The 90/10 rule and §25F compliance requirements for SGOs, explained

This is the compliance companion to our SGO overview and how-to-start guide. Everything below traces to the text of IRC §25F and to Treasury’s October 2026 proposed regulations. Those are not final: comments are due December 1, 2026, but taxpayers, SGOs, and states may rely on them for contributions made on or after January 1, 2027, if they follow them in their entirety and consistently.

What the 90/10 rule actually says

Section 25F(d)(1)(B) requires that a qualifying SGO “spends not less than 90 percent of the income of the organization on scholarships for eligible students.” That sentence is the whole rule in the statute: a floor for scholarship spending, measured against the organization’s income. “90/10” is shorthand for what follows from it. Neither §25F nor Treasury’s proposed regulations calls the other 10% an administrative allowance or says what it is for; it is simply the most of a year’s income that does not have to be spent on scholarships. Measured against everything an organization takes in, which is how the proposed regulations read “income” by default, that 10% has to cover everything else: staff, technology, audits, legal, fundraising, donor stewardship, income verification, reporting, and any other program the organization runs.

The proposed regulations soften this for organizations built around scholarships. An SGO that qualifies for the 85% safe harbor (explained below) measures the 90% against its §25F segregated account only. Treasury designed it in part “to allow SGOs to raise funds for administrative costs that would not count toward the 90 percent of income spending requirement.” Qualified contributions and their earnings still have to go at least 90% to scholarships; separate, non-§25F gifts and other receipts that never enter the account are not part of the income the test is measured against, and can fund operations.

Two common shorthands get the rule wrong. It is not “90 cents of every donated dollar”: the test runs on a year’s total income (all gross receipts, or under the safe harbor the §25F account’s contributions plus earnings), not gift by gift, and spending is counted when paid, through the end of the following year. And it is not a rule that lets an SGO keep 10% of donations for overhead: under the safe harbor, up to 10% of the account’s income does not have to be spent on scholarships, and the proposed regulations say nothing more about that remainder.

For comparison, charity watchdogs often treat 70-85% program spending as strong, and Treasury’s own analysis of Form 990 data found that existing state-program SGOs spent 78% of revenue on program-related expenses on average in fiscal year 2024, with 72% of them below 90%. The §25F standard is materially stricter, so for an SGO, operational efficiency is a compliance matter.

“Income,” not “donations”

The statute pegs the 90% to income, not donations received, and the proposed regulations confirm the broad reading: investment income, interest on held balances, and every other receipt fall within the base the 90% is measured against. Build your accounting so you can demonstrate the ratio on the correct base, and don’t assume “90% of gifts” is the same number as “90% of income.”

Treasury’s proposed regulations, issued October 1, 2026, define “income of the organization” as “the total gross receipts of the organization from all sources,” computed on the cash method and “unreduced by any expenses,” regardless of the accounting method the organization uses in its own books. Many commenters had asked Treasury to count only qualified contributions. Treasury declined: in its reading, the separate-account requirement is a tracing and anti-commingling rule and does not shrink the income the 90% is measured against. What it offered instead is the 85% safe harbor.

The 85% safe harbor

If at least 85% of a single-State SGO’s activities are scholarship granting, it may apply the operating requirements, including the 90% test, to its §25F segregated account instead of to the organization as a whole. Income then means the qualified contributions received by, and earnings credited to, that account during the year. Scholarship granting counts whether it runs under §25F, a state tax-credit scholarship program, or any other scholarship program, and administrative, fundraising, governance, investment, compliance, and outreach work counts as scholarship granting to the extent it supports scholarship granting.

Keep the two tests apart. The 85% activity test looks at what the whole organization does, and supporting overhead counts toward it. The 90% spending test counts only money spent on scholarships for eligible students; the cost of staff who process scholarships does not count toward it. The proposed rule does not say how to measure “activities” beyond that support rule. Treasury asked for comments on whether the measure should be receipts, expenditures, staff time, program-service activity, or another metric, and on whether 85% is the right line.

An SGO using the safe harbor has to clear the disqualified-person rule twice, at the organization level and at the account level, and certify each year that it met the 85% test. An organization below 85% gets no safe harbor, so the 90% applies to everything it takes in. Treasury acknowledges that may require forming a new organization for §25F, and the temporary regulations let a state list an organization whose 501(c)(3) application is still pending if the exemption, once granted, is effective by January 1 of the list year. Treasury estimates that as many as 450 organizations that would otherwise find the 90% rule too burdensome could participate because of the safe harbor. More in our news analysis of the safe harbor and the guide to turning an existing nonprofit into an SGO.

