BILL ANALYSIS Ó AB 943 Page A Date of Hearing: January 13, 2014 ASSEMBLY COMMITTEE ON REVENUE AND TAXATION Raul Bocanegra, Chair AB 943 (Nestande) - As Amended: January 6, 2014 Majority vote. Tax levy. Fiscal committee. SUBJECT : Corporation Tax Law: credits: K-12 education programs and scholarships SUMMARY : Enacts the Education Investment Incentives Act. Specifically, this bill : 1)Contains the following legislative findings: a) Providing tax incentives to encourage private investments for the common good is sound public policy. b) Expanding educational opportunities and improving the quality and access of educational services within the state are valid public purposes that the Legislature may promote using its sovereign power to determine tax policy. c) Creative tax policy can inspire greater charitable contributions and public-private partnerships that ensure additional resources for the education of all children in California. d) Encouraging voluntary support for education, without prejudice for or against any state-sanctioned educational enterprise, promotes the state's interest and common good in providing the highest quality education to all children in the state. e) At a time when fiscal realities challenging California school communities demand innovative ways to deliver vital education services to public and private pupils in Kindergarten and Grades 1 to 12, inclusive, charitable giving for educational purposes should be stimulated. 2)Allows, for taxable years beginning on or after January 1, AB 943 Page B 2015, and before January 1, 2020, a credit under the Corporation Tax (CT) Law (the "scholarship tax credit") equal to 50% of a taxpayer's monetary contribution to a nonprofit organization that is either: a) An "education improvement organization" for purposes of funding a "qualified grant" for a "K-12 education innovative program" for pupils attending private, public, or charter schools; or, b) An "education scholarship organization" for purposes of funding qualified "K-12 education scholarships" for a specified pupil to attend private school or partial or full payments of fees associated with the general costs of transportation to attend a private, public, or charter school. 3)Provides that the credit amount may not exceed 50% of the taxpayer's "tax," as defined, for a taxable year. 4)Defines "nonprofit" as an organization that meets all of the following requirements: a) Is formed as any of the following: i) A nonprofit public benefit corporation described in Corporations Code (CC) Section 5110 et seq.; ii) A nonprofit religious corporation described in CC Section 9110 et seq.; iii) Any other charitable corporation, as defined by Government Code Section 12582.1; or, iv) A duly authorized foreign nonprofit corporation that has complied with all registration requirements in the CC, as specified; and, b) Is an organization exempt from federal income tax as an organization described in Internal Revenue Code Section 501(c)(3). 5)Defines an "education improvement organization" or "EIO" as a charitable institution in this state organized and operated as an art museum, science center, institution of higher AB 943 Page C education, districtwide educational enrichment program, or any other organization, with the primary purpose to provide monetary support to a K-12 education innovative program, that meets all of the following requirements: a) Contributes at least 80% of the qualified grants to a California public or private school for funding K-12 education innovative programs; b) Does not have a person who has been convicted of any sex offense, as defined, supervising or assisting a pupil participating in a K-12 education innovative program; c) Requires each employee or volunteer, whether prospective or current, who will directly and personally supervise or assist any pupil to comply with the provisions of Education Code Section 44237 to ascertain whether the employee or volunteer has been convicted of any sex offense, as defined; and, d) Applied to receive a qualified grant with the Franchise Tax Board (FTB). 6)Defines a "qualified grant" as a grant that meets all of the following requirements: a) Includes guidelines that detail what specific programs may be funded by the grant moneys; b) Limits the amount of grant moneys that may be used for administration or overhead costs; and, c) Is included on a list created by the State Department of Education, as specified. 7)Provides that a "qualified grant" may include cash payments to a California private, public, or charter school to carry on a K-12 education innovative program or may include costs incurred by an EIO in providing a program to, or in conjunction with, a California private, public, or charter school. 8)Defines a "K-12 education innovative program" as instruction, programs, or other activities in science, technology, engineering, and math learning, or the visual and performing AB 943 Page D arts for a private, public, or charter school with a Kindergarten or any Grades 1 to 12, inclusive, as provided. 