As discussed in a previous post, paying for higher education can be a stressful task for a parent and/or student. Unfortunately, expenses for higher education cannot be claimed as deductions on a tax return outright, but there are four available deductions and credits that can help at tax time.
First, it is important to distinguish the difference between a deduction and a credit. A deduction reduces a taxpayer's taxable income, while a credit reduces a taxpayer's tax. Therefore a deduction does not reduce a taxpayer's tax dollar-for-dollar like a credit. Also, some credits are refundable, meaning that if they exceed the amount of tax owed, the taxpayer can receive the difference as a refund. In all, a credit is better because it reduces tax and could result in a refund.
The American Opportunity Credit (AOC) is a credit available for each eligible student enrolled at least half of the year for the first four years of postsecondary schooling (college). The credit is the maximum of qualified education expenses or $2,500, and is available to taxpayer's with adjusted gross income (AGI) of $180,000 MFJ / $90,000 S or less. On top of that, 40% of the credit can be refundable.
The Lifetime Learning Credit (LLC) is a credit available per return, not per student, up to the maximum of qualified expenses or $2,000. This credit can be claimed for an unlimited number of years which makes it great for students attending law or medical school. The credit is available to taxpayer's with AGI up to $127,000 MFJ / 63,000 S. This credit is completely nonrefundable.
Taxpayer's that pay student loan interest can benefit from the Student Loan Interest Deduction (SLID). The student loan must be taken out solely to pay qualified education expenses and the student must be the taxpayer, spouse, or a dependent. The student must be enrolled at least half-time. A deduction is allowed up to the maximum of $2,500 or the amount of interest paid during the year for taxpayers with AGI less than $155,000 MFJ / $75,000 S. This deduction is an "adjustment to income" on page 1 of the 1040 and reduces AGI before other deductions.
Finally, the Tuition and Fees Deduction (TFD) is available as an "adjustment to income" up to the maximum of $4,000 or qualified tuition and fees. Note that this deduction is available only for tuition and fees, not other expenses such as room and board, meal plans, or books. This deduction is available to taxpayers with AGI less than $160,000 MFJ / $80,000 S. The catch is that the tuition and fees deduction cannot be claimed if the taxpayer is already claiming the American Opportunity or Lifetime Learning credits.
These are four of the most popular education benefits offered to individual taxpayers, and their benefits are maximized in certain situations. The AOC maximizes its benefits during the first four years of college because it has a high AGI limit and is a credit to reduce tax. The LLC is beneficial for students that go past the first four years, but is limited in that it has a lower AGI threshold and can only be claimed per return. The SLID removes some of the sting from paying interest on student loans, but the maximum $2,500 deduction usually pales in comparison to the total amount of interest that is paid in a year. The TFD is beneficial for someone that goes back to school and only pays tuition, is no longer eligible for the AOC, and has a higher AGI than the threshold for the LLC.
Information from the IRS on benefits for education can be found here. Education benefits can be confusing, but seeking the advice of a professional on the best use of these credits during the college years can help reduce tax liability during years of high expenses.