Shocking Implications of Private School Tax Credits

Conservatives continue to push vouchers and private school tax credits, despite new research (summarized in a recent North Star article) indicating that this approach is counter-productive to improving student achievement. Minnesota is among the states considering expanding the K-12 education tax credit to include contributions by individuals and corporations to foundations that provide vouchers and other funding for private schools. If we do the math, it becomes apparent that a large portion—up to 82 percent—of these private contributions to private schools would be effectively paid for with public dollars.

The K-12 tuition credit falls into a broad category of off-budget spending known as “tax expenditures,” which are special features of the tax code that provide preferential tax treatment for some taxpayers, and thereby reduce the amount of revenue that would otherwise be generated. They are referred to as “expenditures” because they have the same impact on public budgets as direct expenditures.*

The level of public scrutiny between tax expenditures and direct expenditures differs. On the one hand, when a state tax dollar is spent through the appropriation process, the public—through their elected representatives—specify how these public dollars are to be used, with some dollars directed to high poverty districts, sparsely populated districts, and districts with declining enrollment, to name just a few examples of how public school spending is targeted to address specific public needs.

On the other hand, the level of public control over tax credits that go to individuals and corporations contributing to private schools and voucher programs is considerably less. Other than general requirements (e.g., foundations must provide scholarships to “eligible students,” scholarship applicants must not be charged a fee, schools to which scholarships are awarded must meet health and safety standards, etc.), there is relatively little direct public oversight over how public tax subsidies are used. For example, there is no guarantee that a portion of the tax dollars go to schools with the high concentrations of low income students or to schools that serve children in rural, sparsely populated areas. Nor are private schools that benefit from publicly subsidized contributions held to the same student achievement reporting standards as public schools.

In addition, unlike direct expenditure programs, which must be reauthorized by lawmakers every biennium, tax expenditures—like the private education tax credit—remain in force until they are repealed.

Furthermore, unlike public schools—which must accept all students—private schools that would benefit from publicly subsidized contributions are not required to admit students with special needs and learning disabilities. In other words, your tax dollars could be effectively subsidizing a school that your child is not allowed to attend.

The primary beneficiaries of this tax break are likely to be high-income households, to the extent that the benefit of tax credits provided to individuals and corporations that contribute to private schools resemble that of other charitable contributions. Based on a 2013 House Research Department analysis, two-thirds of the tax benefit resulting from itemized charitable contributions go to the top ten percent of Minnesota households by income, while no benefit accrues to the lowest thirty percent of households and one percent accrues to the bottom forty percent.

A feature of proposed tax credits that will further skew the benefit in the favor of high income filers is the cap on the total annual amount of the credit. For example, under some versions of the credit currently being considered in Minnesota, the total amount of the credit that can be distributed in a single tax year to all taxpayers statewide is $35 million. Because it is a first come, first served credit, the taxpayers who are most likely to benefit from it are wealthier filers with access to attorneys and tax accountants who would be first to have knowledge of and apply for the credit. Because the maximum credit amounts tend to be very high (for example, $105,000 for corporations and $21,000 for married joint filers), a relatively small number of large contributors could suck up the entire tax credit.

The tax benefit for the corporations and upper-income households is extraordinary. School tax credit programs proposed in Minnesota would allow a state tax credit equal to 70 percent of the amount contributed, so state tax dollars would be subsidizing the vast majority of these private educational choices. Furthermore, if we factor in federal deductibility, over 80 percent of additional contributions made by high income households and corporations could be borne by the public in the form of foregone state and federal tax revenues.†

Under these tax credit programs, large contributions to private school foundations will obviously become more appealing to corporations and high-income households, since the net cost to them will in some instances be less than twenty cents on the dollar. This will inevitably draw contributions away from other charities—such as food shelves, health promotion, disease research, and community foundations—that do not enjoy the benefit of a hugely generous tax credit.

In addition, private education tax credit programs like this will draw revenue away from state funded initiatives, including public schools. Despite increases in recent years, state aid to Minnesota school districts in the current fiscal year is still over ten percent (nearly $1,100 per pupil) less than it was in 2003 in constant 2017 dollars, based on the most recent information from the Minnesota Department of Education (MDE).‡ The decline in state funding has contributed to a growing special education cross-subsidy (i.e., the diversion of general education funds to pay for special education costs, which local school boards have little discretion to reduce) and to perennially tight school budgets. Siphoning away additional public tax dollars to fund vouchers in particular and private education in general will only compound the problems facing public schools.

Ultimately, these educational tax credits for individuals and corporations will result in de facto public funding of private educational choices, with relatively little public oversight over how the dollars are spent and without proof that student achievement goals are being met (or even adequately measured) or that teachers are fully qualified. In some instances, public dollars could be subsidizing institutions that have a political affiliation or social agenda. The public will not decide how these public tax dollars are spent, but rather private corporations and wealthy individuals, whose goals may not align with the public interest.

 

*For example, from the perspective of the state budget, the impact of a direct state grant that matches $1 of private spending with $1 of public spending has the same impact on the state general fund as a credit program that provides a $1 tax reduction for each $2 of private spending. In both cases, available general fund resources are reduced by $1. The only difference is that in the first instance, the $1 is spent through the appropriation process, while in the second it is spent through the tax code.

The education tax credit under some proposals would equal 70 percent of the qualifying private education contribution. In addition, for an individual filer subject to the top federal marginal tax rate of 39.6 percent, 30 percent of the contribution not covered by the credit could be deducted from federal taxable income, which would result in a federal tax reduction equal to 11.9 percent (30 percent times 39.6 percent) of the total contribution. For this tax filer, 81.9 percent of an additional contribution would be offset by some form of state or federal tax reduction, assuming enactment of a 70 percent Minnesota private education tax credit. For a corporation subject to the 35 percent marginal federal tax rate, 80.5 percent of an additional contribution would be offset by some form of state or federal tax reduction, assuming enactment of a 70 percent Minnesota tax credit. An additional feature of these tax credits would allow the tax credit to be carried forward for up to five years in case the amount of the credit exceeded the individual’s or corporation’s income tax liability in the tax year in which the contribution was made.

Fiscal year 2003 was chosen as the base year for this analysis because it was the first year that the state assumed nearly all general education costs in Minnesota through a large increase in state aid to school districts. The percentage reduction sited here is based on the most recent MDE analysis of school finance trends, which begins in FY 2003 and extends through FY 2017. The conversion to constant 2017 dollars is based on the implicit price deflator for state and local government purchases, as posted by MDE in its FY 2003-2017 financial trends spreadsheet.