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Back to School: Tax Breaks for Education

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With approximately 18.2 million students enrolled in college1, parents must be thinking about how tuition costs are going to be met. While the largest source of funding comes from loans via financial aid, tax breaks can also play a significant role.

There are three primary tax breaks for education expenses: the American Opportunity Tax Credit, the Lifetime Education Credit, and the Tuition and Fees Deduction. The Tuition and Fees Deduction is currently expired unless Congress decides to renew it, so this post will focus on the other two.

The American Opportunity Tax Credit (AOTC)

The AOTC, formerly known as the Hope Credit, currently provides up to $2,500 of direct tax credits to help alleviate the cost of higher education.   The first $2,000 of qualified higher education expenses are eligible for 100% reimbursement in credits, and the next $2,000 can generate an additional 25%, for a total of $2,500 in credits for the first $4,000 of education expenses.

The credit is only available for the first four years of a student’s college education, and the student needs to carry at least half of a full course load.   In addition, the student needs to be enrolled in a program that leads to a degree or credential.

Income limits apply for those attempting to claim the credit. Married taxpayers filing jointly in 2014 are phased out when adjusted income is between $160,000 and $180,000. Single taxpayers are phased out of claiming the credit when adjusted income is between $80,000 and $90,000. Taxpayers who don’t pay federal income tax as a result of very low earnings are eligible to receive up to 40% of the credit as a tax refund.

The Lifetime Learning Credit

The Lifetime Learning Credit is worth up to $2,000 per year, crediting 20% of the first $10,000 of qualified higher education expenses. Unlike the AOTC, the Lifetime Learning Credit isn’t restricted by number of years and the student does not need to be pursuing a degree program. Also, there is no full-time course load requirement. The credit can be used even if only one class is being taken.

Like the AOTC, there are some income limitations, but they are lower. Married taxpayers filing jointly are phased out starting at $108,000 and credits are eliminated once adjusted income reaches $128,000. The range for single taxpayers is $54,000-$64,000. Also, the credit is limited to $2,000 per calendar year, while the AOTC is limited per student.

Putting It All Together

Unfortunately, the tax credits can’t be used for the same student’s expenses in the same year, so you’ll have to choose one or the other. As a general rule of thumb, the AOTC will give the highest benefit to most taxpayers. As with everything tax and finance related, there are always exceptions, so consult with your Certified Financial Planner™ and tax professional.


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