Paying for college can be expensive. Fortunately, there are tax credits available that can help reduce the cost. This comprehensive guide will outline all the known strategies and methods students and graduates can use to maximize tax credits for scholarships, grants, and tuition costs. Let’s jump right in!
American Opportunity Tax Credit
The American Opportunity Tax Credit (AOTC) allows you to claim a credit of up to $2,500 per eligible student for qualified expenses paid during the taxable year for the first four years of higher education. 40% of the credit (up to $1,000) is refundable.
To be eligible, the student must be pursuing a degree or other recognized education credential and be enrolled at least half time for at least one academic period beginning during the taxable year.
Key Points
- Credit of up to $2,500 per student
- Can be claimed for 4 tax years per student
- 40% of credit is refundable
See if you qualify for the AOTC based on income limits and other requirements.
Lifetime Learning Credit
The Lifetime Learning Credit allows you to claim up to $2,000 per tax return for tuition and fees paid during the taxable year for eligible students. There is no limit on the number of years this credit can be claimed. 20% of the credit (up to $400) is refundable.
Students can be enrolled less than half time and do not need to be pursuing a degree or credential. Coursework must be to acquire or improve job skills.
Key Points
- Credit of up to $2,000 per tax return
- Can be claimed for an unlimited number of tax years
- 20% of credit is refundable
See if you qualify for the LLC based on income limits and other requirements.
Tuition and Fees Deduction
The Tuition and Fees Deduction allows you to reduce your taxable income by up to $4,000 for tuition and fees paid during the tax year. This deduction expired in 2020 but could potentially be extended.
Key Points
- Reduces taxable income by up to $4,000
- Applies to taxpayers earning up to $80,000 ($160,000 if married filing jointly)
- Must itemize to claim the deduction
See if you can claim the tuition and fees deduction if it is extended.
Student Loan Interest Deduction
The Student Loan Interest Deduction allows you to deduct up to $2,500 in interest paid on qualified student loans. This reduces your taxable income.
To claim this deduction, you must have been legally obligated to pay interest on a qualified student loan that was used to pay the cost of attending an eligible educational institution.
Key Points
- Reduces taxable income by up to $2,500
- Applies to interest paid on qualified student loans
- Claimed as an adjustment if you don’t itemize deductions
See if you qualify for the student loan interest deduction based on income limits.
Tax-Free Scholarships and Grants
Scholarships, grants, and fellowships may be tax-free if:
- You are a candidate for a degree at an eligible educational institution
- You use the money to pay qualified education expenses
Any amounts used for room and board are taxable.
See IRS Publication 970 for more details on qualifying scholarships and grants.
Pay Tuition with Tax-Free 529 Plan Funds
529 plans allow you to either prepay or contribute to an account for paying a student’s qualified education expenses tax-free. Funds can be used at any eligible educational institution.
Key Points
- Contributions grow tax-deferred
- Qualified withdrawals are tax-free
- Can be used for tuition, fees, books, supplies, equipment
See this intro to 529 plans for more information.
Cover Expenses with Tax-Advantaged Coverdell ESAs
A Coverdell Education Savings Account (ESA) allows tax-free distributions and tax-deferred growth when used for qualified education expenses of an eligible student.
Key Points
- $2,000 annual contribution limit per beneficiary
- Tax-free earnings if used for qualified expenses
- Can be used for tuition, fees, books, supplies, equipment
Get an overview of Coverdell ESAs and their features.
Claim Education Credits for Years You Didn’t Attend
If you paid education expenses in one year but didn’t attend school during that year, you can still claim education credits such as the AOTC or LLC for those expenses. This allows you to maximize credits across tax years.
See Claiming Education Credits for Years You Didn’t Attend on IRS.gov for details.
Waive Scholarships and Grants Exceeding Qualified Expenses
If you receive scholarships, grants, or fellowship amounts exceeding your qualified education expenses for the year, the excess is taxable income. However, you can avoid this by waiving the amount exceeding qualified expenses. Check with your school’s financial aid office on how to do this.
Consider Claiming Education Expenses for Non-Degree Learning
You may be able to claim education credits and deductions for courses taken to acquire or improve job skills even if they don’t lead to a degree or credential. This can include seminars, conferences, and workshops. Ensure the program meets the IRS definition of qualified education expenses.
Adjust Withholding to Get Education Benefits Upfront
Many education tax benefits don’t just reduce how much tax you owe – parts of them are fully refundable tax credits. You can adjust your withholding using Form W-4 to get these amounts as a larger tax refund or smaller amount due during the year.
Examine Employer Tuition Assistance Programs
Find out if your employer offers tax-free tuition assistance up to $5,250 per year through an educational assistance program under Section 127 of the tax code. This allows tax-free tuition payments.
Table Summary of Education Tax Benefits
| Tax Benefit | Details |
|---|---|
| American Opportunity Tax Credit | Up to $2,500 credit per student, 40% refundable, 4 years limit |
| Lifetime Learning Credit | Up to $2,000 credit per return, 20% refundable, unlimited years |
| Tuition and Fees Deduction | Up to $4,000 deduction, reduces taxable income |
| Student Loan Interest Deduction | Up to $2,500 deduction, reduces taxable income |
| Tax-Free Scholarships/Grants | Tax-free if used for qualified education expenses |
| 529 Plans | Tax-deferred growth, tax-free withdrawals |
| Coverdell ESAs | $2,000 annual limit, tax-free withdrawals |
Final Thoughts
There are various tax credits, deductions, and tax-advantaged accounts that can help reduce the cost of higher education. Strategically using these tax benefits can maximize your savings. Consider all options – even uncommon tactics like waiving scholarship aid or claiming expenses for non-degree learning. With proper planning, you can take advantage of every available tax break for scholarships, grants or tuition costs.
