It’s Tax Season! Here’s What You Need to Know about Education Credits

Tax season isn’t often considered a fun time. But it is a chance to take advantage of certain educational tax benefits which you may be owed. Certain college and university expenses give eligible taxpayers access to education credits, deductions, or both. And these can help lower the amount of federal taxes owed during a particular year. With the rising cost of higher education, these credits and deductions are especially important for students and families facing increasing financial challenges.

Understanding which tax benefits are available is your first step to potentially lowering your tax burden. While not everyone qualifies for every credit or deduction that is out there, regardless of their or their dependent’s status as a student, it is important to know what options may be out there for you. That way, if you do qualify, you can get every dollar you may be owed. Be sure to follow IRS procedures to claim an education tax credit, including completing the necessary forms and meeting eligibility requirements.

It is important to note that this article is not intended to be tax advice. Instead, it is an overview of some of the current programs that may be available to you. To confirm your or your student’s eligibility for a tax credit or deduction, or for complex questions about how to claim an education credit, speak with a tax professional or consult a qualified tax advisor before filing.

Educational tax benefits come in two forms: tax credits and tax deductions. These are defined by the IRS as follows:

Credits can reduce the amount of tax due. Deductions can reduce the amount of taxable income.

Both of these can lower the amount you owe in income taxes, effectively reducing your overall tax bill. Education tax credits are generally fixed amounts that are subtracted from the total amount of taxes due based on your income. The total credit or credit amount you qualify for directly reduces your tax owed. For example, if your tax burden is calculated as $5,000, and you qualify for a $1,000 educational tax credit, your tax burden changes to $4,000 to account for the credit..

Tax deductions are more complex. The amount of savings is based on your income bracket before and after the deduction. Before deductions, the amount of taxes owed is based on the total amount of income you make. For example, a household with $60,000 in annual income (with no other credits or deductions in play) owe taxes based on applying that amount to the standard IRS formula reflected in the IRS Tax Tables.

Deductions change the amount of your annual income that is applied to that formula. For example, a $1,500 tax deduction changes the taxable income from $60,000 to $58,500. That means you use the $58,500 number when performing the calculation instead of $60,000. The total credit or deduction you claim will impact your final tax bill by reducing the tax owed. The amount of savings generated from tax deductions vary depending on your unique situation, such as filing status.

Currently, there are two education tax credits for which you may qualify: the American Opportunity Tax Credit (AOTC) and the Lifetime Learning Credit (LLC). These two education tax credits each have their own requirements, but share several minimum eligibility criteria, per IRS rules:

1. You, or your dependent, must pay tuition and have paid qualified expenses (such as only tuition, course materials, and course related books, but not living expenses) for higher education during the tax year. Additional education expenses and higher education expenses may also qualify, but tax free educational assistance (such as scholarships or grants) will reduce the amount of qualified expenses you can claim.

2. An eligible student must be enrolled in at least one course for at least one academic period beginning in the tax year at an eligible post secondary educational institution. For the AOTC, the student must be enrolled at least half time for at least one academic period.
3. The eligible student must be either the tax filer, your legal spouse, or an eligible dependent that is listed on the tax return being filed. The student cannot be claimed on someone else’s tax return if they want to claim the education credit themselves.

Additionally, the student must be pursuing a recognized education credential or other recognized education credential. Undergraduate students are eligible for the AOTC, which is limited to the first four tax years of post secondary education. The LLC can be claimed for an unlimited number of tax years and applies to undergraduate, graduate, and post secondary education, including courses to improve job skills.

Note: Individuals with a felony drug conviction at the end of the tax year are not eligible for the AOTC.

Eligibility for these education tax credits is also subject to income limits based on your modified adjusted gross income (MAGI). The phase-out thresholds differ depending on your filing status, such as a joint return for married couples.

You cannot claim multiple education credits for the same student in the same tax year (same student rule). Also, qualifying taxpayers can only claim one education tax credit per tax year, even if the student qualifies for both.