9)Defines an "education scholarship organization" or ESO as a charitable institution in this state that meets all of the following requirements: a) Is organized and operated with the primary purpose of providing qualified K-12 education scholarships to pupils attending a private school in California. b) Allocates at least 80% of contributions for which a credit is claimed for qualified K-12 education scholarships for ESOs with three or more years of audits. c) Allocates at least 90% of contributions for which a credit is claimed for qualified K-12 education scholarships for ESOs with less than three years of audits. d) Makes qualified K-12 education scholarships available for pupils from more than one school. e) Retains data on the progress of the pupils participating in qualified K-12 education scholarships on nationally available norm-referenced tests to evaluate the program's efficacy. f) Submits to the State Department of Education quarterly reports on the number of qualified K-12 education scholarship recipients and the schools that the recipients attend. g) Submits to the FTB financial and compliance audit reports performed by a certified public accountant. h) Applies to participate in this credit program with the FTB. 10)Defines a "qualified K-12 education scholarship" as either of the following: a) Financial assistance for a "specified pupil" to partially or fully pay for the fees associated with the general costs of transportation to attend a private, public, or charter school. AB 943 Page E b) An award of tuition assistance amounting to at least 65% of the basic state per-pupil funding, or a private school's actual tuition and fees, whichever is less, that meets all of the following requirements: i) Initially, must be awarded to a specified pupil who attended a public or charter school the previous year or is entering transitional Kindergarten through Grade 1. ii) May be renewed at the request of the specified pupil for each school year until graduation from high school. iii) Shall be portable and follow the specified pupil from one school to another. iv) Shall be provided to a private school of the specified pupil's choosing under the following conditions: (1) Each ESO shall establish a criteria for granting scholarships that meet the specified requirements. (2) The pupil receiving the assistance shall remain a "specified pupil." (3) The specified pupil shall attend a private school. (4) The specified pupil shall remain enrolled and in attendance at the private school throughout the school year unless excused by the applicable program for illness or other good cause. (5) The specified pupil and a parent or legal guardian of the specified pupil shall comply with all applicable policies of the private school. (6) A parent or legal guardian of the specified pupil shall ensure that the pupil has reliable transportation to and from the applicable program. 11)Defines a "specified pupil" as a minor who has applied for a K-12 education scholarship and who meets either of the AB 943 Page F following requirements: a) Is a pupil with special needs who has been identified by a school district as having a disability under the federal Individuals with Disabilities Education Act (20 U.S.C. Section 1400 et seq.). b) Is a pupil within foster care who has been placed in a foster care system within the State of California at any time prior to graduating high school. A specified pupil is not required to be previously enrolled in a public school or charter school to participate and shall remain eligible for a scholarship until he or she graduates from high school or leaves the foster care program. 12)Defines a "private school" as a person, firm, association, partnership, or corporation offering or conducting private school instruction in the State of California on the elementary or high school level, that meets all of the following requirements: a) Is accredited by the Western Association of Schools and Colleges or an affiliated organization. b) Has filed a current private school affidavit with the State Department of Education in accordance with the Education Code Section 33190. c) Complies with applicable provisions of the Fair Employment and Housing Act (Part 2.8 (commencing with Section 12900) of Division 3 of Title 2 of the Government Code). d) Utilizes background checks in connection with hiring all school employees, consistent with the standards set forth in Education Code Section 44237(a). 13)Provides that, for purposes of the tax credit for a monetary contribution to a nonprofit ESO, the definition of a "private school" also includes all of the following conditions: a) The instruction must be conducted on the elementary or high school level. b) A specified pupil must be required by the school to take AB 943 Page G a nationally available norm-referenced test. c) The school has obtained, if it has been in operation for less than three years, a surety bond or letter of credit in an amount equal to the value of the education scholarship payments for one quarter. 14)Defines a "public school" as any California day or evening elementary, middle, junior high, or high school established by statute or by municipal or district authority that is located in an eligible school attendance area, as defined in Section 1113 of the federal Elementary and Secondary Education Act (20 U.S.C. Section 6301 et seq.). 15)Defines a "charter school" as a California school established pursuant to Part 26.8 (commencing with Section 47600) of Division 4 of Title 2 of the Education Code providing elementary or high school education that is located in an eligible school attendance area, as defined in Section 1113 of the federal Elementary and Secondary Education Act (20 U.S.C. Sec. 6301 et seq.). 16)Limits the aggregate amount of the tax credits allowed under this bill to $50 million for each calendar year but authorizes the Legislature to increase this amount. 17)Provides that the allocation of credits be made on a first-come, first-serve basis. 