A new school year has begun, which makes it a good time to think about how you may be able to save some money by taking advantage of some available tax credits.
It’s no secret that cost of higher education is climbing ever higher. According to the College Board, the average cost of tuition and fees for a public four-year college for the 2018-19 school year was $10.230. Just the year before, the average cost was $9,980. That does not account for room and board (mandatory for freshman at many schools), books and supplies, transportation and other expenses. That brings the annual price tag closer to $26,000.
But what if you or one of your children (or grandchildren) wants to attend an out-of-state university or a private college? Now you are looking at almost double the cost – and that’s just for one year. Unless something dramatic changes, the trend will likely continue upward.
Below is a snapshot of a few tax credit opportunities that are available:
- American Opportunity Tax Credit
The American Opportunity Tax Credit is the primary tax credit available for higher education. The maximum American Opportunity tax credit is $2,500 per student. To qualify for the maximum credit, you must spend at least $4,000 per student per year in his or her first four years of post-high school education. The money you pay for tuition and related fees counts for calculating the tax credit, along with outlays for necessary books, supplies, and equipment. Room and board costs, though, do not count. The student must be enrolled at least half-time for at least one academic period that begins during the taxable year.
The credit is per student per year. In other words, a family may have more than one eligible student in a year. This offsets both regular tax and Alternative Minimum Tax (AMT). However, the American Opportunity tax credit phases out for higher income earners (see chart below).
- Lifetime Learning Tax Credit
The Lifetime Learning Credit is a nonrefundable tax credit equal to 20 percent of up to $10,000 of qualified tuition and fees paid during the tax year. The maximum credit available is $2,000. This credit is per taxpayer not per student. Consequently, a family’s maximum credit is the same even if they have multiple eligible students.
Unlike the American Opportunity Tax Credit that can only be used the first four years of post-high school education, there is no limit on the number of years the Lifetime Learning credit can be claimed for each student. It can be used at any time education expenses are incurred, including for undergraduate and graduate programs, professional degrees or career advancement courses. These education tax credits also are subject to phase out for higher income earners (see chart below):
Modified Adjusted Gross Income Phase-Out Ranges (2019)
|Filing Status||American Opportunity||Lifetime Learning|
|Married Filing Jointly||$160,000 – $180,000||$116,000 – $136,000|
|Single, Head of Household||$80,000 – $90,000||$58,000 – $68,000|
|Married Filing Separately||Do not qualify||Do not qualify|
- Deduction of student loan interest
Many taxpayers with student loans can deduct the interest on those loans. In other words, individuals with a modified adjusted gross income (MAGI) of less than $70,000 (or $140,000 if filing a joint return) can reduce the amount of their adjusted gross income up to $2,500. The deduction is available for interest paid on qualifying education loans for the benefit of the taxpayer, his or her spouse, or his or her dependents.
- Early distribution from IRA
Penalty-free distributions from IRAs can be made if they are used to pay higher education expenses, such as tuition, fees, books, supplies, required equipment, room and board, and graduate courses. The distribution from a traditional IRA still will be subject to income tax, but not subject to the 10 percent early withdrawal penalty if used for higher education expenses.
While these opportunities are for students entering college or pursuing post-graduate degrees, there are ways to lay the groundwork for tax savings on education expenses while your children are still young. Below is a summary of a few of these education saving ideas.
- Coverdell Education Savings Account
Coverdell Education Savings Accounts, also known as an Education Savings Accounts, offer tax-free earnings and withdrawals when the funds are spent on qualified education expenses, including college expenses and certain K-12 grade expenses. Contributions are capped at $2,000 a year and these plans are available for taxpayers with a modified adjusted gross income of less than $95,000 or $190,000 if married filing jointly. If the contributor’s MAGI exceeds this amount, the maximum contribution amount phases out.
- Qualified Tuition Program (Section 529 plan)
A qualified tuition program allows you to either prepay or contribute to an account established for paying a student’s college or university expenses. There are no income restrictions on establishing or contributing to a Section 529 plan. The amount that can be contributed to this plan is limited to the amount necessary to provide the needed education expenses of the beneficiary.
The Tax Cuts and Jobs Act passed in late 2017 expanded Section 529 plans to include K-12 elementary and secondary school tuition for public, private and religious schools. Previously, only Coverdell ESA funds could be used for primary and secondary expenses.
There could also be some state tax benefits for contributing to a Section 529 plan. Many states allow a state deduction for contributions made to the same state Section 529 plan. For instance, Virginia allows a maximum of $4,000 deduction for contributions made to a Virginia Section 529 plan. The state of Georgia has doubled the income tax deduction for contributions to the Georgia 529 savings account beginning July 1, 2019, from $2,000 to $4,000 per beneficiary for single filers, and from $4,000 to $8,000 per beneficiary for married couples filing jointly.
Please let us know how we can help you plan for any upcoming education expenses.
Nina Daigle, CPA, is a partner with Antares Group, Inc. She can be reached at firstname.lastname@example.org.