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ARIZONA STATE LEGISLATURE
Forty-ninth Legislature – First Regular Session
AD HOC COMMITTEE ON PRIVATE SCHOOL TUITION TAX CREDIT REVIEW
Minutes of Interim Meeting
House Hearing Room 5 – 1:00 p.m.
Chairman Murphy called the meeting to order at 1:00 p.m. and attendance was noted by the secretary.
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Mr. Biggs |
Mrs. Lesko |
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Mr. Brown |
Mr. Murphy, Chairman |
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Mr. Chabin |
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None |
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Overview of School Tuition Organization Responses to October 15th Letter
Daniel Plumhoff, Majority Research Staff, advised that the responses received from School Tuition Organizations (STOs) to the Chairman’s letter of October 15 (Attachment 1) were reviewed and summarized (Attachment 2). He advised that of the 53 STOs reporting to the Arizona Department of Revenue, 51 responded to the survey questions. He outlined the factors considered in awarding educational scholarships or tuition grants, and donations received and distribution of educational scholarships or tuition grants. He recapped the tables:
· Donations received and awards distributed.
· Revenue distributed in scholarships or tuition grants.
· Scholarship or tuition grant distribution to low-income students.
Mr. Plumhoff pointed out that the findings were compiled from the information self-reported by each STO and vary according to the number of specific responses obtained for each category. He provided the following additional information: 40 percent of STOs surveyed annually secure a review or audit by an independent certified public accountant; none of the STOs surveyed have arranged, facilitated or encouraged parent donation swapping; 14 percent of STOs surveyed have retained donations designated or recommended for a specific child in banked accounts in advance of the child reaching school age; and eight percent of STOs surveyed have provided scholarships to students attending charter schools for any kindergarten, after school or summer program.
Chairman Murphy asked whether the bulk of the actual dollars of the scholarships given to low-income students was in the higher percentage levels. Mr. Plumhoff said the amounts were so varied that it is difficult to provide an estimate. He said the percentages were based on the overall level of contributions.
Mr. Chabin stated that he is overwhelmed by what these statistics do not tell. He referred to the eighth question in the survey relating to donation swapping and the reply by STOs that there was no donation swapping. He maintained that one of the clear threats to this program is donor earmarking a specific child for a scholarship. He read from a letter by an STO donor: “Board of Directors made the official decision…following a growing level of concern both within our organization and others about potential legal problems relating to donor-recommendations -problems that could ultimately jeopardize…status as a tax-exempt organization…” He said it is known by published reports that earmarking scholarships is a widespread practice. Additionally, he related that particular STO donor went on to say that “Historically, other Arizona school tuition organizations have utilized donor-recommendations for over a decade. In fact, the market has seen a dramatic shift towards this form of state tax redirect - where a particular student is recommended for a scholarship by the donor” (Attachment 3).
Chairman Murphy cautioned against confusing or generalizing the difference between earmarking, which would be clearly prohibited, and recommendations that are part of the evaluation process. Mr. Chabin spoke of the need to give both the same scrutiny. He said he does not believe the questions asked in the survey addresses the issue.
Mr. Chabin referred to another letter by that particular STO refunding a $1,000 contribution made to the Catholic Education Fund (CEF) due to a suspension of their program pending additional legal review. The letter noted that “Arizona law is very clear that every Arizona STO must have federal tax law clearance as an approved 501 (c) (3) organization. In recent days, however, questions have arisen about the risk of losing our federal approval if contributors were permitted to identify a specific student for financial assistance.” He said that if the Internal Revenue Service (IRS) questions the contributions and determines that they were designated for particular students, the STOs will lose their 501 (c) (3) status and the money will be taxable. He stated that Arizona law is absent in terms of what happens if a 501 (c) (3) loses its tax-exempt status.
Chairman Murphy said he appreciates Mr. Chabin’s concerns; however, he is concerned that Members do not have the letters that Mr. Chabin is referencing.
In response to Mr. Biggs’ request, Mr. Chabin distributed copies of the letters from which he quoted (Attachment 3).
Mr. Chabin related that he has not had sufficient time to digest the report summarized by staff from information submitted by the STOs. Chairman Murphy noted that staff gave the information to Members in a timely manner. He applauded staff for compiling the data and for its efforts in pursuing responses that were incomplete.
Mr. Chabin contended that responses received by staff may be misleading due to the questions asked in the survey. He said he intends to issue a letter to the STOs requesting additional information dealing with the threat to the 501 (c) (3) status. He said he wants to save the STO program and the scholarships for students and stop the practices that threaten the program.
Chairman Murphy said he thinks it is a vast overstatement to say that the information provided by the STOs is not helpful and does not shed light on the concerns that have been raised.