18)Requires the FTB and the State Department of Education to administer the credit. Specifically: a) Requires the FTB to perform all of the following duties: i) Promulgate rules and regulations as necessary or appropriate to implement this credit; ii) Establish application forms and procedures; iii) Track credits claimed; iv) Post aggregate totals of the credits claimed on the Internet Web site of the FTB; v) Determine when the aggregate total of credits AB 943 Page H reaches $50 million; and, vi) Certify that the contributions meet the requirements of this bill. b) Requires the State Department of Education to do all of the following: i) Adopt rules necessary to determine whether an EIO, a private school and a contribution meet the requirements of this bill; and, ii) Submit a list of eligible ESOs that comply with the requirements of this bill to the FTB annually by March 15. 19)Requires the taxpayer, in order to claim the scholarship tax credit, to do all of the following: a) Receive a certification from the FTB that the taxpayer's monetary contribution meets the necessary requirements; b) Apply with the FTB to receive the credit; and, c) Claim the credit on a timely filed original return. 20)Allows taxpayers to carry forward the scholarship tax credit to reduce the tax, as defined, in the following year, and succeeding five years, if necessary, until the credit is exhausted. 21)Provides that the scholarship tax credit shall be in lieu of any other credit or deduction that the taxpayer may otherwise claim pursuant to the CT law for the same monetary contribution, as specified. 22)Takes effect immediately as a tax levy. EXISTING STATE LAW : 1)Provides various tax credits designed to provide tax relief to taxpayers who incur certain expenses (e.g., child adoption) or to influence behavior, i.e. to provide incentives for taxpayers to perform various activities that they may not otherwise undertake. AB 943 Page I 2)Allows individual and corporate taxpayers to deduct certain expenses as itemized deductions. 3)Allows deductions for monetary charitable contributions, gifts, or property to qualified organizations formed for religious, charitable, educational, scientific, or literary purposes. A charitable contribution is defined as a contribution or gift made exclusively for public purposes. Individual taxpayers can claim charitable contributions as an itemized deduction and can deduct the greater of the standard deduction or itemized deductions from their adjusted gross income (AGI) when computing taxable income. Corporate taxpayers can claim charitable contributions up to 10% of the corporation's taxable income, without regard to the amount of charitable contribution, but the amount in excess of the 10% limitation may be carried over for five years. 4)Imposes limitations on the amount of deduction for individual charitable contributions, depending on the individual's AGI and the amount of contributions, the types of organizations that receive the donations, and the type of property donated. FISCAL EFFECT : Unknown. COMMENTS : 1)Author's Statement . The author states that: Creating tax incentives to encourage private investments in our school children is sound public policy. AB 943 would provide corporate tax credits for cash contributions to educational improvement organizations which support innovative programs in STEM learning and/or the arts for K-12 school children. Furthermore, AB 943 would also allow corporations to claim tax credits for charitable contributions to non-profit organizations?. The scholarships would provide tuition assistance and/or transportation assistance for children with special needs and children in foster care to attend the schools that best fit their learning needs. 2)Arguments in Support . The proponents of this bill argue that "creating tax incentives to encourage private investments for AB 943 Page J the common good is sound public policy." They believe that AB 943 "would inspire greater philanthropic contributions, and public-private partnerships, to ensure new resources that deliver vital education services to K-12 public and private school students alike." Furthermore, the proponents assert that those charitable contributions "would help close the achievement gap among children from low-income families with expanded opportunities for STEM learning, and/or arts education"; would "support students with special needs to learn and thrive"; and would help students in foster care "to perform better academically and complete more years of education." Finally, the proponents contend that with projected "surpluses totaling some $30 billion over the course of the coming five years," "it is prudent that ? lawmakers use a small fraction of that amount in a manner designed to induce the investment of two dollars of private funds for every dollar of revenue forgone by the state." 3)Arguments in Opposition . The opponents state that AB 943 "would create a tuition tax credit program, which would require the state to forgo money that could be spent on the public schools to instead be funneled to private school tuition." They argue that "there is no meaningful difference between tax credits and direct government reimbursement of private and religious schools - tuition tax credits are backdoor vouchers" and essentially constitute public funding. The opponents assert that vouchers and tuition tax credits are "ineffective, permit taxpayer funded discrimination, lack accountability, and use taxpayer money to fund religious schools." The opponents cite multiple studies showing that vouchers and tax credits do not improve student achievement or resources and argue that vouchers and tax credits may contribute to discrimination. Finally, the opponents conclude that the effect of AB 943 is "to fund those education efforts preferred by a segment of the population with the means to contribute to school programs ? at cost to the public education system." 