarian Schools, by David M. Ackerman.

⁴ Supplemental educational services are educational activities provided outside of normal school hours that are designed to augment or enhance the educational services provided during regular periods of instruction. For additional information on supplemental educational services, see CRS Report RL31329, Supplemental Educational Services for Children from Low-income Families, by David P. Smole.

⁵ The Dependent Care Tax Credit (DCTC) is not discussed at this point because, in its cuffent form, it is not principally intended to assist parents with K- 12 education expenses. Legislation that would modify the DCTC to include education expenses of children in kindergarten or higher grades is discussed later in this report.

⁶ Finn Jr., Chester E., and Kelly Amis. Making It Count: A Guide to High-Impact Education Philanthropy. Thomas B. Fordham Foundation, September 2001; and Ladner, Dr. Matthew. Just Doing It 5. Children First America, July 21, 2001.

⁷ The income criteria are based on the national poverty level and guidelines for the federal school lunch program. For a family of two, for example, the income eligibility criteria was $29,295; for a family of four, $44,415. For more information, see [http://www.scholarshipfund.org/index.asp].

⁸ A dependent child is a son, stepson, daughter, or stepdaughter of an employee or former employee who is claimed as a dependent or whose parents are deceased.

⁹ The rule for S-corporations is different since they are not taxable entities.

¹⁰ Figures are from the AAFRC Trust for Philanthropy's Giving USA 2001 as shown at [http://www.aafrc.org].

¹¹ Surveyed education organizations include colleges, K-12 private schools, non-profit nursery schools, libraries, and tutoring programs.

¹² Deposits may be made to the ESAs of special needs beneficiaries regardless of their age. Special needs beneficiaries include persons who, due to physical, mental, or emotional condition including learning disabilities, require a longer period for the completion of their education.

¹³ The preferential tax treatment accorded ESAs was worth $5,904 in additional interest to the family with a 30% marginal tax rate and $2,073 in additional interest to the family with a 10% marginal tax rate. (The calculation assumes that the entire $2,000 contribution is deposited into the ESA at the end of each year starting in the year the child is born through the year the child reaches age 14.)

¹⁴ Expenses for computer software designed for sports, games, or hobbies are not covered unless it is mainly educational in nature.

¹⁵ Colorado, Florida, Maine, Virginia, West Virginia, and Utah consider groups of homeschools to be private schools but individual homeschools in these states are not deemed private schools, according to the Home School Legal Defense Association.

¹⁶ One rollover is allowed per ESA during the 12-month period ending on the date of the payment or withdrawal. Family members are the original beneficiary's spouse; children, grandchildren, and stepchildren; brothers, sisters, stepbrothers, stepsisters; parents, stepparents, and grandparents; aunts and uncles; nieces and nephews; sons-in-law, daughters-in-law, fathers- in-law, mothers-in-law, brothers-in-law, and sisters-in-law; spouses of the aforementioned individuals; and first cousins of the original beneficiary.

¹⁷ The age limit does not apply to special needs beneficiaries.

¹⁸ For more information, see CRS Report RL31214, Saving for College Through Qualified Tuition (Section 529) Programs, by Linda Levine.

¹⁹ With the tax-free treatment, interest would have grown to $1,951. if a family with a 10% marginal tax rate instead had to pay tax annually on the investment, the interest would have totaled $1,741; a family with a 30% marginal tax rate, $1,333. (The calculation assumes that the entire $2,000 contribution is deposited into the ESA at the end of each year starting in the year the child is born through the year the child reaches age 5.)

²⁰ A deduction, in contrast, reduces the amount of income against which tax is imposed. Thus, the value of a deduction (i.e., how much it lowers income tax liability) depends on a taxpayer's marginal tax rate.

²¹ Regular tax liability is determined by multiplying taxable income by the appropriate tax rate. The general formula for calculating federal income taxes appears in the Appendix.

²² Technically, nonrefundable personal tax credits are limited to the excess of the regular tax liability over the tentative minimum tax. In 2002, the minimum tax limitation would not apply to married-couple joint filer families with gross incomes under $49,000 or to single-parent families with gross incomes under $35,750.

²³ Unused portions of certain nonrefundable personal credits may be carried forward to subsequent years.

²⁴ With an income of $18,900, the single parent's regular tax liability would be $600 -- ($18,900 - $12,900) x 10% -- which would be completely offset by the credit. With less income, the tax liability would be lower and so would the credit. With income over $20,000, the subsidy rate would be less than 25%.

