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What Is the Education Tax Credit?

Learn how two different education tax credits can help offset school costs for college students, life-long learners, and anyone looking to improve their job skills.

By Kristina Russo | American Express Credit Intel Freelance Contributor

6 Min Read | July 13, 2020 in Life

 

At-A-Glance

Tax credits for higher education can take up to $2,500 per student off your federal tax bill.

There are two education tax credits that have some similar qualifications as well as some different rules.

You can’t double dip on these education tax credits, so you’ll want to select the best one for you.

My twins are in high school, so I’m devouring every information tidbit that may help me better navigate the college process—especially about how to pay for it all. We all know the cost of secondary education has skyrocketed, leaving more students with debt. I was glad to see that the federal government offers many alternatives to help families offset the cost of higher education, like grants, loans, tax deductions, and tax credits. Here I’ll explain education tax credits, which are dollar-for-dollar reductions to your tax bill that can be a valuable way to reduce the cost of education.


There are two different federal education tax credits, both of which were available for 2019:

 

  • American Opportunity Credit (AOC): This education tax credit has more monetary value, up to $2,500 per student. But it’s only good for the first four years that a student pursues an accredited degree or certificate.

  • Lifetime Learning Credit (LLC): This credit maxes out at $2,000 per tax return—which will mean per family for most people. But it includes non-accredited courses meant to improve job skills, and there’s no limit to how many years you can take it (as long as you have qualifying education expenses).

The two education tax credits have many common requirements and many different ones. I’ll explain both credits so you can determine which best fits your situation, since you can’t use both for the same student.

 

Shared Characteristics of Both Education Tax Credits

Here’s what the two education tax credits have in common:

 

  • Who qualifies: You can claim either tax credit for your own educational expenses, for your spouse or another qualified dependent. But you can’t claim either of them if your filing status is married filing separately.1
  • What you can pay: Qualified educational expenses (definitions to follow) paid in the same year that you’re claiming a credit. Yes, you can include payments made this year for a semester or course that starts in the first three months of the following year. And yes, payments made on a student’s behalf by a third party, like a favorite aunt or friend, count as if you paid them.
  • Who you can pay: Most expenses must be paid to an accredited educational institution, which the IRS defines as one that participates in the Title IV federal student aid programs. You can search the 6,000+ qualifying institutions on the U.S. Department of Education website.2
  • Documentation: You’ll need a Tuition Statement (Form 1098-T) to prove the amounts you paid. Typically, you’ll receive that from the school by January 31 of the following year.

 

If, like me, you’ll be paying for more than one student each year, you can claim the AOC for both, or the AOC for one and the LLC for another.3 But you can’t claim both education tax credits for the same student in the same year.

 

Details of the American Opportunity Tax Credit

What it is: The AOC, an expanded replacement for the old Hope Tax Credit, maxes out at $2,500 for each qualifying student in 2019, and is calculated as 100% of the first $2,000 of qualifying expenses paid plus 25% of the next $2,000.4 The AOC is partially refundable, meaning that you may still get money back if your credit is bigger than the taxes you owe. More precisely, 40% of your AOC is refundable, up to a maximum of $1,000 per student.

 

AOC’s Mission: For me, the AOC “mic drop” is that students must be within the first four years of pursuing an accredited degree or other recognized certification. So, if your student is in their fifth year of their program, skip to the section below on LLC. The AOC also requires students to be enrolled in school at least half-time and never be convicted of a drug felony.5

 

Income Limits: The AOC phases out based on your income level. For taxpayers with modified adjusted gross income (MAGI) up to $80,000 ($160,000 for married couples filing jointly), the full credit can be claimed. Above those levels, IRS form 8863 helps you calculate a reduced AOC credit. The credit is completely phased out if your MAGI is $90,000 ($180,000 for married couples).6 For the purpose of the AOC, your MAGI is probably the same as your adjusted gross income (AGI), unless you had foreign income.

 

Details of the Lifetime Learning Credit

What it is: The LLC is worth $2,000 per tax return in 2019, notably less than the AOC. The LLC is calculated as 20% of qualifying education expenses up to $10,000, and is nonrefundable.(To better understand the difference between refundable and nonrefundable tax credits, read “What Are Refundable Tax Credits?”)

 

LLC’s Mission: The LLC has a broader mission, covering students who are enrolled at any level (undergraduate, graduate, post graduate, adult continuing education, vocational) and are pursuing courses that lead to either a degree or improved job skills. That’s why there’s no limit on the number of years the same student can qualify for this education tax credit.8 The LLC does not disqualify students convicted of drug felonies.

 

Income Limits: The LLC begins phasing out for MAGI of $58,000 and is eliminated by $68,000 ($116,000 and $136,000 if you’re married filing jointly).9

 

What Expenses Qualify for the AOC and LLC?

Qualified expenses for both education tax credits include all fees, tuition, student activity fees, books, supplies, and equipment paid to the school as a condition of enrollment. Beyond that, expenses that qualify for each credit begin to differ, based on the credits’ different missions. Some expenses qualify for neither, including significant costs like room and board, insurance, medical/student health fees, transportation, personal expenses, or any expenses paid with tax-free educational assistance.

 

For an easy comparison of what’s qualified for each tax credit, see the chart below.

Qualified Expense for the AOC & LLC Education Tax Credits

Expense Type Condition AOC LLC
Tuition Paid to school as condition of enrollment
Enrollment Fees Paid to school as condition of enrollment
Student Activities Paid to school as condition of enrollment
Athletic Fees Paid to school as condition of enrollment
Books Paid to school as condition of enrollment
Supplies Paid to school as condition of enrollment
Equipment Paid to school as condition of enrollment
Books Paid to school as condition of enrollment
Supplies Required for course, paid to off campus vendor X
Equipment Required for course, paid to off campus vendor X
Sports/Games/Hobby Fees Required for course, paid to off campus vendor X
Non-credit course fees Required for degree program X
Sports/Games/Hobby Fees Required for degree program X X
Non-credit course fees Aquire/Improve Job Skills X X
Room & Board, Living Expenses, Insurance, Medical, Student Health, and Transportation Fees Aquire/Improve Job Skills X

 

 

Source: IRS

 

How Do You Claim the Education Tax Credit?

In order to claim an AOC or LLC, you’ll need to fill out IRS form 8863.10 It’s easier to do that after you receive the Form 1098-T from your educational institution.

 

Don’t Forget State Education Tax Breaks

Almost every state offers tax breaks for education expenses. Some cover K-12 costs as well as secondary education. The nature of state tax breaks varies, and include education tax credits, tax-free/tax-deferred savings accounts, tax deductions, or pass throughs of federal programs. It is best to check with a tax advisor to understand the benefits available in your state.

 

The Takeaway

In many cases the AOC is the most lucrative of the federal education tax credits, but its restrictions may disqualify some students. That’s where the LLC may be helpful. In my case, I’ll likely be using both over the next few years.

Kristina Russo

Kristina Russo is a CPA and MBA with over 20 years of business experience in firms of all sizes and across several industries, including media and publishing, entertainment, retail, and manufacturing.

 

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