Multistate SGOs

An SGO on two or more states’ lists has no choice: at least 85% of its activities must be scholarship granting. It keeps a separate §25F account for each covered state, lets donors designate how their gift is split among those states, deposits each gift as designated, and meets the operating requirements, including the 90% test, separately for each state’s account, where income is that account’s own contributions and earnings. The rules do not say what to do with a gift that names no state.

When the money has to go out

The statute sets no deadline; the proposed regulations do. Each year’s income must be spent on scholarships by the last day of the following taxable year, so a first-year SGO is not tested until the end of its second year. For a calendar-year SGO, every $100 of 2027 income means at least $90 paid out in scholarships for eligible students by December 31, 2028. The mechanics:

• Spent means paid. The cash method applies, so an award counts when the money goes out, not when it is promised. A multi-year scholarship counts in each year a payment is made.
• Oldest income first. Payments are applied to the earliest year’s income first, then to later years in order.
• Refunds restart the clock. An overpayment or mistaken payment that a school or vendor returns is new income in the year it comes back, with until the end of the following year to spend it.
• No double counting. No payment counts as spent in more than one year.
• Digital wallets. Treasury’s preamble says money transferred to a qualified digital wallet counts as spent on the date of transfer, as long as the SGO does not keep ownership of it.
• Only eligible students in the state count. The spending has to be on scholarships for eligible students solely within the state, meaning students who reside in the state that lists the SGO (they may attend school elsewhere).

The annual certification an SGO attaches to its Form 990 reports this year by year: how much of the year’s spending counted toward the prior year’s income and how much toward the current year’s, and the percentage of each year’s income spent. Build the ledger to produce those numbers for each account. An SGO that fails the test can be removed from the IRS SGO list (with a right to seek review by the IRS Independent Office of Appeals), and a state can remove it from its list after a due-process procedure. Our coverage of the two-year spending window and our news coverage of the rules walk through the rest.

The 10-student rule

Section 25F(d)(1)(A) requires an SGO to provide scholarships to 10 or more students who do not all attend the same school. This blocks an organization from operating as a private conduit for a single school or family, and it shapes how narrowly an SGO can define its mission. A single-school “SGO” does not qualify. The proposed regulations use the §530(b)(3)(B) definition of a school (one providing K-12 education as determined under state law) for this test, and Treasury has said separate §530 guidance on schools and qualified expenses is coming.

Renewal and sibling priority

Awards aren’t purely discretionary. Section 25F(d)(1)(D) imposes a required priority order:

1. Students awarded a scholarship the previous school year (renewals) come first.
2. After renewals, eligible students who have a sibling who was awarded a scholarship from the same organization. The proposed regulations count brothers and sisters, adopted and foster siblings, half-siblings, and step-siblings.

Your award engine has to encode this order before applying any of your own criteria. Families understandably plan around continuity, and the statute protects it. The proposed regulations add some flexibility by award type: priority matters most for tuition, fees, and room and board, while a scholarship for individual tutoring or special-needs services can be prioritized by the student’s need.

Anti-earmarking

Section 25F(d)(1)(E) prohibits an SGO from earmarking or setting aside contributions for any particular student. A donor can choose which SGO to support, by geography or mission, but cannot direct a gift to a named child. Contributions flow into the general pool and are awarded under the priority rules and the SGO’s published criteria. “Give to help my nephew’s tuition” is exactly what the rule forbids.

Self-dealing and disqualified persons

Section 25F(d)(2) prohibits awarding a scholarship to any disqualified person, determined under rules similar to IRC §4946. The proposed regulations spell out who that is: substantial contributors; officers, directors, and trustees (and anyone with similar powers); anyone who participates in selecting recipients or setting award amounts, including unpaid committee members; and the family members of all of them. A substantial contributor is anyone who gives more than $5,000 to the SGO in its taxable year, if that is also more than 2% of the SGO’s total contributions that year, and the same test runs separately on your §25F segregated account. Spouses’ gifts are combined, status is determined at year end and lasts that year and the next, and an award made before a donor crossed the line is excepted if you did not know or reasonably expect it. In Treasury’s own example, a $6,000 gift that ends the year at 2.14% of an SGO’s $280,000 in contributions makes the donor a substantial contributor for that year and the next. Officers, directors, and selectors stay disqualified through the end of the year after they leave. There is no exception for blind or anonymized selection. Maintain a conflict-of-interest policy and screen applicants against your insider list so a board member’s child never receives an award. More in our coverage of the disqualified-person rules.