²⁵The bill also would expand the Dependent Care Assistance Program (DCAP) to cover educational expenses of children under age 13. The program currently allows employees to exclude from gross income up to $5,000 annually in employer dependent care assistance (e.g., child care services) when determining their income tax liability. For more information, see CRS Report RL30081, Child Care Subsidies: Federal Grants and Tax benefits for Working Families, by Thomas Gabe, Bob Lyke, and Karen Spar.

²⁶For information on the Hope Scholarship Credit, see CRS Report RL31129, Higher Education Tax Credits and Deduction: An Overview of the Benefits and Their Relationship to Traditional Student Aid, by Adam Stoll and James B. Stedman.

²⁷Children from families with incomes below 130% of the inflation-indexed federal poverty guidelines are eligible for free lunch subsidies (e.g., for the 2001-2002 school year, $19,019 for a family of three, and $22,945 for a family of four). Children from families with incomes between 130% and 185% of the federal poverty guidelines are eligible for reduced price lunch subsidies (e.g., between $19,019 and $27,066 for a family of three, and between $22,945 and $32,653 for a family of four). For more information, see CRS Report 98-25, Child Nutrition Programs: Background and Funding, by Joe Richardson.

²⁸In addition to taxpayers' children, stepchildren, and grandchildren, they could claim the credit for the following relatives: spouses; brothers, sisters, stepbrothers, and stepsisters; parents, stepparents, and grandparents; aunts and uncles; nieces and nephews; and sons-in-law, daughters-in-law, fathers-in-law, mothers- in-law, brothers-in-law, and sisters-in-law.

²⁹For additional information on AYP, see CRS Report RS21094, Adequate Yearly Progress Under ESEA Title I: Estimates for Three States Based on Specifications in H.R. 1 Conference Agreement, by David P. Smole and Wayne C. Riddle.

³⁰Lips, Carrie, and Jennifer Jacoby. The Arizona Scholarship Tax Credit: Giving Parents Choices, Saving Taxpayers Money. Cato Institute, Policy Analysis No. 414, September 17, 2001. (Hereafter cited as Lips and Jacoby, The Arizona Scholarship Tax Credit.)

³¹Wilson, Glen Y. The Equity Impact of Arizona's Education Tax Credit Program: A Review of the First Three Years (1998-2000). Education Policy Studies Laboratory, Research Report, March 2002.

³²Lips and Jacoby, The Arizona Scholarship Tax Credit.

³³The subject of how well eligibility in the school lunch program approximates the low-income student population is addressed on page 16 in connection with H.R. 316.

³⁴An unduplicated count of children eligible for free or reduced-price meals under all the programs covered in the Richard B. Russell National School Lunch Act and the Child Nutrition Act is not available. They cover lunches and breakfasts served in schools and in residential child care institutions through the School Lunch and School Breakfast programs, in addition to meals served in after- school settings as well as in day care centers and family day care homes.

³⁵Frost, Alberta. Office of Analysis, Nutrition, and Evaluation, Food and Nutrition Service, U.S. Department of Agriculture. Free and Reduced Price Certification: An Update. A presentation delivered at the American School Food Service Association's Legislative Action Conference, March 2002. Available at [www.fns.usda.gov/cnd/menu/whatsnew].

³⁶Families typically paid another $1,315 resulting in average tuition of $2,364, as reported by Marjorie Coeyman in: Vouchers Stay Visible. Christian Science Monitor, September 11, 2001. Note: The average scholarship awarded by STOs in Arizona for the 2000-2001 school year was $856, or about 28% of average private school tuition in the state in that year, according to Lips and Jacoby, The Arizona Scholarship Tax Credit.

³⁷Joint Committee on Taxation. Estimated Budget Effects of the Revenue Provisions in the President's Fiscal Year 2003 Budget Proposal. JCX-17-02. March 15, 2002.

³⁸Department of the Treasury. General Explanations of the Administration's Fiscal Year 2003 Revenue Proposals.

³⁹For example, the Administration's K-12 education credit could not be claimed for the same expenses paid with distributions from an ESA and H.R. 316 would require that qualified expenses be reduced by the amount of any tax-free scholarships.

⁴⁰Joint Committee on Taxation. Description of Revenue Provisions Contained in the President's Fiscal Year 2003 Budget Proposal. JCS-3-02. March 18, 2002. p. 35.

⁴¹Reed, Lawrence W. A New Direction for Education Reform. Mackinac Center for Public Policy. 2001. Available at [http://www.mackinac.org/].

⁴²Educational Tax Credits: Issues and Arguments. Available at [http://SchoolChoices.org/roo/taxcredits.htm].

⁴³Hoxby, Caroline M. School Choice and School Productivity (or Could School Choice be a Tide that Lifts All Boats?) National Bureau of Economic Research Working Paper 8873. April 2002.