4)What Does this Bill Do ? As pointed out by the author of this bill, in light of diminished resources and budget cuts, public and private schools have been struggling to provide high quality education to children in California. Many schools were forced to eliminate or reduce their offerings of science and math classes. AB 943 would create a tax incentive for corporations to make monetary contributions to support AB 943 Page K science, technology, engineering, or math (STEM) and art programs in public, private, and charter schools. This bill would also provide a similar tax incentive for contributions to pay for tuition of foster youth or special needs students in a K-12 program. Specifically, AB 943 would allow a corporation to claim a tax credit for monetary contributions to a nonprofit organization that either provides grants to schools to support qualified K-12 innovating art programs or programs relating to STEM learning, or that gives scholarships for foster youth or disabled children to attend public or private schools. The amount of credit is limited to 50% of the amount of the monetary contribution and may not exceed 50% of the taxpayer's tax for a particular tax year. Unlike many other tax incentives, the proposed tax credit is capped and allocated. It is effective only for five taxable years, from 2015 until 2020; and the annual aggregate amount of the credit may not exceed $50 million (although this bill authorizes the Legislature to increase this amount). The FTB is required to allocate and certify the credit on the first-come, first-serve basis, up to $50 million every taxable year. The credit is not refundable and, in many respects, is similar to a grant program. 5)Similar Tax Credit Programs in Other States . As of July 2013, 16 tuition tax credit programs existed in 13 states. These programs, known as "scholarship tax credit" programs, allow individuals and corporations to receive a tax credit for certain contributions to private, nonprofit school tuition organizations that issue scholarships to K-12 students. For example, the School Tax Credit, which was enacted in Arizona in 1997, created a $500 tax credit for contributions made by individuals and corporate taxpayers to School Tuition Organizations (STOs), third-party organizations that fund AB 943 Page L private and sectarian school scholarships.<1> Scholarship funds from individual donations are available to any student, including those already attending private school. Scholarship funds received from corporate donations, however, must be awarded to low-income students who are either starting Kindergarten or who attended a public school the previous year. The scholarships can only be used for private school expenses. The State of Arizona also offers a corporate tax credit for special needs and foster children that replaced a previous voucher program. Florida and Pennsylvania also have corporate tax credit scholarship programs allowing corporations to receive a tax credit for donations made to scholarship organizations. The State of Florida allows corporations to apply for a tax credit for donations to an "eligible nonprofit scholarship-funding organization" and the credit amount is 100% of the donation made. In 2011, Florida awarded $140 million in scholarship tax credits. However, Florida's statewide limit is flexible, meaning that, if the amount of corporate donations made exceeds 90% of the tax credit limit ($140 million), it automatically increases by 25%.<2> Scholarships must be awarded to students who qualify for the free or reduced-price lunch program and are either entering Kindergarten or first grade, or who attended a public school the previous school year. In Pennsylvania, the total aggregated amount of credits awarded may not exceed $44.7 million; the scholarships may be awarded only to students with family incomes of $60,000 or less ($12,000 allowance for each additional dependent). Scholarship recipients may attend a public or private school approved by the scholarship organization. -------------------------- <1> "There are two separate programs with varying requirements. The value of the credit is 100% of the donation made up to a maximum of $500 for individuals and $1,000 for couples filing jointly. There is no maximum credit for corporations, meaning if they donate an amount equal to their entire corporate income tax liability they will not owe any income tax. There is, however, a cap on the total aggregate credits offered. In FY 2010, the state offered a maximum of $17.28 million in tax credits given on a first- come, first-served basis to corporations. That cap increases by 20 percent each year." See ncsl.org, Scholarship Tax Programs. <2> Ibid. AB 943 Page M 6)Do Scholarship Tax Credit Programs Provide Educational Benefits ? The proposed scholarship tax credit program is intended to encourage corporate contributions to support STEM programs in public and private schools, as well as to fund scholarships for children with special needs or in foster care to attend private schools. It is presumed that the proposed tax incentive will not only result in a significant increase in the amount of private monetary support for the schools, but also will lead to some substantial educational benefits to students in both public and private schools. While it is challenging to quantify the impact or effectiveness of a tax incentive, several studies have attempted to do just that with respect to scholarship and tuition tax credits. One of these studies was conducted by the U.S. Department of Education to determine the effectiveness of the District of Columbia School Choice Incentive Act of 2003, passed by Congress in January 2004. This Act established the first federally funded, private school voucher program in the United States - the DC Opportunity Scholarship Program (OSP).