Senate Backs Tax Break for College Costs : Savings Bond Interest Would Be Free of Levy if Used for Education

The Senate voted 94 to 0 Thursday to help parents pay college expenses by providing a tax exemption for interest on U.S. savings bonds if the money is used for higher education.

The bipartisan measure, introduced by Sen. Edward M. Kennedy (D-Mass.) with the backing of Senate Republican leader Bob Dole of Kansas, closely resembles a plan advanced by the GOP presidential nominee, Vice President George Bush.

Although the savings plan was easily passed by the Senate as an amendment to a catch-all tax bill, it faces an uncertain fate in a Senate-House conference committee next week in the closing days of the congressional session.

House Speaker Jim Wright (D-Tex.) has said that leaders of the House Ways and Means Committee might refuse to negotiate a compromise tax bill this year if the Senate fails to accept several unrelated tax provisions in the House-passed legislation.

However, the unanimous Senate vote indicated that the plan probably would be enacted next year if it fails to survive the pre-adjournment rush.

Both parties have pushed to offer help to families with college education expenses as that growing burden has become an issue in the presidential campaign. In addition to Bush’s savings-bond proposal, Democratic nominee Michael S. Dukakis has suggested allowing college students to borrow the cost of their educations and then make payments later through a government-administered payroll deduction system.

In a floor speech, Kennedy said that the Senate’s plan set a precedent by using the tax code for the first time to encourage families to save for the fast-rising costs of sending children to college.

“The plan works like this: If a family buys a U.S. savings bond and uses it to pay for their child’s higher education, the interest earned on that bond will be tax-free,” Kennedy said. “At the present time, the interest earned on savings bonds is tax-deferred until the bond is redeemed.

“Our plan would eliminate the tax completely and give families an incentive to save for college expenses by investing in America,” Kennedy said.

The bill provides the full tax exemption for families earning less than $60,000 a year and partial exemptions for those earning less than $80,000.

The savings bonds could be turned over to a college or other institution of higher learning to pay for tuition, fees, required books, supplies or equipment. If a child does not attend college, the savings bonds could be cashed but federal income tax would have to be paid.

The Treasury now pays 6.9% interest on U.S. savings bonds, which are sold through a payroll checkoff by 50,000 companies. The interest rate can change every six months because it is pegged at 85% of the average interest rate on marketable Treasury securities with more than five years to maturity, but it cannot fall below 6% a year if the bonds are held for at least five years.

Treasury officials said someone who bought $25 in savings bonds every two weeks for 12 years would end up with a lump sum of $11,263, including interest, which would be fully tax-free under the plan for families earning less than $60,000 annually.

A reduced benefit exempting two-thirds of the interest earmarked for college expenses would be available for families with incomes between $60,000 and $70,000. A one-third tax exemption would be provided for those in the $70,000 to $80,000 category. There would be no tax exemption for those with higher incomes.

Kennedy said the legislation would not reduce revenue to the Treasury because other changes in the tax code would offset the cost of the savings bond plan. One proposed change would limit parents’ ability to claim full-time college students over the age of 24 as dependents for tax purposes.