The cost of a college education continues to outpace inflation, climbing faster than almost every other major expense faced by American families. As these costs mount, the federal government offers several ways for students and families to subtract certain college expenses from the taxes they owe.
In a culture in which both the number of student loans taken out and the borrowed amount of money are increasing, any savings can help. These particular savings fall into two categories – tax deductions and tax credits.
Two of these savings are “above-the-line deductions,” lowering the amount of taxable income: the Student Loan Interest Deduction and the Tuition and Fees Deduction.
Two other savings are tax credits, which reduce the amount of taxes actually paid: American Opportunity Tax Credit and the Lifetime Learning Credit.
As with any income tax regulation, there are complex instructions issued by the Internal Revenue Service (IRS) concerning who may claim these deductions and credits, and how. It is always recommended that anyone who intends to take advantage of these tax savings contact the IRS or a knowledgeable tax preparer.
Student Loan Interest Deduction
The IRS permits individual taxpayers whose modified adjusted gross income (MAGI) is below $75,000, and joint filers whose MAGI is below $155,000, to deduct interest paid on student loans. For the 2012 tax year, the amount of income subject to income tax is reducible for these filers by a maximum of $2,500.
To qualify for the Student Loan Interest Deduction, the loan must have been taken out to pay for qualified education expenses, including tuition and fees, room and board, books, supplies and equipment and other necessary expenses, such as transportation. Loans from another family member, certain corporations and organizations, or those made under a qualified employer plan, are exempted.
A taxpayer, spouse or dependent can take the deduction as long as the person is legally responsible for repaying the loan and cannot be claimed as an exemption on another’s tax return.
Until the loan is paid off, all interest paid during the tax year can be deducted up to the statutory limit. The Student Loan Interest Deduction can be claimed even if the taxpayer does not itemize deductions on a Schedule A form, or in addition to any other itemized deductions.
Tuition and Fees Deduction
The Tuition and Fees Deduction can reduce the amount of income subject to tax by up to $4,000. It is available to single filers whose MAGI is below $80,000 and married filers whose joint MAGI is below $160,000. The deduction applies only to qualified education expenses at an eligible postsecondary educational institution, including tuition and fees, but not room and board.
Expenses paid by tax-free scholarships or awards, or a tax-free withdrawal from a college savings plan or Education Savings Account (ESA), cannot be deducted.
The Tuition and Fees Deduction is available for the taxpayer, a spouse, or one or more dependents claimed as an exemption on a filer’s federal tax return. Like the Student Loan Interest Deduction, the Tuition and Fees Deduction can be applied even if the taxpayer does not itemize deductions on a Schedule A form, or in addition to any other itemized deductions.
The Tuition and Fees Deduction cannot be taken by the same student in the same year if either of the two tax credits – the American Opportunity Tax Credit or the Lifetime Learning Credit – is claimed.
American Opportunity Tax Credit
The American Opportunity Tax Credit (AOTC) was a temporary tax credit that renamed and modified the Hope Educational Assistance Credit as a result of the American Recovery and Reinvestment Act of 2009 (also known as the “stimulus” bill).
Congress further enhanced the credit under the Tax Relief and Job Creation Act of 2010, to benefit a broader range of taxpayers, including many with higher incomes and those who do not owe any tax. The credit was also expanded from two to four years of post-secondary education. The AOTC was extended until the end of 2017, under the American Taxpayer Relief Tax Act Of 2012 (the “fiscal cliff” bill).
It includes tuition and all required course materials, including books, equipment and other supplies. Students must be enrolled at least half-time in a degree program of a qualified post-secondary institution. The AOTC cannot be used for room and board, transportation, insurance, medical expenses or any fees unless they are required.
Students who are independent and not claimed as exemptions on their parents’ tax return can qualify for the AOTC. Otherwise, their parents can claim the credit. The maximum annual credit is $2,500. Up to $1,000 is “refundable,” meaning that a filer can get money back even if no taxes are owed. The full credit is available to individual filers with MAGIs below $80,000 and married filers with joint MAGIs below $160,000. Partial credit is available for higher incomes.
Lifetime Learning Credit
The Lifetime Learning Credit of up to $2,000 per tax year can be claimed as qualified post-secondary education costs by the student, the student’s spouse or by the student’s parents. There is no limit on the number of years the credit can be claimed. This makes the credit particularly helpful to graduate students, students who are attending school less than half-time, and those taking classes to improve or acquire job skills and not necessarily to get a degree.
Eligible expenses include tuition, fees and any books and equipment required by the school. The credit cannot be claimed for room and board or for any expenses that were paid for by a grant, scholarship, employer or education savings account.
For single filers, the credit is phased out if MAGI is above $60,000. For married filers the joint MAGI limit is $120,000. Partial credit is available for higher incomes.
The Lifetime Learning Credit cannot be used in the same year for the same student if either the American Opportunity Tax Credit or the Tuition and Fees Deduction is claimed.