Thursday, July 2, 2020

Espinoza and Scholarship Tax Credits

On Tuesday, the Supreme Court released a second opinion of interest to the nonprofit world. In Espinoza, the Court looked at the constitutionality of excluding private religious schools from a scholarship program.

Broadly speaking, the scholarship program worked like this: the state created a tax credit for donations to “student scholarship organizations.” A to qualify as a student scholarship organization, an organization must be exempt under section 501(c)(3) of the Code, must allocate 90% of its annual revenue to scholarships, and those scholarships couldn’t be limited to a single school. Student scholarship organizations also have to comply with certain reporting and audit requirements. The scholarships are meant to help pay for grade school—they can only be given to students who are at least 5, but not older than 18.

Scholarship money must be paid directly to the school; it’s the school’s job to inform parents that their child received a scholarship.

So far, so good, right? This is a scholarship program administered by private nonprofit entities, so there’s no state action to invoke the Constitution. But it’s the next step that implicates constitutional questions: the state provided a dollar-for-dollar tax credit to Montanans who donated to student scholarship organizations, for a credit of up to $150. (Note that, to get the tax credit, the donor can’t designate the parent or private school that will receive scholarship assistance.)

And that intersected with Montana’s Blaine Amendment. The Montana constitution prohibits “any direct or indirect appropriation or payment from any public fund or monies… to aid any church, school, academy, seminary, college, university, or other literary or scientific institution, controlled in whole or in part by any church, sect, or denomination.” Believing that a tax credit represented indirect aid to schools that received scholarship money, the Montana Department of Revenue promulgated a rule that religious schools were not “qualified education providers,” eligible to receive these scholarship funds. The Montana Supreme Court ultimately agreed that the scholarship program violated the state constitution and invalidated the whole scholarship program.

The U.S. Supreme Court disagreed on Free Exercise grounds. Essentially, it held that the no-aid provision of the Montana state constitution barred the school from participating in a public benefit solely because of its religious character. That, it said, put this case squarely within the ambit of Trinity Lutheran.

The Montana Department of Revenue argued that Espinoza didn’t fit because in Trinity Lutheran the benefit—playground equipment—was nonsectarian, while in Espinoza public money could indirectly pay for not only secular, but also religious, instruction, in violation of Supreme Court precedent that allowed the state to not provide scholarship to divinity students. The Court said the two cases weren’t comparable for two reasons. First, it was okay to deny funding based on what a student was going to do with the education (i.e., become a minister). Second, that denial derived from a “historic and substantial” state interest, while Montana had no similar historical opposition to paying money to religious schools. (Note that I’ve written about my skepticism that “historical interests” tests have any determinative value; they’re easy to use opportunistically to bolster a judge’s priors.)

Ultimately, I’m unsurprised by the Court’s decision for one big reason: there’s no direct payment by the government to a religious school. Though the two may be virtually indistinguishable economically, courts tend to treat tax credits and deductions differently than they treat direct payments (notwithstanding the “indirect” language in Montana’s Blaine Amendment). And here, there’s an extra step of remove: the state provided a tax credit to donors who donated to a third-party scholarship fund. That third party then paid scholarship money to secular and religious private schools.

Economically, the state of Montana probably funded most (if not all) of the scholarship funds. (It’s hard to say for sure: Big Sky Scholarships was the only student scholarship organization formed under the regime and if it has filed a Form 990, its 990 isn’t on GuideStar.) For every donor who donated $150 or less, the state bore 100% of the cost. To the extent that a donor donated more than $150, the state paid for the first $150. (How do I figure that? With a dollar-for-dollar tax credit, if I were a Montana resident and I donated $150 to the fund, I would reduce my state tax liability by $150; as a result, my donation wouldn’t cost me anything—the state would provide all of the funding.)

But formally, the state hasn’t provided any money to religious schools. And whether that should matter or not, it generally doesn’t.

Of course, that's not the analysis the Supreme Court went through; essentially, it reiterated its position that religious organizations have to have equal access to public benefits as non-religious organizations.

Samuel D. Brunson

https://lawprofessors.typepad.com/nonprofit/2020/07/espinoza-and-scholarship-tax-credits.html

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