Reforming the Tax Incentives for Higher Education

Abstract

Federal spending on higher education has long been controversial, primarily because it has grown exponentially since the 1950s but it has produced a system which many regard as too expensive and grossly inefficient. The soaring costs are placing higher education beyond the reach of many Americans, and of those who enter college, less than half complete their degrees. Particular criticism has been directed toward the education tax incentives, enacted mostly in the late 1990s, which shifted federal funding for higher education from direct benefits to students in the form of grants, loans and work-study programs to indirect benefits through the tax system. The crux of this criticism is that the tax incentives, in addition to being costly and highly complex, have had virtually no effect on college enrollment and retention. Congress has studied this problem for the past few years and has several bills currently on the table to reform these incentives. There are other proposals pending as well, such as those of President Obama and the Education Consortium from the private sector. This article critiques these various proposals and explains why they are not likely to achieve the desired result of increasing college enrollment and retention, particularly among lower-income individuals. The article suggests a reform of the education tax incentives that is different from any of the current proposals and is more likely to achieve the desired result in a simpler, fairer, and more efficient manner.

Keywords: higher eduction, tax law, grants, student loans, tax incentives, Pell Grants, tuition, Hope Credit, Lifetime Learning Credit, American Opportunity Credit

JEL Classification: K19, K34