Education Planning - Education-Related Tax Incentives

Federal law grants a number of tax benefits to help ease the costs of higher education. Careful review is required to help determine which ones are best to claim by a particular individual or family. As a general rule, a taxpayer cannot claim more than one benefit for the same education expense. Benefits generally can be used in combination for separate expenses.

 

  1. American Opportunity Credit - Tax credit for post-secondary education for 100% of first $2,000 of qualified education expenses; 25% of the next $2,000 (maximum credit $2,500). Credit is 40% refundable (or $1,000).
    • Applies to tuition and required enrollment fees as well as books and supplies.
    • Covers only first four years of undergraduate education.
    • Student must be enrolled at half-time in degree program.
    • No felony drug convictions of student.
    • Income phaseouts: $80,000 to $90,000 (single); $160,000 to $180,000 (joint returns).
  2. Lifetime Learning Credit - Tax credit equal to 20% of tuition and related expenses up to a maximum of $2,000 per year per family.
    • Applies only to tuition and required enrollment fees (not books or supplies).
    • Covers undergraduate and graduate education as well as higher education courses intended to acquire or improve job skills.
    • Available for an unlimited number of years for one or more courses.
    • Felony drug conviction rule does not apply.
    • Income phaseouts: $53,000 to $68,000 (single); $107,00 to $137,000 (joint returns).
  3. Tuition and Fees Deduction - A deduction of up to $4,000 for qualified expenses that reduces income subject to income tax.
    • Applies only to tuition and required enrollment fees.
    • Covers both undergraduate and graduate education.
    • Cannot claim both deduction and education credit for same student in same year.
    • An adjustment to income that can be claimed even if taxpayer does not itemize deductions.
    • Income phaseouts: $65,000 to $80,000 (single); $130,000 to $160,000 (joint returns).
  4. Student Loan Interest Deduction - A deduction of up to $2,500 on student loan interest paid in a tax year.
    • Applies to tuition, fees, books, supplies, equipment, room and board, transportation and other necessary expenses.
    • Covers undergraduate and graduate education.
    • Student must have been enrolled at least half time in degree program.
    • Covers lifetime of the loan.
    • Income phaseouts: $50,000 to $65,000 (single); $105,000 to $135,000 (joint returns).
  5. Educational exception to 10% penalty on early IRA distributions - Allows IRA owners to withdraw funds before retirement to cover education expenses without being subject to the 10% early withdrawal penalty.
    • Withdrawal may be subject to regular income tax.
    • Limit is equal to amount of qualified education expenses.
    • Covers books, supplies, equipment, room and board for at least half-time student and expenses for special needs services.
    • Applies to undergraduate and graduate education.
    • No income phaseouts.
  6. Employer-provided educational assistance - Qualified education expenses paid by an employer are free from taxation.
    • Exclusion is limited to $5,250 per year.
    • Covers tuition, fees, books, supplies and equipment.
    • Applies to undergraduate and graduate education.
    • No income phaseouts.
  7. Business deduction for worked-related education - Qualified expenses for work-related education may be deducted.
    • Covers tuition, fees, transportation and other necessary expenses.
    • Education required by employer or law or that maintains or improves job skills qualifies.
    • Cannot be to meet minimum education requirements of present trade or business.
    • Cannot qualify you for new trade or business.
    • For employees, deduction is subject to 2% floor for miscellaneous expenses.
    • For self-employed individuals, deduction is taken from self-employment income.
  8. Scholarships, fellowships, grants and tuition reductions - These forms of educational assistance are tax free if they meet certain requirements.
    • Assistance received for tuition, fees, books, supplies and equipment qualify for tax-free treatment.
    • Payments for room, board and travel are taxable.
    • Covers undergraduate, graduate and K-12 education.
    • Student must be enrolled in a degree or vocational program.
    • Students who qualify for tuition reduction or study tuition free receive these benefits tax free if they are received from an eligible educational institution and used at an eligible institution.
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