On Oct. 2, 2026, the Internal Revenue Service (IRS) issued temporary regulations and proposed final regulations to implement the Federal Scholarship Tax Credit (FSTC). The program — also known as the Education Freedom Tax Credit — will take effect on Jan. 1, 2027. Both the temporary and proposed regulations will be effective in 2027, until the IRS issues final regulations in 2028.

The regulations are divided into five sections, each related to a different aspect of the program. This is the first in a five-part series looking in depth at each section of the regulations. Below, we take a look at how the federal government is defining key terms for the program with implications for eligibility, use of funds, and more.

About the FSTC

The FSTC is a nonrefundable federal tax credit for donations up to $1,700 to authorized scholarship-granting organizations (SGOs). It is a dollar-for-dollar nonrefundable tax credit, meaning individuals can lower their federal tax liability by the amount donated to an SGO. SGOs then provide scholarships to public or private school students for educational expenses.

Definitions

In the regulations, the IRS defined 26 terms as they relate to the FSTC. Some definitions serve to clarify terms and are unlikely to have a significant effect on the program's operations, while others have implications for how families, students, and schools will interact with and use the program. This article focuses on definitions with implications for program operations.

The definitions touch on topics such as family and educational expense eligibility, donor contributions, and SGO disbursements and qualifications. They provide states, parents, SGOs, and policymakers more information when deciding whether to participate, how to implement the program, or whether they can benefit from it.

Area median gross income

This definition determines which students may receive scholarships under the program. Under the One Big Beautiful Bill Act (OBBBA), which established the FSTC, families can receive a scholarship if they make less than 300% of the area median gross income (AMGI). In the proposed regulation, the IRS adopted the AMGI definition under Section 8 of the United States Housing Act of 1937. However, family income calculations will not include housing allowances, non-cash benefits, or home value, and will be adjusted for family size.

The IRS estimated that this definition means that approximately 96% of students in states that have already opted into the program will be eligible to receive funds.

Reactions to the definition included some that praised the broad applicability, as well as criticism that it does not narrowly focus on benefiting families with lower incomes. The American Federation for Children Scholarship Fund, an SGO, said that while the 300% of AMGI limit seems high to some, the credit is designed to serve middle-income as well as low-income families. On the other hand, Michael DiNapoli, Director of Federal Policy at the Learning Policy Institute, said that – based on data from existing private school choice programs – wealthier families could make up a higher portion of the program's beneficiaries.

Disqualified person

The regulations include provisions to prevent self-dealing. The IRS' definition disqualifies the following people from receiving scholarships under the program: those who substantially contribute to an SGO; an officer, treasurer, or director of an SGO; anyone involved in selecting scholarship recipients; or a family member of any of the aforementioned individuals.

Located in a State

The OBBBA requires states to submit a list of eligible SGOs located in the state to participate in the program. The IRS defines this as being authorized to do business in a state. SGOs must also comply with applicable state laws and requirements for charitable organizations. This definition enables SGOs to provide scholarships under the FSTC to students in multiple states.

The IRS said that some stakeholders oppose authorizing multistate SGOs under the program because it may limit a state's ability to implement its educational policies, but the IRS determined that those SGOs will increase access to scholarships.

Qualified contribution

The IRS defined a qualified contribution as a charitable contribution of cash for which a donor may receive a tax credit. The definition clarifies that if an SGO provides goods or services as consideration for any part of a contribution, the value of those goods or services must be reduced from the cash amount of the charitable contribution to reach the amount of the donor's federal tax credit.

Qualified elementary or secondary education expense

This definition determines what scholarships may be used for. The IRS adopted the same definition of eligible expenses as the one for Coverdell education savings accounts, but said it intended to issue further guidance on what may qualify under the FSTC.

Under the proposed rules, tuition and fees, academic support, books and supplies, and equipment are eligible, but it is unclear whether off-site supplementary services or services already covered by public funding will be eligible. Future guidance will determine how public school students can use the funding and may, in turn, determine how many states will participate. Read more about eligible expenses here.

School

This definition determines whether students in alternative school settings, such as homeschooling or microschooling, can receive scholarships under the program. Like "eligible expense," the IRS adopted the Coverdell definition of school, but said it intended to issue further guidance for the FSTC. The Coverdell definition says, "The term 'school' means any school which provides elementary education or secondary education (kindergarten through grade 12), as determined under State law."

Fifteen states recognize homeschools as private schools, 24 states (and Washington, D.C.) define home instruction separately from public or private schools, and laws in the other 12 on homeschooling categorization are unclear. Some states consider microschools private schools, while others consider them homeschools. Until the IRS issues further guidance, it is unclear how a state's definition of homeschooling will impact homeschoolers' ability to benefit from the program, or whether it will at all.

What's next

The public comment period for the proposed regulation will end on Dec. 1, 2026, and there will be a public hearing on the regulation on Dec. 15, 2026. The temporary regulation will take effect on Dec. 1.

Look for the next article in our five-part series, which will dive into specifics related to the tax credit and how it will be applied to donors.

Read more about the regulations here, and more about participating states here.