On Oct. 2, the Internal Revenue Service (IRS) issued temporary regulations and proposed final regulations to implement the Federal Scholarship Tax Credit (FSTC), also known as the Education Freedom Tax Credit. The program — codified in section 25F of the IRS code — 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 second in a series of articles looking in depth at each section of the regulations. Below, we take a look at how the federal government has proposed to establish specifics for 25F credit claims and calculations. The proposed regulation is "intended to make the new credit accessible to families and administrable [sic] for taxpayers, states, and SGOs while protecting scholarship funds from fraud and abuse," according to the IRS.
Married couples filing jointly may receive up to $3,400 in federal tax credits under the program.
For married couples that file jointly, each spouse may claim the $1,700 tax credit for qualified contributions, doubling the credit cap for households with a tax liability exceeding $1,700. This provision increases the potential size of the program; the IRS estimated that the program could garner $26 billion in donations by 2030.
The American Federation for Children, a school choice advocacy organization and SGO, said this provision would increase the amount of donations it could receive, and in turn, fund educational expenses for millions of children.
Josh Cowen, professor of education policy at Michigan State University, said that public school students could gain between $110 and $134 in average per-pupil funding by 2030.
He said, "if Treasury’s numbers are right, more money is available—perhaps substantially so—to public school families. But the bulk of overall funding would still go to private tuition. Another way to think about that implication: a bigger share of private school students are likely to benefit from the credit, but a bigger share of credit beneficiaries overall are likely to be public school students."
However, Miguel Cardona — a former U.S. Secretary of Education and president of an education consulting firm — and Robert Kim — executive director of Education Law Center — said the amount of federal tax revenue that could be lost under the program could eventually decrease public education funding.
They said, "the money from this federal program will not make up for the eventual and perhaps precipitous decline in education funding and services for public schools and their students and communities that comes from diverting this tax revenue. If the federal program is allowed to grow unfettered, billions of federal taxpayer dollars may no longer be available to support critical federal funding streams like Title I to improve opportunities for low-income students and Individuals with Disabilities Education Act funds for students with disabilities."
Donors may carry unused credits forward for five years.
Donors may claim any unused credits for up to five years. The regulations adopted a "first-in first-out" rule, where unused credits from prior taxable years must be used before claiming the one arising from the current year.
The carryforward provision accounts for those with fluctuating incomes; taxpayers may have a low tax liability one year and a higher one the next, for which they may claim a credit from a prior donation to help offset a higher federal tax liability.
For example, if a taxpayer donates to an SGO in 2027, 2028, and 2029, but does not claim the tax credit until 2030, the taxpayer must first use the 2027 credit accrued, followed by the 2028 and 2029 credits. The taxpayer may claim all of the available credits in one year, subject to limitations under section 26(a) of the IRS code. Read the IRS's provided examples of how this provision works here.
One donation cannot count for both a 25F tax credit and a section 170 tax deduction.
Under section 170 of the IRS code, individuals and corporations may claim a tax deduction for charitable donations. The regulations for the FSTC prohibit any charitable contributions from counting for both a tax credit under section 25F and for a tax deduction under section 170.
The IRS will first deduct any state tax credits from an individual's total donations before calculating the federal tax credit under 25F.
When donors qualify for both a state and federal tax credit — and only a portion of the donation qualifies for an FSTC credit — the state tax credit will first be calculated using the nonqualified contribution. The FSTC tax credit will then be applied to the remaining qualified contribution. The IRS said this provision aimed to maximize the federal tax credit for donors.
No donations through businesses or partnerships may count as a tax credit to an individual.
The regulations differed from other federal tax law regarding partnerships and S corporations. Under federal tax law, owners, partners, or shareholders in partnerships or S corporations may report income, tax deductions, and charitable contributions on their personal tax returns. However, the 25F regulations prohibit individuals from claiming donations made through partnerships or S corporations for a 25F credit. If donors would like a credit, they must donate out of personal funds, not through their businesses.
Taxpayers must report their qualified contributions under 25F using a unique donor number.
SGOs must provide donors a unique number to report to the IRS to receive a tax credit. If taxpayers do not provide a donor number, the IRS will not provide a tax credit. However, the regulations authorize taxpayers to rebut the denial with a timely written acknowledgement from the SGO that includes the unique donor number or other evidence the IRS deems satisfactory.
State education tax credit programs have different ways for donors to claim tax credits. In some states that run tax credit scholarship programs, like Iowa, donors must present a certificate or receipt of donation that the receiving organization issued to them, which is similar to a unique donor identification, but not the same. In other states, like Virginia, the state must preapprove an individual or corporation's donation to a qualified organization.
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, and the program begins on Jan. 1, 2027.
Look for the next article in our five-part series, which will dive into how SGOs will be regulated.
Read more about the regulations here, and more about participating states here.