College is very costly. Many students are overwhelmed by the financial requirements. Some struggle to make it to graduation. Luckily, there are many excellent options out there designed to help college students pay for their tuition. One of these options is a student tax credit.
College is very costly. Many students are overwhelmed by the financial requirements. Some struggle to make it to graduation. Luckily, there are many excellent options out there designed to help college students pay for their tuition. One of these options is a student tax credit.
Student tax credits are a type of education-related tax credit. Students enrolled in higher education can use these credits to ease the financial burden of attending. Unfortunately, many students struggle to understand how to apply for students. Others don’t even know what student tax credits are.
In this in-depth guide, we’re going to break down what student tax credits are and how to apply. We’ll also break down a few frequently asked questions that often surround the conversation of student tax credits.
A student tax credit is a dedicated credit issued by the IRS to assist students with tuition. Currently, there are two major student tax credits available. These include the American Opportunity Credit and the Lifetime Learning Credit. Generally, tax credits are considered to be better than, say, tax deductions. Tax credits will reduce an individual’s overall tax bill down to a dollar. Tax deductions will only significantly reduce one’s total taxable income.
Some taxpayers worry about potential changes to higher education tax credits. However, according to an IRS FAQ page, the two main student tax credits are still going strong.
“The Protecting Americans Against Tax Hikes (PATH) Act of 2015 made AOTC permanent,” the FAQ reads, “ The AOTC helps defray the cost of higher education expenses for tuition, certain fees, and course materials for four years. In addition, the Trade Preferences Extension Act 2015 requires most students to have received a Form 1098-T. To be eligible to claim the AOTC or the LLC, this law requires a taxpayer (or a dependent) to have received Form 1098-T, Tuition Statement, from an eligible educational institution.”
The American Opportunity Credit or AOTC is a student tax credit. It can be used by students during their initial four years of college. Applicants are able to receive a yearly credit of $2,400 if eligible. If this tax credit reduces a student’s tax payment to zero, they can then enjoy up to 40% of the remaining amount as a refund.
To be eligible for an American Opportunity Credit, one must meet these requirements:
There are a few important things to know about the American Opportunity Credit:
The maximum yearly credit one can receive is $2,500.
To pursue this credit, you must receive Form 1098-T (Tuition Statement) from your school. In most cases, students receive this form from their schools by the end of January each year. This statement is actually quite helpful. It helps students understand their credit a little better. It will also show how much you have received during the taxable year. Keep in mind that the amount listed on your 1098-T may not be the complete amount that you can claim. Once you receive your statement, take a look at the list of qualified education expenses via Form 970 from the IRS.
In order to claim the total credit, you must have a modified adjusted gross income of $80,000 or less. For students who are married and file their taxes jointly, this MAGI must be $160,000 or less. In most cases, one’s MAGI is simply their adjusted gross income or AGI. A number of factors calculated by Form 1040 play into this number, including your earned income and scholarship money.
The Lifetime Learning Credit or LLC is a student tax credit. It must be used for tuition and other college-related expenses. This credit is ideal for students who need help paying for professional degrees. The Lifetime Learning Credit can be applied for more than four years. This is a big difference from the American Opportunity Credit. For students pursuing a Ph.D. or Master’s degree, this credit can really be helpful. The total amount of credit received caps at $2,000 per annual tax return.
To be eligible for a Lifetime Learning Credit, one must meet the following requirements:
There are a few important things to know about the Lifetime Learning Credit:
The process is more or less the same as the American Opportunity Credit. You must have a Form 1098-T Tuition Statement. You must also fill out Form 8863 and attach it to Form 1040.
If your MAGI is between $60,000 and $69,000, the amount you can receive from this credit can significantly reduce. If your MAGI is above $69,000, you are no longer eligible for the Lifetime Learning Credit.
It would be wise to apply for both! Both credits have their own benefits and downsides. There is nothing prohibiting students from applying for both credits. Just ensure that you meet the eligibility requirements.
