College Tax Questions, Answered By a Former IRS Agent
“Hi! I’m from the Internal Revenue Service, and I’m here to help.”
Heard that before? Probably not.
I’m a homeschool dad and for 34 years of my career, I worked for the Internal Revenue Service. As a result, I’ve seen a lot of tax returns, and I know how confusing the system can be. With April 15th around the corner, here are some common questions about education deductions and how to take advantage of them.
What is a 1098-T and what are you supposed to do with it?
A 1098-T is what colleges give to both you and the IRS to prove you paid tuition that year.
Before you enroll in a school, check out the Department of Education’s database for accredited institutions. It is these institutions that can and should issue Form 1098-T when an enrolled student pays tuition and other costs associated with their enrollment.
Remember, you must be in pursuit of academic credit and will not receive a 1098-T for amounts paid for any course involving sports, games, or hobbies, unless it is part of your degree program. Room and board, insurance, medical expenses, transportation, or personal living expenses also do not qualify. All eligible expenses incurred are tabulated for the calendar year and reported on Form 1098-T.
The 1098-T is then used with the filing of your personal Form 1040 or Form 1040A. It will also help prove your eligibility for education deductions.
What are the most common ways to not be taxed on education expenses?
The two most common places to save money on education-related taxes are through the Lifetime Learning Credit and the American Opportunity Tax Credit.
To claim either, you must meet all three of the following:
You, your dependent, or a third party pay qualified education expenses for higher education. (Tuition would qualify, but room, board, and transportation do not qualify. The purchase of homeschool curriculum does not qualify as an education expense, as it is not in the pursuit of a degree from an accredited educational institution.)
You, your dependent, or a third party pay qualified education expenses and are an eligible student enrolled at an eligible education institution. (You can’t go to just any school and get a tax write-off. Make sure your institution qualifies.)
The eligible student is yourself, your spouse, or a dependent you listed on your tax return (i.e. you have to be you.)
If you’re eligible for both the Lifetime Learning Credit and the American Opportunity Tax Credit in the same year, you have to choose one or the other--you can’t claim both. Which one should you pick if it comes down to it? Take a look at the details and differences below.
1. The Lifetime Learning Credit
The Lifetime Learning Credit (LLC) is a tax credit for qualified tuition and related expenses paid for eligible students enrolled in an eligible educational institution. There is no limit on the number of years you can claim the credit and it is worth up to $2,000 per tax return. This money is given to you in reimbursement for college education expenses. This credit can help pay for undergraduate, graduate, and professional degree courses, as well as courses to acquire or improve job skills.
With the LLC, you receive 20% of the qualified expenses, up to $2,000, as a credit, which you can use to pay any tax you owe. The LLC is not a cash reimbursement, and you will not receive any of the credit back as a refund. However, $2,000 can go a long way toward any taxes you owe.
Claiming this credit means a little more paperwork, but is still doable. You’ll have to complete Form 8863 and attach it to your Form 1040 or Form 1040A. (Detailed instructions here.)
2. The American Opportunity Tax Credit
Although the LLC does not create a “refundable” credit, the American Opportunity Tax Credit may. The AOTC is a means by which you may receive a check from the IRS for your educational costs. After you have worked through the credit calculations and determined the amount you are due, you use that amount to offset income tax on your return. If you have paid all of your income tax and some of the credit is left over, the IRS will send you that money. Not only do you get a savings, you get a check too! That’s a refundable credit.
Like the LLC, you will be required to fill out Form 8863. The additional worksheets will help you determine if you qualify for a “refundable” credit. Let’s say you were required to purchase a computer to take online courses in pursuit of your degree. Is that purchase a qualified expense for either of these credits? It can be under the AOTC if you are enrolled in an eligible institution.
Be sure to work through the chart and decide which credit will work best for you, before you make the computer or any other education related purchase. The credit may actually pay for it!
Which credit should you choose? Take a look at the chart included on page one of the instructions for Form 8863. It may answer many of your questions for which credit to use.
There you have it: the two most common tax-reducers for families with students in college. You should seek out the advice of a tax professional during the preparation of your personal taxes.
Feel free to post comments below and if there’s enough interest, I’ll write another post.