Order Code RS20289
Updated March 24, 2000
CRS Report for Congress
Received through the CRS Web
Education Savings Accounts for Elementary and
Secondary Education
Bob Lyke and James B. Stedman
Specialists in Social Legislation
Domestic Social Policy Division
Summary
The Taxpayer Relief Act of 1997 (P.L. 105-34) authorized new education savings
accounts (“education IRAs”) for higher education expenses. From the time of
enactment, attempts have been made to raise the $500 annual contribution limit and
allow accounts to be used for elementary and secondary education, including private and
home schooling. Legislation to accomplish these objectives passed in 1998 but was
vetoed by the President (H.R. 2646 of the 105th Congress).
In the current Congress, education savings account provisions similar to those in
the 1998 measure are included in the Affordable Education Act of 2000 (S. 1134) that
the Senate passed on March 2, 2000 and in the Education Savings and School Excellence
Act of 2000 (H.R. 7) that the House Ways and Means Committee approved March 22nd.
Administration officials are recommending that either measure be vetoed if passed by
Congress. Comparable provisions had been in the Taxpayer Refund and Relief Act of
1999 (H.R. 2488) that the President vetoed on September 23, 1999.
The most prominent issue raised by education savings account legislation is whether
the federal government should assist families whose children are educated in private
schools or at home. Policy questions include what effect such assistance would have on
public schools and student performance, and whether it would be constitutional.
Concerns have also been expressed that the legislation would create compliance problems
and is most likely to benefit better-off families.
Current Law
Education individual retirement accounts (education IRAs) are investment accounts
for individuals that families can use to save for higher education expenses. The accounts
were authorized by the Taxpayer Relief Act of 1997 (P.L. 105-34) along with other
measures to help parents and students pay college costs. Contributions to education IRAs
Congressional Research Service ˜ The Library of Congress

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can be made until beneficiaries are age 18; the annual limit is $500, though this amount is
reduced and then eliminated for contributors with modified adjusted gross incomes
between $95,000 and $110,000 ($150,000 and $160,000 for joint returns). Contributions
are not deductible, but accounts are exempt from taxation and distributions are excluded
from beneficiaries’ gross income if used for qualified higher education expenses: tuition,
fees, books, supplies, equipment required for enrollment or attendance, and certain room
and board expenses.1 Qualifying expenses must be incurred at institutions eligible to
participate in federal student aid programs under Title IV of the Higher Education Act.
This includes nearly all public and private colleges and universities, as well as many
vocational and proprietary schools (for-profit trade schools). Distributions for other
purposes generally are taxable, and a 10% penalty applies. The exclusion cannot be
claimed the same year either the Hope or the Lifetime Learning credit is claimed for the
student (see CRS Report 97-915, Tax Benefits for Education in the Taxpayer Relief Act
of 1997). Remaining balances must be distributed when beneficiaries reach age 30.
New Legislation
The Affordable Education Act of 2000 (S. 1134) that the Senate passed on March
2, 2000, would change the education IRA provisions in a number of ways. Almost
identical changes would be made by the Education Savings and School Excellence Act of
2000 that the House Ways and Means Committee approved on March 22nd.2 Both bills
would raise the annual contribution limit from $500 to $2,000 and allow contributions to
be made up until the regular filing date for the tax year (normally April 15th). Distributions
would be tax-free if used either for qualified higher education expenses (as under current
law) or for qualified elementary and secondary education expenses. The latter would
include:
(1) tuition, fees, academic tutoring, special needs services, books, supplies,
computer equipment (including related software and services) and other
equipment which are incurred in connection with the enrollment or attendance
of the designated beneficiary of the trust as an elementary or secondary school
student at a public, private, or religious school, and
(2) room and board expenses, uniforms, transportation, and supplementary items
and services (including extended day programs) which are required or provided
by a public, private, or religious school in connection with such enrollment or
attendance.
These provisions would apply to students attending schools which provide kindergarten
through grade 12 education as determined under state law, including homeschooling if it
operates as a private or homeschool under state law (in S. 1134) or if it meets
requirements of applicable State and local law (in H.R. 7).
1 Qualifying expenses include contributions to state tuition programs.
2 Both S. 1134 and H.R. 7 would amend other tax provisions dealing with education (such as
exempting distributions from state tuition plans from taxation and allowing schools to set up
prepaid tuition plans); S. 1134 includes non-tax education provisions as well.