Mrs. Lesko commented that she found the information helpful and she applauds the STOs for the high percentage of responses. She said she thinks it is inflammatory to accuse the STOs of lying on the survey.
In response to Mr. Chabin, Mr. Plumhoff said he will have to research the number of scholarships awarded to students with a family income of over $100,000 a year. Mr. Chabin pointed out that question was not reflected in the survey. Chairman Murphy said he does not think that in itself would be a helpful statistic. He stated that the Arizona corporate tax credit guidelines have categories where incomes over $100,000 would qualify should the family have a sufficient number of children.
Presentation on Economic Impacts to the State
Dr. Charles M. North, Associate Professor, Department of Economics, Baylor University, called Members’ attention to a handout: Estimating the Savings to Arizona Taxpayers of the Private School Tuition Tax Credit (Attachment 4). He advised that this report is his personal assessment of the program and is based on information he gathered primarily from public sources to determine whether Arizona taxpayers had a net gain or loss based upon the existence of tuition scholarship tax credits. He reviewed his findings, relating his conclusion that the program is a win-win situation for both Arizona taxpayers and the children of Arizona:
Dr. North pointed out that private school enrollment in Arizona has grown over the last decade notwithstanding competition from charter schools and in contrast to a nationwide decline in private school enrollments.
Mr. Chabin asked Dr. North whether he measured the number of students who would have gone to a private school if the tax credit was not available. Dr. North replied in the negative, explaining that a very detailed survey would be necessary across the country to gather that type of data. In answer to the question of whether the tax credits make that much of a difference, he answered that speculation would be necessary because of the lack of information on the financial status of families.
In reply to Mr. Chabin, Dr. North advised that he was retained to conduct the study by a coalition of school choice organizations in Arizona. The Center for Arizona Policy hired and will compensate him.
Mrs. Lesko commented that if the cost of putting each student through public school is $5,000 to $10,000 and the average scholarship costs $2,500, it is common sense that state money is being saved. She stated that the issue for her is providing the best education to each student. From testimony previously heard, parents claimed that their children have done better with a private school education while providing them with a choice for their children. In addition to providing choice for the best education, the program saves the state money. Dr. North concurred. He claimed that this program empowers parents to make a choice at no cost to the state, while actually saving money for the state.
Dr. North confirmed that this report was developed from publicly-available data; he did not incorporate any information from data that the STOs provided in response to the Chairman’s questionnaire.
Chairman Murphy asked Dr. North whether there is anything in staff’s report that would change his analysis. Dr. North referenced Attachment 2, Table 3, relating to the percentage of scholarships going to low-income students. By his rough estimate of the data shown, two-thirds of the scholarships would be going to low-income students. He said he suspects that a large number of the scholarship recipients, around 40 percent, would only be able to go to private schools because of this. Low-income families are the most likely to have need and would benefit by these scholarships. From Dr. North’s remarks, Chairman Murphy concluded that without an in-depth study, there are too many variables to accurately determine the type of schooling parents would choose for their children. Dr. North agreed. He said it would be very difficult to develop a study without making comparisons.
Presentation on Federal Tax Implications
Jeffrey J.
Hill, Hill & Hill Accounting, advised that he has been an income-tax
practitioner since 1973. He related that the individual who donates money for
this tax credit is allowed a charitable deduction because they are donating to
a 501 (c) (3). He explained that in the initial year that the contribution is
made, contributors in a 25 percent tax bracket and who give the maximum amount
of $1,000, will receive a $250 benefit from the federal government in the form
of a higher refund. He said that this is new money that is flowing into
Arizona to Arizona taxpayers on an individual basis from the federal
government. On the Arizona tax return, this is a dollar-for-dollar credit if a
person has a tax liability. If there is no tax liability, it is carried
forward up to five years. He said he strongly supports this program as a tax
strategy because of the federal and state deductions to those taxpayers looking
for some type of relief from high federal taxation and the ability to direct
that money to a very good cause. He said the Internal Revenue Service (IRS)
controls this whole process because the organization must meet the
qualifications of a
501 (c) (3) charity in order for contributors to be able to get a tax
deduction. He disclosed that the organization must be very careful that there is
no earmarking or the organization can lose that status. Taxpayers also must be
very careful in that they cannot have a pecuniary benefit for themselves. He
related that the IRS audits less that one-half of one percent of taxpayers;
they do most of their audits by computer while Arizona conducts its audits from
the IRS revenue audit reports.
