The New Federal Scholarship Tax Credit: What Prospective Scholarship Granting Organizations Should Do Before January 1, 2027

Takeaways

• The federal scholarship tax credit allows eligible individuals to claim a nonrefundable credit of up to $1,700 for qualifying cash contributions to scholarship granting organizations (SGOs).
• Only qualifying SGOs, listed by a participating state can receive contributions eligible for the Section 25F federal tax credit.
• Organizations seeking to participate in multiple states will need to address state-specific listing, registration, and Section 25F account requirements under forthcoming guidance.
• With the credit taking effect January 1, 2027, organizations considering SGO status should begin preparing now rather than waiting for Treasury and IRS regulations to be finalized.

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Beginning January 1, 2027, individual taxpayers will, for the first time, be able to claim a federal tax credit for contributions to organizations that fund elementary and secondary school scholarships. The credit, enacted in 2025 as Section 25F of the Internal Revenue Code, is dollar-for-dollar and available only for contributions to a qualifying scholarship granting organization (an “SGO”). Treasury is expected to issue proposed regulations shortly, and the mechanism by which an organization becomes a listed SGO in a given state runs on an annual cycle that begins to close well before the 2027 tax year opens. Organizations that hope to receive credit-eligible contributions in 2027 and the advisors who counsel them have a short, dated runway in which to act.

I. The Credit in Brief

Section 25F allows an individual who is a citizen or resident of the United States a nonrefundable credit of up to $1,700 per year for cash contributions to a qualifying SGO. A taxpayer may not also deduct the same contribution as a charitable gift under Section 170, and the federal credit is reduced by any state tax credit the taxpayer claims for the same contribution. Unused credit carries forward for up to five years. Two features shape the fundraising model. The credit is available only to individuals, so corporate and foundation gifts do not qualify, and the per-return cap means the program depends on broad participation by many individual donors rather than a few large ones.

II. What It Takes To Be a Scholarship Granting Organization

The credit rewards the donor, but the organization is the gatekeeper, and the statute imposes exacting requirements at the entity level. An SGO must be described in Section 501(c)(3), and it must be a public charity rather than a private foundation. Beyond that, two requirements are structural and unforgiving. First, the organization must spend at least 90 percent of its income on scholarships. Second, it may award scholarships only for qualified elementary and secondary education expenses, defined by reference to the Coverdell rules in Section 530(b)(3)(A), which reach tuition and fees, academic tutoring, services for students with special needs, books and supplies, transportation, and computer technology at public, private, or religious schools. An organization that also pursues other charitable programs, or that funds post-secondary or otherwise non-qualifying awards, will struggle to satisfy these tests, and no amount of internal accounting cures a failure at the entity level. For many sponsors, the practical answer is a separate, single-purpose entity that does nothing but award qualifying elementary and secondary scholarships.

The statute adds further conditions. Scholarships are limited to eligible students, generally those in households at or below 300 percent of area median gross income who are eligible to enroll in a public elementary or secondary school. The organization may not award scholarships to disqualified persons under rules drawn from the private foundation self-dealing regime, which reach the family members of the organization’s directors and officers, and donors may not earmark contributions for particular students. Contributions intended to qualify for the credit must be held in one or more separate accounts, and each SGO must obtain an annual independent audit that is furnished to every state in which it is listed.

III. A State-By-State Mechanism With a January 1 Deadline

Although Section 25F is a federal credit, it operates through the states. A state must affirmatively elect to participate, and each participating state compiles and submits to the Internal Revenue Service a list of the SGOs operating within it. An organization is usable by donors in a given state only if it appears on that state’s list, and the list is submitted on an annual cycle tied to a January 1 deadline. Recognition as a Section 501(c)(3) organization is therefore necessary but not sufficient. An organization must also be authorized to do business in the state, comply with that state’s charitable solicitation and registration requirements, and secure its place on the state list before the year in which it wishes to receive credit-eligible gifts. An organization that seeks donors in more than one state faces these requirements in each of them.

IV. Guidance Is Arriving, and the Window Is Short

Treasury and the Internal Revenue Service are expected to issue proposed regulations under Section 25F shortly, and taxpayers will be able to rely on them for the 2027 tax year. The Service has already prescribed the procedure by which a state makes its advance election to participate, and further guidance addressing the state listing process and donor substantiation is anticipated. Several mechanical questions remain open pending that guidance, and organizations should build to the statute while watching for the regulations to settle the details.

What is not uncertain is the calendar. The credit is available for taxable years beginning after December 31, 2026. To receive credit-eligible contributions in 2027, an organization must exist, hold a determination of its exempt status, and be listed by its state, and each of those steps takes time. Recognition of exempt status in particular can take many months, and expedited handling, although available in compelling circumstances, is not guaranteed. An organization that waits for the regulations to become final before beginning to form may find that the 2027 window has effectively closed.

V. What Prospective SGOs and Their Advisors Should Do Now

Organizations interested in the credit should confirm that their state has elected to participate, because effort spent on a state that has not opted in accomplishes nothing. They should evaluate whether an existing charity can satisfy the 90 percent and qualified-expense tests or whether a new single-purpose entity is required, and, where formation is needed, organize the entity and apply for recognition of exempt status without delay. In parallel, they should design the compliance architecture the statute requires, including the separate accounts, the income-verification and disqualified-person procedures, and the annual audit, and complete the state charitable registrations that listing will require. Advisors counseling donors, community foundations, school foundations, and other education funders should be prepared to explain both the opportunity and its conditions, because the organizations best positioned in 2027 will be those that started in 2026.

Conclusion

Section 25F opens a meaningful new avenue for funding elementary and secondary education, but it rewards preparation. The organizations that capture the 2027 opportunity will be those that form early, build the required compliance structure, and secure their state listing ahead of the deadline.

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For more information about Section 25F, the federal scholarship tax credit, or the formation and qualification of a scholarship granting organization, please contact Richard L. Lieberman (RLieberman@dykema.com or 312-627-2250) or your local Dykema relationship attorney