<3> According to the U.S. Department of Education report, the purpose of the new scholarship program was to provide low-income residents, particularly those whose children attend schools in need of improvement or corrective action under the Elementary and Secondary Education Act, with expanded opportunities to attend higher performing schools in the District of Columbia. The scholarship, worth up to $7,500, could be used to cover the costs of tuition, school fees, and transportation to a participating private school. It should be noted that, as part of this legislation, Congress mandated a rigorous evaluation of the impacts of the Program. The evaluation study found that there "was no conclusive evidence that the OSP affected student achievement."<4> Specifically, "after at least four years students who were offered (or used) scholarships had reading and math test scores that were statistically similar to those who were not --------------------------- <3> Wolf, Patrick, Babette Gutmann, Michael Puma, Brian Kisida, Lou Rizzo, Nada Eissa, and Matthew Carr. Evaluation of the DC Opportunity Scholarship Program: Final Report (NCEE 2010-4018). Washington, DC: National Center for Education Evaluation and Regional Assistance, Institute of Education Sciences, U.S. Department of Education. <4> Ibid., Executive Summary. AB 943 Page N offered scholarships."<5> At the same time, it was determined that the OSP significantly improved students' chances of graduating from high school. Thus, students graduated at higher rates even though they may not have raised their test scores in reading and math as a result of the OSP.<6> Finally, the report concluded that the OSP raised parents' - but not students' ratings - of school safety and satisfaction.<7> Another study reviewed the effectiveness of the Milwaukee Parental Choice Program (MPCP).<8> The MPCP, which began in 1990, provides government-funded vouchers for low-income children to attend private schools in the City of Milwaukee. The maximum voucher amount in 2010-11 was $6,442, and 20,996 children used a voucher to attend either secular or religious private schools. The MPCP is the oldest and largest urban school voucher program in the United States.<9> The study found that, for the 2010-11 school year, the students in the MPCP sample exhibited larger growth (from the base year of 2006) in reading achievement than the students in the matched -------------------------- <5> Ibid., "The same pattern of results holds for students who applied from schools in need of improvement (SINI), the group Congress designated as the highest priority for the Program. Although some other subgroups of students appeared to have higher levels of reading achievement if they were offered or used a scholarship, those findings could be due to chance. They should be interpreted with caution since the results were no longer significant after applying a statistical test to account for multiple comparisons of treatment and control group members across the subgroups." <6> Ibid., "The offer of an OSP scholarship raised students' probability of completing high school by 12 percentage points overall (figure ES-3)." <7> Ibid., Parents were more satisfied and felt school was safer if their child was offered or used an OSP scholarship. The Program had no effect on students' reports on school conditions. <8> Witte, Wolf, et al., MCPC Longitudinal Educational Growth Study Third Year Report (April 2010). <9> Ibid. AB 943 Page O Milwaukee Public Schools (MPS) sample.<10> However, the authors of the study note that these results should be interpreted with some caution because they "represent differences that were not present in earlier years" and a "significant program change took place in the final year."<11> The report suggests that "there is some evidence that the larger achievement growth of the MPCP students ? is attributable to the introduction of the accountability policy." Furthermore, there is some evidence to suggest that voucher and tuition tax credit programs do not necessarily offer special needs students greater support programs. For example, the U.S. Department of Education report showed that students participating in the OSP were actually less likely than students not participating in the program to have access to programs such as English language learners, special needs programs, tutors, counselors, etc.<12> As pointed out by the opponents of this bill, reduced access to such programs by -------------------------- <10> Ibid., "This is the first year such an achievement growth advantage has been observed for either group in our study. Some analyses indicate that the students in the MPCP sample also exhibit larger growth in math achievement, but the results are not conclusive." <11> Ibid., Beginning with the 2010-11 school year, the MPCP schools were subjected to a test-based accountability policy for the first time, i.e. they were required to administer a test to all voucher students in Grades 3-8 and 10 and publicly report the results by named schools. "Because the test-based accountability policy was introduced after we carefully matched our sample of MPCP students to MPS students, this study is no longer solely evaluating the effectiveness of the MPCP. Rather, it is evaluating the effectiveness of both MPCP and the accountability policy that was introduced in 2010-11." <12> Wolf, Patrick, Babette Gutmann, Michael Puma, Brian Kisida, Lou Rizzo, Nada Eissa, and Matthew Carr. Evaluation of the DC Opportunity Scholarship Program: Final Report (NCEE 2010-4018). Washington, DC: National Center for Education Evaluation and Regional Assistance, Institute of Education Sciences, U.S. Department of Education, pp. 56, 57, 60. AB 943 Page P special needs students and foster youth "is especially problematic, given that the intention of AB 943 is to benefit special needs children and children in foster care programs."