Separate accounts

To qualify under §25F(c)(5)(B), an SGO must prevent co-mingling of qualified contributions by maintaining one or more separate accounts used exclusively for them. This is a definitional requirement: fail it and you’re not an SGO. The proposed regulations add the details. The §25F segregated account holds only qualified contributions and their earnings; every gift a donor designates as a §25F contribution goes into it, whether or not that donor ends up claiming the credit; the designation is irrevocable; and the SGO keeps a complete set of books and records for the account. A multistate SGO keeps one account per covered state. Set up dedicated bank accounts and ledger structure before accepting a single dollar. How scholarship funds move out to schools and families, kept audit-clean.

Income verification

Section 25F(d)(1)(F) requires the SGO to verify the annual household income and family size of applicants and to limit awards to households at or below 300% of area median gross income, using the household’s income for the calendar year before the application. The statute borrows the AMGI term from §42; the proposed regulations apply HUD’s Section 8 income-limit method, adjusted for family size, and the IRS will publish the figures annually (they are not out yet). The proposed regulations allow four routes: direct documentation (pay stubs, tax returns, IRS transcripts, W-2s), categorical eligibility (a SNAP, TANF, WIC, Section 8, or SSI award letter from the last 12 months), a safe harbor for tutoring and special-needs scholarships at schools in low-income census tracts, and a foster-child safe harbor. Details in income verification for SGOs. This is recurring, document-heavy work, and it’s a prime candidate for automation, because doing it by hand at volume is expensive and none of that cost counts toward the 90%.

Donor substantiation & the double-benefit rule

Donors need documentation from the SGO to claim the §25F credit. Two coordination rules shape what you tell them:

• No double deduction (§25F(e)): the part of a contribution that earns the credit cannot also be taken as a §170 charitable deduction. Under the proposed regulations, the part above the credited amount (for example, the $300 above $1,700 on a $2,000 gift) may still be deductible under the normal §170 rules.
• State-credit offset (§25F(b)(2)): the federal credit is reduced by any state credit the donor claims for the same contribution. Under the proposed regulations the reduction comes off the contributions before the $1,700 cap, so a $2,500 gift with a $500 state credit still earns the full $1,700.

The credit is also non-refundable, capped at $1,700 per taxpayer, with a 5-year carryforward on a first-in, first-out basis (§25F(f)). The proposed regulations treat each spouse on a joint return as a separate taxpayer, so a married couple can claim up to $3,400 when each spouse makes and designates their own gift of at least $1,700 (and the couple has enough tax liability to use it). Under Treasury’s temporary regulations, which take effect without a comment period and apply from September 1, 2026, your written acknowledgment must reach each donor by January 31 with your EIN, the year’s designated total, whether you provided goods or services (with a description and good-faith value), and the donor’s unique donor number, which the donor reports on Form 8525 (not yet released). The donor number means you do not collect or report donors’ Social Security numbers; you report each donor number with the donor’s name, address, and annual total to the IRS by February 28 through the IRS SGO portal. For the donor-side mechanics, see the federal tax credit explained.

What the proposed regulations settled

Through Notice 2025-70, Treasury asked for comment on issues that directly affect SGO operations, and in June it previewed its answers. The proposed regulations and temporary regulations issued October 1, 2026 now answer them in rule text:

• What “income of the organization” means. Answer: total gross receipts from all sources, on the cash method and unreduced by expenses, unless the organization is at least 85% scholarship granting and uses the safe harbor, in which case it is the qualified contributions and earnings in its §25F segregated account.
• How long an SGO has to spend it. Answer: through the last day of the following taxable year, counted when paid, oldest income first.
• Whether the 90% requirement applies state-by-state or in aggregate for multi-state SGOs. Answer: per state, with a separate §25F account for each state and each account tested on its own contributions and earnings.
• How “located in the State” is defined for an SGO. Answer: authorized to do business in the state and compliant with its generally applicable charitable-organization rules, and states may not require SGOs to operate under rules more restrictive than §25F’s own.
• Recordkeeping, reporting, and income-verification methods. Answer: four income-verification routes, IRS portal registration, donor acknowledgments by January 31, IRS reporting by February 28, an annual certification attached to the Form 990, and an annual audit (an independent committee may do it for organizations with $500,000 or less in receipts).
• Joint filers and AMT. Answer: each spouse on a joint return is a separate taxpayer for the $1,700 cap, and the credit applies against both regular tax and the alternative minimum tax.
• Gifts from donors who don’t designate a state. Still open: the rule requires a multistate SGO to let donors designate and to deposit as designated, but does not address a gift with no state named.

Frequently asked questions