The IRS Just Proposed Rules for a New School Choice Tax Credit: What Donors Need to Understand Before They Give
On October 1, 2026, the U.S. Department of the Treasury and the IRS published proposed regulations for a brand-new federal tax credit, the Education Freedom Tax Credit under IRC Section 25F. It is the first federal tax credit of its kind, and it could change how millions of Americans think about their tax bill starting in 2027. If you pay federal income tax, what you do not know about this credit could cost you.
What Is the Education Freedom Tax Credit?
The Education Freedom Tax Credit is a new tax credit created under Section 25F of the tax code by the One Big Beautiful Bill Act. In plain English, it lets you donate money to a qualifying nonprofit scholarship organization, called a Scholarship Granting Organization or SGO, and then claim a dollar-for-dollar federal tax credit for that donation.
The federal program allows individual taxpayers to receive a nonrefundable, dollar-for-dollar federal income tax credit of up to $1,700 for qualified cash contributions to eligible Scholarship Granting Organizations. That is not a deduction. A deduction reduces the income your taxes are calculated on. A credit cuts the actual tax you owe, dollar for dollar.
Under the proposed regulations, eligible taxpayers may claim an annual credit of up to $1,700 for qualifying contributions, or up to $3,400 for married couples filing jointly. For married couples, each spouse’s own qualified contributions earn a credit of up to $1,700, so a couple can claim up to $3,400 on a joint return when each spouse gives at least $1,700 and designates the gift as a Section 25F contribution when making it.
The credit will allow individuals to receive federal tax credits for donations up to $1,700 to authorized scholarship-granting organizations, but states must opt in annually to participate. The program is set to begin on January 1, 2027.
The Key Rules You Need to Know
Before you write a check, here are the specifics that matter most.
Cash only, no crypto or stock
Eligible contributions must be cash only, with no stock or cryptocurrency. Scholarships go to K-12 students in households at or below 300% of area median income, living in the state where the SGO is listed.
It is nonrefundable, but unused credit carries forward
The credit is nonrefundable, meaning it can lower an individual’s federal income tax bill to zero, but they will not receive any leftover credit as a refund. Nonetheless, unused credits generally can be carried forward for up to five years. So if your tax bill in 2027 is smaller than the credit you earned, you do not lose the difference. It follows you forward, year by year, for up to five years.
No double-dipping with a charitable deduction
Taxpayers cannot double-dip by claiming both the federal credit and a charitable deduction on the same dollars. You choose one benefit per dollar donated. If you give more than $1,700, this does not mean that the donor is limited to a $1,700 qualified contribution to the scholarship granting organization. Any amount contributed in excess of $1,700 may be available for the taxpayer to claim as a charitable deduction.
Your state must participate
Section 25F was enacted in 2025 and applies to taxable years ending after December 31, 2026. The credit is available for qualifying cash contributions to SGOs in states that voluntarily elect to participate. States had until January 1 to opt into the program, and as of late October 2026, 31 governors had said they will participate, according to the IRS. That number is still moving. Check the IRS SGO list at IRS.gov before you give to confirm your state is in and your chosen organization is on the approved list.
Importantly, there is no requirement that the donor live in a participating state; the credit follows the donation, not the donor’s address. That means if your state has not opted in, you may still be able to donate to an SGO in a participating state and claim the credit.
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How You Actually Claim the Credit
The process has four steps, and the paperwork timeline matters.
- Make a qualifying cash gift to an approved SGO on or after January 1, 2027. Only cash gifts made on or after January 1, 2027 count, so a donation in December 2026 will not qualify.
- SGOs must give each donor a unique, IRS-formatted donor number in a written acknowledgment by January 31 of the following year, and donors must report that number on new Form 8525 attached to their Forms 1040.
- Your SGO must send a written acknowledgment with your donor number by January 31, 2028. You then report that number on Form 8525 with your 2027 return, filed in early 2028.
- If you have unused credit left over, it carries forward for up to five years on a first-in, first-out basis, with no carryback.
One planning note: the proposed rule does not say how one gift from a joint account would be split between spouses, so the safe practice, and Treasury’s own example, is two gifts, one from each spouse.
What This Means If You Have a Tax Debt Problem
If you are behind on your taxes or you owe the IRS, you may be wondering whether any of this applies to you. The honest answer is: it depends, and you need to sort out your current situation before making new financial moves.
The Education Freedom Tax Credit is a nonrefundable credit. It may only be used to offset federal income tax liability and cannot exceed the amount of tax you owe. That means it has no value to you if you have little or no federal income tax liability to offset, which is a situation that can arise when you are working through a tax debt resolution plan.
There is a second concern. When you file a return that results in a refund and you have outstanding IRS debt, the IRS may apply that refund to your balance. A credit that effectively reduces your withholding or lowers a tax bill does not put cash in your pocket directly, but a resulting refund could be intercepted. Getting your existing debt under control first puts you in a much stronger position to benefit from any new credit.
Finally, the regulations note that the temporary regulations are effective December 1, 2026, through no later than October 1, 2029, making definitions, SGO registration, donor acknowledgment and contribution reporting, and state election procedures binding. These are proposed rules, not final ones. Taxpayers, SGOs, and states may rely on the remaining proposed regulations for contributions made on or after January 1, 2027, if they follow them consistently and in their entirety. Translation: you can act on these rules for 2027 donations, but keep an eye on any final guidance that follows the public comment period.
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The Comment Period and What Comes Next
The proposed rule carries a 60-day comment period and a public hearing scheduled for December 15, 2026. After comments are reviewed, Treasury and the IRS will issue final regulations. The credit itself is still on track to launch January 1, 2027, and an estimated $26 billion in annual contributions is expected by 2030.
The proposed regulations were published under docket number REG-117199-25 and the IRS news release is IR-2026-117. You can read the full text on IRS.gov and submit comments through the federal rulemaking portal before the December 15, 2026 hearing.
Talk to a Tax Professional Before You Give
A new tax credit sounds like a straightforward win, but the right move for your situation depends on where you stand with your taxes right now. If you owe back taxes, have unfiled returns, or are dealing with IRS collections, giving money to an SGO without addressing those problems first could create complications you did not anticipate.
At Clear Start Tax, we help individuals and businesses understand how new tax developments interact with existing tax problems. Whether you are dealing with IRS debt, unfiled returns, or collection activity, our team can review your circumstances and help you understand your options. The Education Freedom Tax Credit may or may not be the right move for you this year, and a consultation is the best way to find out.
Do not let a promising new credit distract you from resolving the tax issues that are costing you the most. Reach out to Clear Start Tax to speak with a tax professional about your situation and how to move forward.