<13> Students attending public schools are protected under the Individuals with Disabilities Act and it is unclear whether they would continue receiving those protections and services once they accept a scholarship and transfer to a private school. 7)Costs versus Benefits to the State . The tuition tax credit program proposed by this bill would provide scholarships to certain specified students and their parents to pay for their school of choice. By providing scholarships to students from various backgrounds, the program will, potentially, increase diversity in private schools. And, by moving some students out of public schools, this program would, arguably, eliminate the per-pupil expenditure for those students and would foster competition between public and private schools. Furthermore, other contemplated benefits of the proposed tax incentive include an increase in the amount of funding for STEM and art programs in public schools and potential savings to the state.<14> However, all of those benefits are estimated to come at a great price to the state. Specifically: i) A 1999 study of Cleveland's voucher program showed that the public schools from which students left for private voucher schools were unable to reduce administrative costs or eliminate teaching positions. Even though the public school district was unable to cut overall operating expenses, it lost its state funding. [KPMG, LLP, Cleveland Scholarship and Tutoring Program: Final Management Study (Sept. 1999).] The National Education Association also points out that moving ------------------------- <13> Americans United for Separation of Church and State, Letter in Opposition to AB 943, signed by Carol Velarde, President, Sacramento Chapter, January 8, 2014. <14> A nonpartisan analysis of the Florida Tax Credit Scholarship Program showed that for every $1 spent on the tax credit program, Florida taxpayers saved an estimated $1.49. However, the report notes that the state's savings is dependent on a proper balance between the cap on the tax credit and the number of qualified students participating in the program. In other words, if the cap is too high, and not enough students participate, the lost tax revenue will be higher than the savings in education funding. AB 943 Page Q students from public to private schools does not result in any savings to school districts because districts cannot reduce their fixed costs - maintenance, utilities, debt service, transportation, etc. - in proportion to the number of students who leave. (Subsidizing Private Education - At Taxpayer Expense, an NEA policy brief, NEA Education Policy and Practice Department.) ii) Giving tax credits to unrelated businesses has the unintended consequence of making private schools dependent on scholarship-granting entities, rather than parents, for funding. The scholarship-granting entities will have to compete for a finite amount of contributions from corporations and then decide which schools they will support. Whose interest are those organizations going to serve - the interests of parents and students or those of the contributors and schools they help to finance? The proposed tax credit gives parents no additional authority over how schools allocate their spending but, potentially, subjects them to the dictates of scholarship organizations. iii) This bill uses the tax system as a convenient means of delivering a specific subsidy to those companies that contribute to schools. The Committee may wish to examine the rationale of using General Fund moneys to pay for contributions, in the form of a tax credit, instead of using that money to support STEM and art programs directly. iv) This bill proposes to treat donations to specified nonprofit organizations more generously than donations to other charitable organizations. Under existing law, charitable donations entitle the donor only to a tax deduction, instead of a tax credit. 8)Federal Tax Incentives for K-12 Education . Federal tax law allows parents to create tax-free education savings accounts by investing up to $2,000 annually. The funds from those accounts may be used tax-free for K-12 or college expenses. The Coverdell Education Savings Account (ESA), formerly known as an Education IRA, is an investment trust account specifically designated for qualified education costs, which include both K-12 expenses and higher education expenses, such as tuition and fees, books, and room and board for students AB 943 Page R enrolled at least part-time. Interest earned on the deposits is not taxed, and withdrawals for education expenses are tax-free. 9)Tax Credits Versus Vouchers . In recent years, certain education analysts have advocated for nonrefundable education tax credits as a means of promoting "educational freedom." Some researchers view such tax credits as a more viable alternative to school vouchers. In a report published by the Cato Institute, Adam B. Schaeffer argues that "tax credits enjoy practical, legal, and political advantages over school vouchers." (The Public Education Tax Credit, Adam B. Schaeffer, Cato Institute, Policy Analysis, No. 605, December 5, 2007, p. 1.) Specifically, Schaeffer maintains that "the pursuit of highly regulated and targeted voucher programs impedes the rise of a competitive education industry and creates unnecessary political disadvantages for school choice supporters." (Id. at 2.) Moreover, Schaeffer points out that tax credits are "more popular with the public and politicians, less likely to be challenged in court, and more likely to survive most court challenges." (Id.) Finally, Schaeffer argues that "tax credits are a viable option in many states where effective voucher programs are likely to be struck down on state constitutional grounds." (Id. at 3.) 