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Additional changes would include the following: (1) the accounts would be renamed
“education savings accounts”; (2) contributions to accounts of beneficiaries with special
needs (i.e., with disabilities) could occur after age 18 and their accounts could continue
after age 30; (3) contributors other than individuals (e.g., corporations) would not be
subject to income ceilings; (4) beneficiaries could exclude distributions from their accounts
and claim the Hope Scholarship or Lifetime Learning tax credit the same year (though not
for the same expenses); and (5) in S. 1134 only, eligibility for the credit for joint returns
would phase out between $190,000 and $220,000, not $150,000 to $160,000.
Issues
The most prominent issue raised by this legislation is whether the federal government
should assist families whose children are educated in private schools or at home. Concerns
have also been expressed that the amendments would create compliance problems and are
more likely to benefit affluent families.
Private and Home Schooling
Expanding education savings accounts to cover private elementary and secondary
school and home schooling expenses is a matter of contentious debate. To some
observers, it would be a significant departure from the traditional federal role in elementary
and secondary education, potentially contributing to a shift of enrollment and resources
from public schools; to others, it would be an appropriate addition to the nationwide
movement for more parental choice among schools. This section considers whether the
proposed expansion would be precedent setting and the extent of the assistance it might
provide. It also addresses the issues that arise within the school choice context, including
the impact on public schools, impact on student achievement, and constitutionality of
providing this aid.
Federal Assistance for Private Elementary and Secondary Education. S. 1134
and H.R. 7 would not provide the first federal subsidy for private schooling. Current tax
law allows a deduction for charitable contributions to private schools (for taxpayers who
itemize and corporations), and also exempts the income of those schools from taxation.
Scholarships are also not taxed unless used for room and board. In addition, many federal
education programs require states and local school districts to ensure that eligible private
school students and their teachers participate in federally funded services on an equitable
basis. These programs do not require that federally funded services be provided to
students being schooled at home, though some may permit local school districts to do so.
It could be questioned whether the proposed change would result in enough tax
savings to affect enrollment decisions; the principal effect might be to subsidize families
that would choose private schools anyway. Tax benefits might not be of consequence
unless maximum contributions were made each year and distributions were delayed until
the children were in secondary school. For example, $2,000 contributions made each year
and invested at 6% would increase in 5 years to $13,373 if earnings were taxed at 28%
and $13,950 if they were untaxed, a difference of only $578. After 10 years, the difference
would be $2,519. If the family were in the 15% tax bracket, the tax savings would be
$313 after 5 years and $1,381 after 10 years.

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Furthermore, only a portion of the aggregate subsidy for all families would likely go
to private or home schooling. Many families — even those with private school students
— might prefer to use their accounts only for higher education expenses. Of those that
withdrew funds earlier, many would still have children enrolled in public schools, using the
distribution for tutoring, books and supplies, etc.
School Choice. Expanding education savings accounts to include private schools can
be viewed as another option to increase family choice in elementary and secondary
education. The motivation for this effort arises from various sources, including
widespread dissatisfaction with the performance of public schools, a belief by some that
private schools are more effective educationally, a desire on the part of many parents to
create better matches between school programs and students’ abilities and interests, and
advocacy by some policymakers and others that, in principle, public funding be available
to schools that are not organized and run by governmental agencies.
Public financing or support of private school attendance is currently provided in a few
states and localities in the form of vouchers used to pay for private school expenses or tax
benefits. Publicly funded vouchers to finance enrollment at private schools, including
religiously affiliated schools, have been established in Florida (for students in failing public
schools), Wisconsin (for low-income students in Milwaukee) and Ohio (for low-income
students in Cleveland). Iowa and Minnesota provide state tax deductions for private
school tuition and fees. Arizona provides a state income tax credit for contributions to
scholarship programs that cover private and religious school tuition. For information on
additional support, see CRS Report 95-344, Federal Support of School Choice:
Background and Options.
Impact on Public Schools. In general, there is no consensus as to the impact that
school choice involving private schools and home schooling might have on public schools.
If total public support for education is fixed, then increased allocations (through direct
grants and tax subsidies) for private schooling would leave less for public schools.
Further, overall public financial and other support for public schools might diminish if the
public aid prompted additional families to turn to private schools or home schooling,
particularly if these families had previously worked to improve their public schools.
To the extent that education savings accounts foster movement from the public
sector, it may affect the distribution of students from different racial, ethnic, or income
groups among schools. Whether this movement will lead to appreciably greater separation
of these groups than already exists is open to debate. Nevertheless, as noted below, the
benefits of education savings accounts are likely to be concentrated among students from
middle income families.
A loss of students to the private sector or home schooling may prompt public schools
to identify problems that led to this exodus and take steps to retain students and attract
others. Advocates of public aid for private education often anticipate such a marketplace
response by public schools. Whether this will occur is uncertain. An enrollment loss might
reduce the financial resources that public schools could use for reform. Further, the
potentially modest benefits for most families from expanded education savings accounts
might not lead enough students to change sectors to encourage reform by public schools.

