[Congressional Bills 104th Congress]
[From the U.S. Government Publishing Office]
[S. 386 Introduced in Senate (IS)]

  1st Session
                                 S. 386

To amend the Internal Revenue Code of 1986 to provide for the tax-free 
  treatment of education savings accounts established through certain 
                State programs, and for other purposes.


_______________________________________________________________________


                   IN THE SENATE OF THE UNITED STATES

            February 10 (legislative day, January 30), 1995

 Mr. McConnell introduced the following bill; which was read twice and 
                  referred to the Committee on Finance

_______________________________________________________________________

                                 A BILL


 
To amend the Internal Revenue Code of 1986 to provide for the tax-free 
  treatment of education savings accounts established through certain 
                State programs, and for other purposes.

    Be it enacted by the Senate and House of Representatives of the 
United States of America in Congress assembled,

SECTION 1. TAX TREATMENT OF STATE EDUCATION SAVINGS ACCOUNTS.

    (a) In General.--Part III of subchapter B of chapter 1 of the 
Internal Revenue Code of 1986 (relating to items specifically excluded 
from gross income) is amended by redesignating section 137 as section 
138 and by adding after section 136 the following new section:

``SEC. 137. EDUCATION SAVINGS ACCOUNTS.

    ``(a) General Rule.--Gross income shall not include any qualified 
education savings account distribution.
    ``(b) Qualified Education Savings Account Distribution.--For 
purposes of this section--
            ``(1) In general.--The term `qualified education savings 
        account distribution' means any amount paid or distributed out 
        of an education savings account which would otherwise be 
        includible in gross income to the extent such payment or 
        distribution is used exclusively to pay qualified higher 
        education expenses incurred by the designated beneficiary of 
        the account.
            ``(2) Rollovers.--The term `qualified education savings 
        account distribution' includes any transfer from an education 
        savings account of one designated beneficiary to another such 
        account of such beneficiary or to such an account of another 
        designated beneficiary.
            ``(3) Special rules.--The determination under paragraph (1) 
        as to whether an amount is otherwise includible in gross income 
        shall be made in the manner described in section 72, except 
        that--
                    ``(A) all education savings accounts shall be 
                treated as one contract,
                    ``(B) all distributions during any taxable year 
                shall be treated as one distribution,
                    ``(C) contributions to an account described in 
                subsection (c)(4)(B)(i) shall not be included in the 
                investment in the contract with respect to the account, 
                and
                    ``(D) the value of the contract, income on the 
                contract, and investment in the contract shall be 
                computed as of the close of the calendar year in which 
                the taxable year begins.
    ``(c) Education Savings Account.--For purposes of this section--
            ``(1) In general.--The term `education savings account' 
        means a trust created or organized in the United States--
                    ``(A) pursuant to a qualified State educational 
                savings plan, and
                    ``(B) exclusively for the purpose of paying the 
                qualified higher education expenses of the designated 
                beneficiary of the account.
            ``(2) Qualified state educational savings plan.--The term 
        `qualified State educational savings plan' means a plan 
        established and maintained by a State or instrumentality 
        thereof under which--
                    ``(A) participants may save to meet qualified 
                higher education expenses of designated beneficiaries,
                    ``(B) planning and financial information is 
                provided to participants about current and projected 
                qualified higher education expenses,
                    ``(C) education savings account statements are 
                provided to participants at least quarterly, and
                    ``(D) an audited financial statement is provided to 
                participants at least annually.
            ``(3) Qualified higher education expenses.--The term 
        `qualified higher education expenses' means the cost of 
        attendance (as defined in section 472 of the Higher Education 
        Act of 1965).
            ``(4) Limitations.--A trust shall not be treated as an 
        education savings account unless the following requirements are 
        met:
                    ``(A) No contribution will be accepted unless it is 
                in cash, stocks, bonds, or other securities which are 
                readily tradable on an established securities market.
                    ``(B) Contributions will not be accepted for any 
                taxable year in excess of the applicable limit. The 
                preceding sentence shall not apply to--
                            ``(i) contributions to the qualified State 
                        educational savings plan which are allocated to 
                        all education savings accounts within the class 
                        for which the contribution was made, or
                            ``(ii) rollover contributions described in 
                        subsection (b)(2).
                    ``(C) The trust may not be established for the 
                benefit of more than one individual.
                    ``(D) The trustee is the qualified State 
                educational savings plan or person designated by it.
                    ``(E) The assets of the trust may be invested only 
                in accordance with the qualified State educational 
                savings plan.
            ``(5) Applicable limit.--For purposes of paragraph (4)(B)--
                    ``(A) In general.--The applicable limit is $3,000.
                    ``(B) Indexing.--In the case of taxable years 
                beginning after December 31, 1995, the $3,000 amount 
                under subparagraph (A) shall be increased by the 
                education cost-of-living adjustment for the calendar 
                year in which the taxable year begins.
                    ``(C) Education cost-of-living adjustment.--For 
                purposes of subparagraph (B), the education cost-of-
                living adjustment for any calendar year is the 
                percentage (if any) by which--
                            ``(i) the higher education cost index for 
                        the preceding calendar year, exceeds
                            ``(ii) such index for 1994.
                    ``(D) Higher education cost index.--For purposes of 
                subparagraph (C), the higher education cost index for 
                any calendar year is the average qualified higher 
                education expenses for undergraduate students at both 
                private and public institutions of higher education for 
                the 12-month period ending on August 31 of the calendar 