10)Potential Constitutional Challenges . By indirectly channeling potential state revenues to private educational institutions, this bill may be subject to challenge under both the state and federal constitutions. The controversy surrounding a similar tax credit in Arizona demonstrates this fact. As discussed, for a number of years, Arizona law has provided a credit for contributions made to school tuition organizations (STOs). STOs, in turn, use these contributions to provide scholarships to students attending private schools, many of which are religiously affiliated. A group of Arizona taxpayers filed suit challenging the state's tax credit as a violation of the Establishment Clause under the First and Fourteenth Amendments. After the Arizona Supreme Court rejected their claims, these taxpayers sought relief from the Federal Judiciary. Specifically, they argued that the Arizona law allows STOs to use state tax revenues to pay for the tuition of students at religious schools, some of which discriminate on the basis of religion in selecting students. In Arizona Christian School Tuition Org. v. Winn, (2011) 131 AB 943 Page S S. Ct. 1436, 1440, a narrowly divided United States Supreme Court held that the litigants challenging Arizona's law could not take advantage of the limited exception to the general rule against taxpayer standing. Thus, the taxpayers were deemed to lack standing, and their suit was dismissed for lack of jurisdiction. (Id.) In reaching its conclusion on standing, the majority opinion did draw a distinction between situations in which the government collects and spends taxpayer money for religious purposes (where standing to bring suit may be found), and the tax credit at issue. Specifically, the Court noted that Arizona's tax credit system "is implemented by private action and with no state intervention." (Id. at 1448.) Nevertheless, the Court never directly addressed the fundamental issue of the STO credit's constitutionality. While the door may be effectively closed to taxpayer suits challenging similar statutory schemes in federal court, the constitutionality of such credits remains, at best, unclear. This bill's tax credit program could also be subject to challenge under the state constitution. This fact is demonstrated by a recent decision handed down by a New Hampshire state court, which ruled that a tuition tax-credit program violated the state constitution. The tax credit program was challenged in court by Americans United for Separation of Church and State, the New Hampshire Civil Liberties Union, and the American Civil Liberties Union (ACLU). According to a statement from the ACLU, the court held that, "New Hampshire students, and their parents, certainly have the right to choose a religious education. However, the government is under no obligation to fund 'religious' education. Indeed, the government is expressly forbidden from doing so by the very language of the New Hampshire Constitution." (New Hampshire Court Strikes Down Tax-Credit Aid to Religious Schools, ACLU, June 17, 2013, p.1.) The California Constitution, in turn, specifically prohibits the state from helping "to support or sustain any school, college, university, hospital, or other institution controlled by any religious creed, church, or sectarian denomination whatever." (California Constitution, Article XVI, Section 5.) By establishing an indirect subsidy program for private AB 943 Page T schools, this bill may be challenged under this provision for inappropriately using public funds to support private, sectarian institutions. 11)Should the State Subsidize Educational Organizations that Discriminate ? As noted above, this bill would provide a generous tax credit for contributions made to organizations that fund grants for STEM programs or scholarships to specified students attending public, charter, or private schools. While this bill requires any "private school" to comply with applicable provisions of the Fair Employment and Housing Act (which governs, among other things, employment practices), its language does not appear to expressly require that benefiting private schools not discriminate in their enrollment practices. There are, for example, some private schools that refuse to admit openly gay and lesbian students. [See Doe v. California Lutheran High School Assn. (2009) 170 Cal.App.4th 828.] While such schools may be within their First Amendment rights to discriminate in this fashion, it does not necessarily follow that the state should financially subsidize their operation. Moreover, as a general rule, the government's refusal to subsidize the exercise of a First Amendment right does not infringe that right: even outside the educational context, there exists a long line of cases holding that the government need not subsidize organizations whose practices are deemed contrary to public policy. The case of Evans v. City of Berkeley (2006) 38 Cal.4th 1 is particularly instructive. In this case, the City of Berkeley asked a volunteer youth group affiliated with the Boy Scouts of America to provide written assurance that the group would not discriminate against homosexuals or atheists as a condition of the group's continued free use of berths in the city's marina. (Id. at 5-6.) The city, finding the statement the group provided both ambiguous and insufficient, discontinued its subsidy. (Id. at 6.) Members of the group sued, claiming that the