With the growing costs of higher education, parents and self-financed students should be mindful of the education benefits available to them as they prepare to start a new school year. Congress has provided tax initiatives within the Internal Revenue Code, including some changes as of 2021, that should be considered when planning for tuition and other education-related costs.
Two main benefits taxpayers can use are the American Opportunity Tax Credit (AOTC) and the Lifetime Learning Credit (LLC). These credits can be used to offset qualifying expenses at an eligible educational institution for eligible students (which can include the taxpayer, spouse, and dependents – use the IRS interactive app to determine eligibility). The AOTC can only be claimed for the first four years of post-secondary education, while the LLC can be applied to graduate-level education, as well as continued education courses taken to enhance job skills.
The Consolidated Appropriations Act passed in December of 2020 made some changes to the AOTC and LLC that will impact taxpayers starting in 2021. The AOTC remains the same with a maximum credit of $2,500 per student and a gradual reduction in that credit for single filers with at least $80,000 of modified adjusted gross income ($160,000 for joint filers). The LLC has a maximum credit of $2,000 and an increased phase-out range that reflects that of the AOTC.
In addition to these recent changes, the miscellaneous itemized deduction for unreimbursed work-related education expenses has been temporarily suspended until 2025. Under the current law, this itemized deduction will go back into effect in 2026.
Although a taxpayer may qualify for both the AOTC and LLC, only one can be claimed per student/per year. The education credits have some similarities but some very important differences. To find out which credit you qualify for, use the IRS Education Credit Chart to compare the two benefits.
To claim these credits, the taxpayer must file Form 1040 and complete Form 8863, Education Credits. Additionally, eligible students and parents should fill out a new Form W-4 to claim additional tax credits and withholding amounts, and then provide these adjustments to their employer.
Several other education-related tax benefits are available under the Internal Revenue Code, including:
- Scholarship and fellowship grants are typically tax-free if they are used to pay for tuition, books, required enrollment fees, and other course materials; they are taxable if used for room, board, research, travel or other expenses.
- Student loan interest deduction is a deduction of up to $2,500 per year.
- Interest on savings bonds used to pay for college can be tax-free in certain circumstances; the bonds must have been purchased after 1989 by a taxpayer who was at least 24 years old at the time of purchase; income tax limits apply.
- Qualified tuition programs, also referred to as 529 plans, can be used to prepay or save for a child’s college tuition.
- Section 127 Educational Assistance Programs are employer-imposed plans that provide educational assistance to employees.
Learn more about these benefits at the IRS Tax Benefits for Education Information Center. In addition to these benefits, taxpayers with qualifying children who are students aged 24 or younger may qualify for the Earned Income Tax Credit.
Paying for a student’s education can be a stressful task that requires thoughtful consideration, but utilizing education-related tax benefits may help alleviate some of that stress. If you have any questions regarding these initiatives, contact Grossman Yanak & Ford LLP at 412-338-9300.