                year. The Secretary of Education shall provide for the 
                computation and publication of the higher education 
                cost index.
    ``(d) Tax Treatment of Accounts and State Plans.--
            ``(1) Exemption from tax.--An education savings account 
        shall be exempt from taxation under this subtitle. 
        Notwithstanding the preceding sentence, any such account or 
        plan shall be subject to the taxes imposed by section 511 
        (relating to imposition of tax on unrelated business income of 
        charitable, etc. organizations).
            ``(2) Loss of exemption of account where individual engages 
        in prohibited transaction.--
                    ``(A) In general.--If the designated beneficiary of 
                an education savings account is established or any 
                individual who contributes to such account engages in 
                any transaction prohibited by section 4975 with respect 
                to the account, the account shall cease to be an 
                education savings account as of the first day of the 
                taxable year (of the individual so engaging in such 
                transaction) during which such transaction occurs.
                    ``(B) Account treated as distributing all its 
                assets.--In any case in which any account ceases to be 
                an education savings account by reason of subparagraph 
                (A) as of the first day of any taxable year, an amount 
                equal to the fair market value of all assets in the 
                account shall be treated as having been distributed on 
                such first day.
            ``(3) Effect of pledging account as security.--If, during 
        any taxable year, the individual for whose benefit an education 
        savings account is established, or any individual who 
        contributes to such account, uses the account or any portion 
        thereof as security for a loan, the portion so used shall be 
        treated as distributed to the individual so using such portion.
    ``(e) Reports.--The Secretary may require the trustee of an 
education savings account to make reports regarding such account to the 
Secretary, to the individual who has established the account, and to 
the designated beneficiary of the account with respect to 
contributions, distributions, and such other matters as the Secretary 
may require. The reports required by this subsection shall be filed at 
such time and in such manner and furnished to such individuals at such 
time and in such manner as may be required by those regulations.''
    (b) Tax Treatment of Qualified State Educational Savings Plan.--
            (1) Treatment as section 501(c)(3) organization.--Section 
        501(c)(3) of such Code is amended by inserting ``or which is a 
        qualified State educational savings plan (as defined in section 
        137(c)(2)),'' after ``animals,''.
            (2) Charitable contributions.--
                    (A) Subparagraph (B) of section 170(c)(2) of such 
                Code is amended by inserting ``, or which is a 
                qualified State educational savings plan (as defined in 
                section 137(c)(2)),'' after ``animals''.
                    (B) Section 170(b)(1)(A) of such Code is amended by 
                striking ``or'' at the end of clause (vii), by 
                inserting ``or'' at the end of clause (viii) and by 
                inserting after clause (viii) the following new clause:
                            ``(ix) a qualified State educational 
                        savings plan (as defined in section 
                        137(c)(2)).''
    (c) Contribution Not Subject to Gift Tax.--Section 2503 of such 
Code (relating to taxable gifts) is amended by adding at the end the 
following new subsection:
    ``(h) Education Savings Accounts.--Any contribution made by an 
individual to an education savings account described in section 137 
shall not be treated as a transfer of property by gift for purposes of 
this chapter.''
    (d) Tax on Prohibited Transactions.--Section 4975 of such Code 
(relating to prohibited transactions) is amended--
            (1) by adding at the end of subsection (c) the following 
        new paragraph:
            ``(4) Special rule for education savings accounts.--An 
        individual for whose benefit an education savings account is 
        established and any contributor to such account shall be exempt 
        from the tax imposed by this section with respect to any 
        transaction concerning such account (which would otherwise be 
        taxable under this section) if, with respect to such 
        transaction, the account ceases to be an education savings 
        account by reason of the application of section 137(d)(2)(A) to 
        such account.'', and
            (2) by inserting ``, an education savings account described 
        in section 137(c),'' in subsection (e)(1) after ``described in 
        section 408(a)''.
    (e) Failure To Provide Reports on Education Savings Accounts.--
Section 6693 of such Code (relating to failure to provide reports on 
individual retirement accounts or annuities) is amended--
            (1) by inserting ``or on education savings accounts'' after 
        ``annuities'' in the heading of such section, and
            (2) by adding at the end of subsection (a) the following 
        new sentence: ``Any person required by section 137(e) to file a 
        report regarding an education savings account who fails to file 
        the report at the time or in the manner required by such 
        section shall pay a penalty of $50 for each failure, unless it 
        is shown that such failure is due to reasonable cause.''
    (f) Special Rule for Determining Amounts of Support for 
Dependent.--Subsection (b) of section 152 of such Code (relating to 
definition of dependent) is amended by redesignating paragraph (6) as 
paragraph (7) and by inserting after paragraph (5) the following new 
paragraph:
            ``(6) A distribution from an education savings account 
        described in section 137(c) to the individual for whose benefit 
        such account has been established shall not be taken into 
        account in determining support for purposes of this section to 
        the extent such distribution is excluded from gross income of 
        such individual under section 137.''
    (g) Clerical Amendments.--
            (1) The table of sections for part III of subchapter B of 
        chapter 1 of such Code is amended by striking out the item 
        relating to section 137 and inserting the following new items:

                              ``Sec. 137. Education savings accounts.
                              ``Sec. 138. Cross references to other 
                                        Acts.''
            (2) The table of sections for subchapter B of chapter 68 of 
        such Code is amended by striking out the item relating to 
        section 6693 and inserting the following new item:

                              ``Sec. 6693. Failure to provide reports 
                                        on individual retirement 
                                        accounts or annuities or on 
                                        education savings accounts.''
    (h) Effective Date.--The amendments made by this section shall 
apply to contributions made in taxable years beginning after December 
31, 1994.
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