Expanding tax-free tuition plans in Iowa comes with cost

Jan. 13--In her first Condition of the State address to lawmakers last week, Republican Gov. Kim Reynolds made brief mention of "529 plans" -- the tax-free college savings accounts Iowa has sponsored for 20 years -- in her pitch for a state income tax code rewrite.

Reynolds promised her tax reform plan will extend those plans to include K-12 education.

The move would align Iowa's tax code with one piece of the federal tax rewrite that Congress passed and President Donald Trump signed into law in December.

The federal change included an amendment that allows 529 plans -- named for a section of the Internal Revenue code -- to be used to pay for K-12 tuition at private and religious schools.

Although that now will be allowed for U.S. income taxes, Iowa allows state benefits only for withdrawals from 529 plans for higher education costs. State legislators would likely need to pass a measure allowing the benefits to sync.

The state is advising Iowa taxpayers who wish to use 529 plans for K-12 tuition expenses to consult a tax professional.

If the GOP-controlled Iowa Legislature does let state tax-free dollars pay for private school tuition, Iowa Treasurer Michael Fitzgerald said, it would have a "significant impact" on revenue.

"The treasurer's office estimate is this year it could cost the state of Iowa somewhere between $3.7 million and $4.5 million," said Fitzgerald, a Democrat, noting an authorization this legislative session would impact the remainder of fiscal year 2018, which ends in June. "We estimate in following years, it would grow to $8 million."

The state would no longer collect income tax on that money, and more taxpayers could take advantage of a tax deduction initially meant to encourage college saving.

Iowa is one of 33 states that ties its 529s to a state income tax deduction. In 2018, that deduction will be capped at $3,319 per student account.

Already, spending cuts are almost certain to come midyear because of projected fiscal 2018 shortfalls. Additional losses would likely mean additional cuts.

"How do you just keep cutting? If they authorize this, they're going to have to cut another $4.5 million, and I don't know where they're going to get it," Fitzgerald said.

House Ways and Means Committee Chairman Rep. Guy Vander Linden, R-Oskaloosa, said he expects there will be interest in following through on Reynolds' call for a change in the tax code.

"I think it would be confusing to people to say the feds say you can do it, but not in Iowa," said Vander Linden. "I would think people who have 529 plans, many of them would want to know: Why not? Everyone else is doing it."

In a statement, House Speaker Linda Upmeyer, R-Clear Lake, said legislators "will take a close look at" expanding 529s.

"We are always looking for opportunities to provide students and parents with more choice in education," she said.

Rep. Dave Jacoby, D-Coralville, said the tax change "seems like a good idea," but questioned how the state could afford it. Jacoby is a ranking member of the House Ways and Means Committee.

"One of the biggest reasons to use a 529 is the tax savings it affords you," Jacoby said. "If this is a method to help low-income or middle-income families use their own money to invest in private K-12, it can be a good thing. If this is just another tax shelter for very rich families, then I'm not in favor of it, and they would have sent their children to the private school anyway."

Jacoby also worried that allowing money to be withdrawn from 529s before students are old enough to attend college could dampen the program's current focus -- spurring postsecondary education.

For their part, private education advocates said they expect the impact for their schools would be small if the change were approved.

Expanding 529 plans to K-12 wasn't on the wish list of the Iowa Catholic Conference, which advocates on behalf of Iowa's private Catholic schools and their roughly 27,000 students.

"For those parents who are able to save ahead, they would get some tax benefit from it," Iowa Catholic Conference Executive Director Tom Chapman said. "It's a nice thing, it's helpful for some people who can achieve that tax benefit."

But, he added, "I don't think it will do a lot necessarily for parents who are lower income or aren't able to save ahead."

As the principal of a small, K-12 private school in Cedar Rapids, Cedar Valley Christian School Principal Jeff Pospisil said he doesn't expect any change to 529 plans to dramatically impact his student body, either.

"This has never even been on my radar," Pospisil said. "I don't see it having a huge impact, but I guess it could. Any little bit helps."

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