What Is the American Opportunity Tax Credit (AOTC)?
The American Opportunity Tax Credit is a tax credit for qualified education expenses associated with the first four years of a student’s post-secondary education. It replaced the Hope Credit in 2009. The AOTC can be claimed on the tax return of a student, dependent provider, or spouse making post-secondary education payments.
- The American Opportunity Tax Credit is available for American taxpayers to help offset costs for post-secondary education.
- The credit allows up to $2,500 annually in tax credit for qualified tuition expenses, school supplies, or other related costs.
- Room and board, medical expenses, and insurance do not qualify for the AOTC, nor do any qualified expenses paid for with 529 plan funds.
- Terms for the tax credit include student enrollment status and income limitations.
Understanding the American Opportunity Tax Credit
The American Opportunity Tax Credit was introduced in 2009, specifically for students attending a post-secondary institution. Slated to run until Dec. 2017, there were no changes made to the credit under the newest tax plan—the Tax Cuts and Jobs Act (TCJA), approved by Congress on Dec. 22, 2017. However, there were changes to personal exemptions and the dependent child tax credit that may be relevant to some taxpayers.
With the AOTC, a household with a qualifying student can receive a maximum of $2,500 annually in AOTC tax credit. Parents claiming their student as a dependent can also claim a $500 credit for a child aged 19 to 23.
The AOTC credit helps with educational expenses such as tuition and other expenses related to a student's coursework. Eligible students can claim 100% of the first $2,000 spent on school expenses, and another 25% of the next $2,000. This means the maximum amount a qualifying student can claim with the AOTC is (100% x $2,000) + (25% x $2,000) = $2,500. In other words, $2,500 worth of credit can be received to offset $4,000 in educational costs.
Eligible expenses are detailed in Publication 970. Students must receive a Form 1098-T. Expenses associated with the credit cannot be associated with any other tax breaks that may also apply.
In general, tax credits can be refundable or non-refundable. The AOTC is partially refundable. It offers 40% of the credit back to taxpayers if their taxes are reduced to zero. This means that if a taxpayer has no tax liability for the year, they can still receive 40% of their eligible credit as a refund.
According to the IRS, a qualified student is one who:
- Must be enrolled at least part-time at a post-secondary institution
- Is taking courses toward a degree or some other recognized education qualification
- Has not been convicted of any felony drug offense through the end of the tax year
Check out the IRS website for a more detailed list of who is considered an eligible student.
The AOTC can be claimed by eligible taxpayers for four years of post-secondary education. According to the IRS, a qualified educational expense includes tuition paid to the school, as well as expenses for books, supplies, and equipment that may have been bought from external sources. These expenses can be paid for with student loans to qualify, but not with scholarships or grants. Room and board, medical expenses, and insurance do not qualify for the AOTC. Expenses paid with funds from a 529 savings plan also do not qualify.
A single taxpayer has to have a modified adjusted gross income (MAGI) that is less than $80,000 to qualify for the AOTC. A MAGI between $80,000 and $90,000 will have a partial credit at a reduced rate applied. A taxpayer with a MAGI over $90,000 would not qualify for the AOTC. A married couple filing jointly must report less than $160,000 to get a full credit.
|MAGI Eligibility for American Opportunity Tax Credit|
|Single||Married, Filing Jointly|
|Full Credit||≤ $80,000||≤ $160,000|
|Not Eligible||> $90,000||> $180,000|
AOTC vs. Lifetime Learning Credit
The AOTC and the Lifetime Learning Credit (LLC) are two popular tax breaks that taxpayers with educational expenses seek to take advantage of on their annual tax return. The Lifetime Learning Credit also has a similar structure to the AOTC. The two credits cannot be claimed in the same tax year.
The LLC differs from the AOTC in a number of ways. A maximum of 20% of up to $10,000 of expenses ($2,000) for tuition and other educational costs can be claimed using the LLC. The LLC is not limited to students pursuing a degree or studying at least part-time. Instead, it covers a broader group of students—including part-time, full-time, undergraduate, graduate, and courses for skill development. The LLC is non-refundable, meaning once a taxpayer's bill has been reduced to zero, there will be no refund on any credit balance.
Tax filers should assess their individual situation to determine which tax credit provides the greatest benefit if they are eligible for both the AOTC and the LLC. The partial refundability of the AOTC can be an important factor. Some taxpayers may only qualify for the LLC, which makes the decision easy.
Other Tax Breaks for Education
Federal and state governments support individuals' higher education expenses through a number of tax credits, tax deductions, and tax-advantaged savings plans. Each of these programs can help to lower income tax liability.
Beyond the AOTC and the LLC, deductions and 529 plans can be worthwhile options. Student loan interest is deductible once it begins to be applied. Other educational expense deductions may also be available, including certain itemizations for business deductions and deductions for self-employed workers.
National and state-sponsored 529 savings plans also exist. Taxes are not required on 529 distributions for educational costs subject to some terms and conditions.
Real-World Example for the AOTC
David is a full-time undergraduate college student at a four-year institution. He also works for a law firm. His parents have a substantial 529 savings account in place, but it doesn’t cover all of David’s expenses. David also has a student loan with deferred payments and interest until after his graduation.
David and his family have planned to use student loans for his tuition and 529 savings for his room and board. David receives his annual 1098-T statement from his college. Since he is working on his own, he plans to take the AOTC himself. He is eligible for both the AOTC and LLC, but he chooses the AOTC because it provides the largest credit and is also partially refundable. David is just above the required limit for filing an annual tax return.
David paid his tuition with his student loan, which is allowable for the AOTC. The AOTC helps to alleviate any tax that he owes and he also gets a partial refund. David doesn’t owe anything on his loans until after he graduates. The money distributed from his 529 was tax-free because it was used for room and board, which is a qualified 529 expense.
Internal Revenue Service. "American Opportunity Tax Credit." Accessed Feb. 3, 2020.
Internal Revenue Service. "Tax Reform Provisions that Affect Individuals." Accessed Feb. 3, 2020.
United States Congress. "Actions Overview: H.R. 1, 115th Congress." Accessed Feb. 1, 2020.
Internal Revenue Service. "Compare Education Credits and Tuition and Fees Deduction." Accessed Feb. 5, 2020.
Internal Revenue Service. "The Lifetime Learning Credit (LLC)." Accessed Feb. 1, 2020.
Internal Revenue Service. "Publication 970 (2019), Tax Benefits for Education." Accessed Feb. 5, 2020.