Chairman Murphy spoke about earmarking of contributions. He asked for clarification that it is permissible to recommend a child when giving a tax credit donation but it is not permissible to donate only if a certain child is designated. Mr. Hill concurred. He said that is correct not only for the donor but also for the 501 (c) (3) entity. Chairman Murphy observed that the STO would be unlikely to engage in that behavior because it would be very risky for them to do so.
Discussion ensued on what is at risk. Mr. Chabin asked whether the 501 (c) (3) entity risks its status as a non-profit organization by a grandparent naming his grandchild as a beneficiary to a scholarship. Mr. Hill replied that the IRS looks at who is claiming the child as a dependent. If the child is the grandparent’s dependent, that is clearly earmarking. Mr. Chabin stated that the purest way for the STO to handle these scholarships is to adhere to the law and distribute scholarships based on strict criteria regardless of the donor’s wishes. Mr. Hill noted that the tax code is not an exact science and stated that even among STOs, purity will be viewed differently.
Chairman Murphy reiterated that earmarking on the federal level is acceptable as long as it is not one’s own dependent they are claiming on a tax return. Mr. Hill agreed.
Mr. Biggs commented that 501 (c) (3) corporations are regulated by the IRS. If an STO violates the IRS Code, there is an enforcement agency so he does not believe that is relevant to this Committee. He said he thinks this Committee should look more closely at the statutory scheme and how that applies.
Mr. Chabin opined that the problems that have arisen have been brought about by the absence of regulation and the absence of a state authority that could answer these questions in the context of what was intended by Arizona law. He again raised the question of what happens to an STO if it loses it designation as a tax-exempt organization because of certain practices and what happens to the tax dollars that were designated as scholarships. He maintained that this Committee should be focusing on these topics. He pointed out that Arizona statutes are more restrictive than the IRS Code because Arizona statutes say one cannot earmark at all while the IRS only forbids earmarking of one’s dependent. To that point, Mr. Biggs said he believes the practice of “swapping” has been exaggerated because Attachment 2, Table 3, notes that 67 percent of scholarships or tuition grants are distributed to financially-strapped students. He said that shows that the majority of contributions are not being earmarked or swapped.
Mr. Chabin raised the issue of directors and officers within the private non-profit corporation who have personally benefitted from employing family members. He said the tax-exempt status that a private non-profit organization secures from the federal government is intended to prevent the practice of self-dealing. The organization is supposed to submit Form 990 which asks whether a board member or an officer of the corporation receives compensation. He said he intends to issue a letter to all STOs requesting 990 forms from the last five years. He requested that Mr. Hill review the forms with other experts to see whether some of the organizations are risking their private non-profit status. Mr. Hill explained that the 990 form contains a notation that says it can be released to the public. He said he does not think the form would reveal any “self dealing.” Chairman Murphy contended that letters to the STOs are not needed because the 990 forms are public record. Mr. Chabin again stated his intention to issue a letter.
In response to Mr. Chabin, Mr. Hill said he presumes that if an organization loses its 501 (c) (3) status as a non-profit, all income would be taxable. Mr. Chabin asked whether it would be implied that all the money would be taxable and therefore would not go for tuition of children in need. Mr. Hill said the tax is on the income, not on the principal. If the money had not been distributed, it might be at risk because the IRS might confiscate that money either in penalties or in taxation because the organization had broken the law. Mr. Chabin said that state legislation could be passed to prohibit certain practices so these funds are protected and not put at risk.
Chairman Murphy disclosed that the vast majority of those who are running the STOs and administering the program are acting in good faith. He maintained that the data helps to demonstrate that scholarships are going to children with financial need and the money is not being misspent. He agreed that if there are gaps in the statute, this Committee should look at that.
Mrs. Lesko questioned the need for more state regulation. She said that if some are violating IRS rules, that agency could be notified.
Mr. Chabin contended that some of these practices have gotten out of hand and no one is really looking at them. He stressed that Arizona tax dollars have to be protected and he spoke of the need for further regulation. He suggested that one percent of the dollars received could go back to the State to pay for regulation.
Chairman Murphy announced that the Committee will be addressing specific recommendations at the next meeting. He expressed concern about skimming one percent off for further regulation. He referred to Attachment 2, Table 2, which shows that currently 7 STOs distribute 98 percent of their dollars for scholarships and two percent for administration, so if another one percent is taken out for bureaucratic oversight, administration costs will increase and a significant number of scholarships will have to be foregone. He said he thinks that further analysis is necessary.
Without objection, the meeting adjourned at 2:50 p.m.
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Joanne Bell, Committee Secretary
December 7, 2009
(Original minutes, attachments and audio on file in the Chief Clerk’s Office; video archives available at http://www.azleg.gov)
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Ad Hoc Committee on Private School
Tuition Tax Credit Review
November 16, 2009
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