College Tax Credits and Deductions
It’s that time of year again when kids are starting or going back to college. So naturally there can be lots of questions regarding tax benefits that may or may not be available related to the costs of their education. Here is a brief summary of available options:
Federal Tax Credits/Deductions: When taxpayers qualify, tax credits are the best option, as they are deducted dollar-for-dollar off your total calculated tax. This is different than a tax deduction, which is taken off your taxable income before the tax rate is applied. Here are some general rules that apply to these:
- Eligible education institutions include virtually all accredited public, nonprofit, and proprietary post-secondary institutions, and some vocational schools.
- A joint return must be filed by married taxpayers to claim the credit.
- Credit or deduction is claimed in the year the expenses are paid, if that is when the education commences, or if it continues for one academic period during the first three months of the next year (i.e. paying tuition in December for spring semester starting in January).
- The person claiming the dependency exemption for the qualifying student is the taxpayer that is allowed the tax credit or deduction. Special rules apply if the taxpayer eligible to claim the dependency deduction for the student elects not to.
- Qualified expenses are defined as qualified tuition and fees required for enrollment. Course materials and books are also considered qualified expenses in certain cases. Costs associated with room and board, medical expenses (including student health fees), insurance, transportation, and similar personal, living or family expenses are not qualified tuition and related expenses in any case.
- Qualified expenses can be claimed only once toward a tax credit or deduction and only one tax credit or deduction is allowed per student per return. If the qualified expenses are being reimbursed through a college savings plan they cannot also be used in the calculation of the tax credit or deduction.
Some of the tax credits that are available for “post-secondary education” include:
- American Opportunity Tax Credit – Available only for students enrolled at least half-time. Phases out ranges for 2017 are $160,000 – $180,000 of modified Adjusted Gross Income (AGI) for married filing joint and $80,000 – $90,000 for single/head of household. The max credit is $2,500 per year per eligible student (100% of the first $2,000 in qualified expenses paid and 25% for the next $2,000 in qualified expenses paid). Credit can be claimed for only 4 tax years per qualified student.
- Lifetime Learning Tax Credit – Available for part-time as well as full-time students and is a per year max credit of $2,000 (20% of up to $10,000 of total qualified expenses per taxpayer). So, you add up all qualified education expenses paid in the tax year for all individuals you claim on your return including you and your spouse to find the total qualified education expenses. Phases out ranges for 2017 are $112,000 – $132,000 of modified Adjusted Gross Income (AGI) for married filing joint and $56,000 – $66,000 for single/head of household. No restriction on number of years credit can be claimed.
- Qualified Tuition and Expense Deduction – Above the line deduction not a tax credit. The 2017 max deduction is:
a) Up to $4,000 of qualified expense paid for taxpayers with up to $130,000 in modified AGI for joint returns and $65,000 in modified AGI for single/head of household.
b) Up to $2,000 of qualified expenses paid for modified AGI between $130,000 – $160,000 for joint returns and $65,000 – $80,000 in modified AGI for single/head of household.
Illinois Tax Credits/Deductions: Unfortunately, Illinois does not have post-secondary education tax credits available. However, if you qualify for the federal Tuition and Fees Deduction and have taken that on your federal return, then it will also flow through to you on your Illinois return.
Education Savings Options: Qualified 529 College Savings plans and Education Savings Accounts (ESA) provide vehicles to save for post-secondary educational expenses. These do not provide a federal credit, nor a deduction in the year of contribution, but the growth of the investment is tax-free as long as distributions are made for qualified educational expenses. Also, the definition of what is included as a qualified educational expense is broader than that used for the federal tax credits and deduction. If you use a qualified Illinois 529 College Savings plan, then you are allowed a 2017 Illinois deduction for the total contributions made to all plans up to a combined max of $20,000 if married filing jointly, or $10,000 if single. Also, this deduction is allowed even if you do not claim the beneficiary as a dependent on your Illinois return (e.g. if grandparents want to contribute or set up a qualified Illinois 529 Plan for their grandchildren, then they can take a deduction on their Illinois-filed return for their annual contribution).
Summary: As you can see, there are many decisions to make and tax planning options to consider when deciding how to save/pay for college expenses. It is important to know where you stand and what options are best for you and your student in order to maximize you tax benefits. If you have any tax planning questions or want to know more about how these tax options affect your personal situation, contact your tax preparer.
Enjoy the rest of your summer!