To claim either credit, you must use IRS Form 8863 and refer to the tuition statement (Form 1098-T) provided by your educational institution. For more information about education credits, eligibility, and forms, visit the IRS website.

More information about the specific requirements for the American Opportunity Tax Credit can be found here, while details about the Lifetime Learning Credit and other education tax credits can be found here.

The IRS states “The American opportunity tax credit (AOTC) is a credit for qualified education expenses paid for an eligible student for the first four years of higher education. You can get a maximum annual credit of $2,500 per eligible student. If the credit brings the amount of tax you owe to zero, you can have 40 percent of any remaining amount of the credit (up to $1,000) refunded to you.”

The IRS also states “The Lifetime Learning Credit is for qualified tuition and related expenses paid for eligible students enrolled in an eligible educational institution. This credit can help pay for undergraduate, graduate, and professional degree courses–including courses to acquire or improve job skills. There is no limit on the number of tax years you can claim the credit. It is worth up to $2,000 per tax return.”

Resident aliens may be eligible to claim education credits, while nonresident aliens generally cannot unless they meet certain conditions.

One common tax deduction related to education is the Student Loan Interest deduction. It has the potential to lower your overall tax burden and be able to be used in conjunction with certain education credits. You do not have to itemize deductions to take advantage of this deduction.

The amount you may qualify for varies depending on what expenses or interest were paid during the applicable tax year as well as your individual tax situation. However, the Student Loan Interest deduction eligibility is often easier to identify and can be claimed for multiple tax years, as long as you meet the requirements each year.

When you pay at least $600 in qualified interest payments during the year on a qualified student loan, you will receive a 1098-E from the loan company. The information on this form can be included in your tax filing and will clearly show the amount that may be deductible based on interest payments to that specific institution. If you received financial aid, such as scholarships or grants, these amounts are generally reported on the 1098-T form and may affect the calculation of deductible interest or qualified expenses, as some financial aid may reduce the amount of expenses eligible for deduction. To help determine eligibility, you can use this IRS online interview or speak with a qualified tax professional.

Other deductions related to tuition and fees are significantly more complex. The IRS provides general guidance regarding eligibility here, and you can work with a qualified tax professional to further clarify your eligibility.

Scholarships and grants can affect your taxes, including eligibility for education credits or deductions, but not all awards do. The IRS covers this topic specifically here and here. Any tuition and fee payments paid for by scholarships and grants are not eligible for credits or deductions.

Scholarships are tax-free if “used to pay for tuition and fees required for enrollment or attendance at the educational institution, or for fees, books, supplies, and equipment required for courses at the educational institution.” When used for travel, room and board, this can require you to claim them in your gross income. Again, always consult with your tax professional.

However, even if scholarships or grants affect your taxes, generally the value of the scholarship or grant is higher than any associated downside they may have on your taxes. And that means it is always worth looking for new scholarship opportunities for you or your student.

It is also important to note that even if your student isn’t still living at home, they may still qualify as your dependent.  This is important, as parents often earn more than students. As a result, parents more likely qualify for the maximum tax credit of up to $2,500. In comparison, a student working a part-time job often owes little in income taxes, so they might only get the $1,000 refundable credit.

If you want to learn a step-by-step process on how to find scholarships, join us for our next free webinar on the 6 Steps to Quickly Securing Scholarships for College.

Taxes are Serious

As mentioned earlier in the article, not everyone qualifies for every credit or deduction. If you aren’t sure whether you or your student qualifies, discuss your options with a tax professional. They can help guide you through the complexities of qualifying for these tax benefits.

Remember, falsifying information on your tax return is a federal offense, and can come with notable financial and criminal repercussions. It is important that you thoroughly research your unique situation before adding any education credits or submitting any deductions related to your tax situation.

Special thanks to our fellow tax-nerd Kathryn Whittaker Hanna, for sharing their knowledge on this topic!