This is a good question. It’s also one that should be considered before a student begins attending a certain school or college. Eligible educational institutions are schools that offer higher education outside of high school. An eligible educational institution is any school that is included in student financial aid programs. These programs are designated by the Department of Education. Most accredited public or private post-secondary schools are eligible educational institutions.
If you’re not sure if the school you plan on attending is an eligible education institution, you have two options. You can contact your school’s admissions office to find out. Alternatively, you can search for your school’s code via the Federal Student Aid eligible institution lookup tool.
Yes! There are quite a few alternatives to student tax credits that you can choose from if you are unable to apply for credits. There are about four other options available from the IRS.
A Coverdell Education Savings Account can be used to set aside up to $2,000 per year for education expenses.
Qualified tuition programs are another popular option. These plans are created by schools or individual states and allow students to prepay or save to pay tuition expenses. Once a student is in school and begins to withdraw cash from the account, that money will not be taxed.
Student loan interest deductions are another possibility. These deductions apply to any loan (even non-FAFSA loans) that is used to pay for tuition. The max deduction for this program is $2,5000 per year.
Lastly, investment retirement accounts (IRAs) can also be used to withdraw money to pay for college. While the money will be subject to federal income tax, you will not be subject to the typical early withdrawal penalty attached to such accounts.
There is no cut-and-dry answer to this question. It all depends on how that scholarship money is spent. In most cases, scholarship payouts are untaxed if the funds go towards qualified expenses. If a scholarship does not meet the requirements for these qualified expenses, individuals may have to pay federal taxes on part or all of the scholarship funds received.
In a write-up for Charles Schwab, senior vice president Carrie Schwab-Pomerantz broke down the basics of identifying if your scholarship money is taxed. To put it simply, it all comes down to how that money is used
“For a scholarship to be completely tax-free, all the money must be used for qualified expenses,” said Schwab-Pomerantz, “For example, if your daughter received a $10,000 scholarship and tuition was $15,000, she wouldn't owe taxes on the money. However, if her scholarship was $20,000 and $5,000 went for room and board, that $5,000 would be considered taxable income. Now let’s say your daughter is a grad student with a fellowship that requires her to be a teaching assistant. In this case, the tax rules are different. That's because scholarship or fellowship money that represents compensation is taxable—regardless of how the money is used. So even if a $20,000 teaching assistant fellowship went primarily to pay for tuition and books, that $20,000 would still be considered taxable income. The student would receive a W-2 from the school and would have to file a tax return.”
To put it simply, you won’t have to worry about taxes if your scholarship covers tuition and books.
Both of these credits are helpful and not necessarily mutually exclusive. The earned income tax credit was created to help students with low incomes or dependants. Your eligibility depends on your filing status. It also depends on how many children or dependents you have upon entering college.
According to USA.gov, individuals who earn a low or middle income can benefit from the earned income tax credit.
“If you earn a low to moderate-income, the Earned Income Tax Credit (EITC) can help you by reducing the amount of tax you owe,” the FAQ reads, “To qualify, you must meet certain requirements and file a tax return. Even if you do not owe any tax or are not required to file, you still must file a return to be eligible. If EITC reduces your tax to less than zero, you may get a refund. Educational tax benefits can help with a variety of expenses, including tuition for college, elementary, and secondary school.”
The IRS has a useful tool for determining earned income tax credit as well.
Student tax credits need to be mentioned in end-of-year tax filings. If you’re feeling a bit overwhelmed, don’t worry. The team at ATAX is here to help.
ATAX provides tax preparation and business services to students and non-students alike. We’ll help you with your personal taxes, bookkeeping, payroll, business taxes, and incorporations.
Ready to finish your U.S. taxes quickly? Give us a call today if you haven’t filed your taxes yet. Our team is ready to provide you with professional, efficient, and service-oriented tax preparation.
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