city's actions violated their freedoms of speech and association. (Id.) The trial court sustained the city's demurrer, and the Court of Appeal affirmed. (Id.) On review, the Supreme Court of California determined that the plaintiffs' complaint failed to establish a violation of constitutionally protected rights and affirmed the lower AB 943 Page U court's judgment. (Id.) More specifically, the Court held that a government entity may constitutionally require a subsidy recipient to provide written, unambiguous assurances of compliance with a generally applicable nondiscrimination policy. (Id. at 10.) In reaching this conclusion, the Court noted: In order to meet the city's mandate of nondiscriminatory participation policies, the Sea Scouts were required neither to espouse nor to denounce any particular viewpoint nor to form or break any association or affiliation, but only to assure Berkeley of their adherence to the city's policies in connection with subsidized use of Berkeley's facilities. (Id. at 11.) The Court also observed that Berkeley, in requiring that its subsidy not be used in a discriminatory manner, did not demand adherence to the underlying viewpoint that motivated the city's nondiscrimination law. (Id. at 14.) Thus, the Committee may wish to consider an amendment to this bill explicitly providing that a private school may only receive tax-subsidized grants if they do not discriminate on the basis of gender identity, race, sexual orientation, nationality, religion, or religious affiliation. 12)The Not-so-Dormant Commerce Clause : The credits this bill proposes apply only in connection with California-based schools. By limiting the credits to in-state activity, this bill could arguably be susceptible to challenge under the dormant commerce clause of the U.S. Constitution. The U.S. Constitution authorizes Congress to regulate commerce with foreign nations, and among the several states. (U.S. Constitution, Article I, Section 8, Clause 3.) While the commerce clause is phrased as a positive grant of regulatory power, it "has long been seen as a limitation on state regulatory powers, as well as an affirmative grant of AB 943 Page V congressional authority." [Fulton Corp. v. Faulkner (1996) 516 U.S. 325, 330.] This negative aspect, commonly referred to as the dormant commerce clause, prohibits economic protectionism in the form of state regulation that benefits "instate economic interests by burdening out-of-state competitors." (Ibid.) Both the U.S. Supreme Court and the California courts have addressed challenges to various state tax provisions on dormant commerce clause grounds. Most recently, the Court of Appeal struck down a California statute that allowed taxpayers a deferral for income received from the sale of stock in corporations maintaining assets and payroll in California, while providing no such deferral for income from the sale of stock in corporations maintaining assets and payroll elsewhere. [Cutler v. Franchise Tax Board (2012) 208 Cal.App.4th 1247, 1250.] Specifically, the court held that "the deferral provision discriminates on its face on the basis of an interstate element in violation of the commerce clause." (Ibid.) Thus, while no court decision has yet invalidated, as a general matter, a state income tax credit that provides an incentive for in-state activity, such credits may be subject to constitutional challenge. Any potential constitutional infirmity could be remedied by expanding this bill's definition of public, private, and charter schools to include schools located outside of California. While such a proposal would be geographically neutral, it is hard to argue that California should subsidize contributions that end up benefiting schools located in other states. 13)Similar Legislation . a) AB 2582 (Nestande), of the 2012 Legislative Session, would have provided a tax credit for contributions to public school co-curricular activities, to an educational improvement organization that supports innovative programs in public schools, as specified, or to an educational scholarship organization. AB 2582 was never heard by this Committee. AB 943 Page W b) SB 1542 (Negrete-McLeod), of the the 2011-12 Legislative Session, would have created an income tax credit for contributions made to a local educational advancement program organization. SB 1542 was never by this Committee. c) AB 279 (Duvall), of the 2009-10 Legislative Session, would have allowed a tax credit for taxable years beginning on and after January 1, 2010, equal to the amount of the total contribution made by a qualified taxpayer to a scholarship granting organization during the taxable year. AB 279 was held under submission in this Committee. d) AB 2605 (Nakanishi), of the 2007-08 Legislative Session, would have allowed a personal income tax credit to qualified taxpayers for each dependent attending a nonpublic school. AB 2605 was held under submission by this Committee. e) AB 2561 (Niello), of the 2007-08 Legislative Session, would have provided an income tax credit for costs paid or incurred for private school tuition. AB 2561 was held under submission in this Committee. f) SB 1768 (Hollingsworth), of the 2005-06 Legislative Session, would have provided an income tax credit for contributions made to a school tuition organization or a public school. SB 1768 died in the Senate Revenue and Taxation Committee. REGISTERED SUPPORT / OPPOSITION : Support California Catholic Conference, Inc. California Association of Private School Organizations Opposition Americans United for Separation of Church and State California Tax Reform Association Analysis Prepared by : Oksana Jaffe & M. David Ruff / REV. & TAX. / (916) 319-2098 AB 943 Page X