The Tax Cuts and Jobs Act (TCJA) included many changes that affect individual taxpayers. But not so much for education-related tax breaks. The new law expanded one break, eliminated another, and left the rest untouched. Here’s the first installment of our two-part story on education breaks after the TCJA. The breaks covered here were not changed by the TCJA.
American Opportunity Credit covers up to $2,500 of undergraduate college expensesThe American Opportunity credit still equals 100% of the first $2,000 of qualified post-secondary education expenses plus 25% of the next $2,000 (assuming the phase-out rule explained later doesn’t affect you). So the maximum annual credit is $2,500. The credit is only allowed for expenses for a year during which the student carries — for at least one academic period beginning in that year — at least half of a full-time course load in a program that would ultimately result in a degree or recognized credential. So while you have to be a fairly serious student to be eligible for the credit, you don’t have to go to school full-time or actually intend to complete a degree or credential program.
Eligibility rules and qualified expenses
You’re ineligible for the American Opportunity credit if you’ve already completed four years’ worth of undergraduate college work as of the beginning of the tax year in question. If that’s your situation, move on to the Lifetime Learning credit explained below.
On a more favorable note, you can claim the credit for your own expenses and additional credits for your spouse and dependent children if they also have qualified expenses.
The student must attend an eligible institution. Fortunately, virtually all accredited public, nonprofit, and for-profit postsecondary schools meet this definition, and some vocational schools do too. The two main criteria are that the school must offer programs that lead to an A.A., B.S., B.A., or some other recognized undergraduate credential; and the school must qualify to participate in federal student aid programs.
Qualified expenses include tuition, mandatory enrollment fees, and course materials including books. However, optional fees for things like student activities, athletics, and health insurance don’t count. Neither do room and board costs.
Income phase-out rule
The American Opportunity credit is phased out (reduced or completely eliminated) if your modified adjusted gross income (MAGI) is too high.
• The phase-out range for unmarried individuals is between MAGI of $80,000 and $90,000.
• The range for married joint filers is between $160,000 and $180,000.
MAGI means “regular AGI” from the last line on page 1 of your Form 1040 increased by certain tax-exempt income from outside the U.S. that you are unlikely to have.
Lifetime learning credit covers up to $2,000 for grad school and other trainingThe Lifetime Learning credit equals 20% of up to $10,000 of qualified education expenses, with a maximum credit amount of $2,000. You can use this credit to help offset costs for undergraduate study when you’re carrying a limited course load or after the first four years (when the American Opportunity credit is unavailable), or for graduate school or miscellaneous courses.
Eligibility rules and qualified expenses
Only one Lifetime credit can be claimed on your return even if you have several students in the family. And you can’t claim both the American Opportunity credit and the Lifetime Learning credit for the same student for the same year. However, you can potentially claim the American Opportunity credit for one or more students and the Lifetime Learning credit for another.
The student must attend an eligible institution, as defined earlier.
Qualified expenses include tuition, mandatory enrollment fees, and course materials including books. However, optional fees don’t count. Neither do room and board costs.
Income phase-out rule
Like the American Opportunity credit, the Lifetime Learning credit is phased out if your modified adjusted gross income (MAGI) is too high. However, the Lifetime credit phase-out ranges are much lower, which means they are much more likely to affect you.
• The 2018 phase-out range for unmarried individuals is between MAGI of $57,000 and $67,000.
• The 2018 range for married joint filers is between $114,000 and $134,000.
MAGI means “regular AGI” from the last line on page 1 of your Form 1040 increased by certain tax-exempt income from outside the U.S.
Beating the system to claim these creditsThe biggest shortcoming for both credits is the income phase-out rules, which make many folks ineligible. The solution is for your child to claim the credit, assuming he or she has enough taxable income to benefit from doing so. Your child can claim the credit as long as you do not claim the child as a dependent. Because the TCJA eliminates dependent exemption deductions for 2018-2025, there should be no tax cost for doing this.
Claim a deduction for higher education tuition and fees (wait for it)The two credits are not always available for family education expenses. For example, the student in question might not meet the eligibility rules (a distinct possibility with the American Opportunity credit), or your income might be too high (a distinct possibility with the Lifetime Learning credit; less so with the American Opportunity credit). Do not give up hope. There is another important break that might work for you.
For 2017, you can claim a limited above-the-line deduction for eligible higher education tuition and fees. Above-the-line means you need not itemize to benefit. Depending on your income, the maximum write-off is either $4,000 or $2,000.
Key Point: This deduction expired at the end of 2017. However, it has become one of the “extenders” so it will probably be resurrected for 2018. Assuming that happens, here is what you need to know about this break.
Eligibility Rules
You cannot claim the deduction for tuition and fees if you claim either the American Opportunity credit or the Lifetime Learning credit for the same student’s expenses for the same year. No double dipping! However, you can claim the deduction for one child’s expenses (or for your own expenses) and claim credits for expenses incurred by other students in the family. Also, the IRS says you must already have a high school diploma or GED in order to claim the deduction.
Eligible expenses include tuition, mandatory enrollment fees, and course materials including books and supplies. However, the IRS says you can only deduct course materials if you are required to purchase them directly from the school, and you cannot deduct optional fees. Room and board costs are off limits too.
The student must attend an eligible institution, as defined earlier.
Maximum deduction and income cut-offs
If you are unmarried with modified adjusted gross income (MAGI) of $65,000 or less, the tuition and fees deduction equals the lesser of (1) $4,000, or (2) 100% of eligible expenses. The same is true for a married joint-filing couple with MAGI of $130,000 or less.
If you are unmarried with MAGI between $65,001 and $80,000, the maximum deduction is reduced to the lesser of (1) $2,000, or (2) 100% of eligible expenses. The same is true for a married joint-filing couple with MAGI between $130,001 and $160,000.
If your MAGI exceeds the $80,000 or $160,000 ceiling (whichever applies), you get no deduction. Sorry!
MAGI means “regular AGI” from the last line on page 1 of your Form 1040 increased by certain tax-exempt income from outside the U.S.
What if I could claim either the deduction or a credit?Good question, because it can happen. As I said earlier, you can’t claim both the tuition and fees deduction and the American Opportunity credit or the Lifetime Learning Credit for expenses incurred by the same student. So you have to pick Door No. 1 or Door No. 2.
If you qualify for the rather generous American Opportunity credit, it will deliver more tax savings than the deduction in any situation I can imagine. So claim the credit.
In the more common scenario where you qualify for the Lifetime Learning credit but not the American Opportunity credit, it can sometimes be a close call in figuring whether the Lifetime Learning credit or the deduction will cut your tax bill more. The tradeoff gets complicated because it depends on the amount of qualified education expenses, your marginal tax rate, and whether the credit phase-out rules apply. The only sure way to find out which break is best is to fill out Form 8863 to calculate the credit and Form 8917 to calculate the deduction. Then complete the rest of your return to see which one lowers your tax bill the most. Pick that one.
The bottom lineThe issue of tax breaks for education expenses is confusing. There are multiple breaks with multiple sets of rules, and several different breaks can potentially be available for the same expenses. Hopefully this column and the next one will help clarify matters.