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Student Achievement. One argument for including private schools in publicly-funded
choice programs is that students who select those schools will improve their academic
performance. This contention is hotly debated with no conclusive evidence that simply by
virtue of enrolling in a private school, a student’s academic achievement will be higher
than if that same student enrolled in a public school. Much of the current research on this
issue is being done on the Milwaukee and Cleveland voucher programs with different
analysts reaching significantly different conclusions.
Constitutionality. A central question is whether the U.S. Constitution would permit
public support for private elementary and secondary education when students attend
religiously-affiliated schools. CRS Report RL30165, Education Vouchers: Constitutional
Issues and Cases, concludes that indirect public aid to private sectarian schools is likely
to be found constitutional by the U.S. Supreme Court “if the benefits are made available
on a religion-neutral basis and if the initial beneficiaries (the taxpayers or voucher
recipients) have a genuine choice about where to use the assistance.” Education savings
accounts as they would be expanded under S. 1134 and H.R. 7 appear to have these
attributes since accounts could be used for public school expenses. However, recent lower
court decisions on education voucher programs have conflicting conclusions with respect
to constitutionality.
Compliance
Under current law, distributions from education savings accounts are tax-exempt if
used for tuition, fees, books, supplies, equipment required for enrollment or attendance at
eligible institutions of higher education, and for certain room and board expenses. Most
of these expenses are determinable and can be traced.3 In contrast, the proposed list of
qualified elementary and secondary school expenses is more open-ended. Aside from
tuition and fees, expenses that would be allowed in connection with enrollment or
attendance (those included in category (1) on page 2) do not have clear limits. Unlike
qualified higher education expenses, they would not have to be required by the school;
thus, taxpayers would have more leeway to purchase what they want. For example,
families might spend $500 to get a basic computer and monitor, or they might spend
$3,000 to get a computer with more speed and capacity and a monitor that is more stylish.
For the most part families would use their own resources for these expenditures (that is,
they would be spending what they contributed to the accounts), so arguably they would
make prudent purchases. But even prudent purchases might be questioned to the extent
they involve publicly subsidized tax benefits.
There are two separate questions involved. One is whether education expenses are
inherently difficult to define. While tuition payments have a clear purpose, expenditures
for computers, software, books, and room and board may involve a mixture of educational
and personal objectives that cannot easily be separated.4 The problem may be especially
complex in the case of home schooling. Perhaps regulatory language could resolve most
questions (or at least set reasonable limits), just as it does in other areas of taxation. But
3 Whether the Internal Revenue Service can easily verify these expenses is another matter.
Complications arise when taxpayers receive scholarships or withdraw from courses.
4 For computers in particular, personal benefits may extend to other family members.

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at the moment such guidance is not available for education at the elementary and
secondary level. The other question is what documentation would be required to
demonstrate compliance. What receipts should families be required to keep, and what
information should be included on them? Would families have to list their expenses on
their tax returns? Would schools and tutors have to submit information returns to the
Internal Revenue Service? As in other areas of taxation, appropriate documentation
involves balancing compliance needs against paperwork burdens and other administrative
costs.
Equity
Education savings accounts would largely benefit families that have the wherewithal
to save. Most would be middle income. High income families — those with incomes
above the contribution ceilings (currently $160,000 for married couples filing jointly) —
generally would not have accounts, though contributions might be made by grandparents
and other family members, friends, or even the children themselves.5 Lower income
families generally would be unlikely to save, at least not $2,000 a year, though
contributions for their children could also come from others. Among middle income
families, those with higher incomes and the discipline to save would be the most likely
contributors.6
For families that do save, the tax benefits of an education savings account would
depend on their marginal tax rate and thus would also be related to income. Families in
the 15% statutory tax bracket (in 2000, taxable incomes up to $43,850 for married couples
filing jointly) generally would save $15 each year on $100 of account earnings, while those
in the 28% bracket (taxable incomes over $43,850 but not over $105,950) would save
$28. If families had no tax liability (if their income were completely offset by their
standard deduction and personal and dependent exemptions), they would not benefit.
To the extent education savings accounts are used for higher education, the higher
tax benefits might be justified since lower income families often are eligible for additional
student aid. For elementary and secondary education, however, the federal government
does not provide direct assistance to lower income families. For this education, it would
seem inequitable to provide larger tax benefits to higher income families and possibly none
to lower income families. On the other hand, lower income families do have access to free
public education.
5 Some higher income families may have started education savings accounts when their income was
lower. The legislation does not explicitly preclude parents from transferring assets to their children
so they can make contributions.
6 As is the case with other tax-advantaged accounts, some families might transfer funds from
taxable accounts into their education savings accounts rather than increase their total saving.

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