Article Highlights:
- American Opportunity Tax Credit
- Lifetime Learning Credit
- Who Gets the Credit?
- Qualified Tuition and Related Expenses
- Eligible Educational Institutions
- Form 1098-T
- Scholarships
- Tax Fraud
As with everything taxes, the devil is in the details, and that includes the education tax credits, which come in two types with some different rules for each. Many people think the credits are for sending their children to college, which is true, but the credits are also available to you and your spouse (if you are married) as well as to your dependents. So even taxpayers attending school part-time may qualify for a tax credit.
American Opportunity Tax Credit (AOTC) – The AOTC provides a credit of up to $2,500 per year per eligible student. Generally, tax credits are non-refundable, meaning they can only be used to offset any tax liability the taxpayer may have for the year. However, up to 40% of the AOTC is refundable, even when the taxpayer has no tax liability. Thus, it can result in a refund of as much as $1,000 (40% of $2,500).
The credit amount is 100% of the first $2,000 of tuition and related expenses plus 25% of the next $2,000 of qualifying expenses. However, the AOTC is only allowed for four tax years and only for the first four years of post-secondary education. The student must be enrolled at least half-time in a program leading to a degree, certificate, or other recognized educational credential for at least one academic period beginning in the tax year in which the credit is claimed.
This credit phases out for joint-filing taxpayers with modified adjusted gross income between $160,000 and $180,000, and between $80,000 and $90,000 for others. The credit is not allowed for married taxpayers using the filing status of married filing separately.
Lifetime Learning Credit (LLC) ‒ The LLC is a non-refundable credit worth up to $2,000 per year, and there is no limit on the number of years that the LLC can be claimed. Unlike the AOTC, there is no “half-time student” requirement, and single courses can qualify. The credit is 20% of the costs of tuition and related expenses. However, while the AOTC is determined on a per student basis, the LLC is based upon the tax family’s qualified education expenses for the year. If a student qualifies for the more beneficial AOTC, that student’s expenses cannot also be used for the LLC.
Like the AOTC, this credit phases out for higher-income taxpayers, but unlike the AOTC, the phaseout income levels are annually adjusted for inflation. For 2019, the LLC phases out for joint filing taxpayers with modified adjusted gross income between $116,000 and $136,000, and between $58,000 and $68,000 for others. The credit is not allowed for taxpayers who file married filing separate returns.
Who Gets the Credit? – As you would expect, the credit for dependents attending college or the taxpayer (and spouse, if any) attending college will be claimed on the taxpayer’s tax return. You may qualify for this credit even if you did not pay the tuition. If a third party (someone other than the taxpayer or a claimed dependent) directly makes a payment to an eligible educational institution for a student’s qualified tuition and related expenses, then the student would be treated as having received the payment from the third party and, in turn, as paying the qualified tuition and related expenses. Furthermore, qualified tuition and related expenses paid by a student would be treated as being paid by the taxpayer if the taxpayer claims the student as a dependent.
Example: If a grandparent, or someone else, pays the qualified tuition directly to the institution, then the parents, assuming they claim the student as a dependent, would be the ones qualified to claim the education credit. This would also apply if the tuition was paid for the taxpayer or spouse. This makes for some interesting tax planning since the tuition paid directly to an educational institution is also excluded for gift reporting or gift tax consequences, allowing individuals who wish to make gifts above the $15,000 per year per recipient limit to pay the tuition for a non-dependent child or grandchild and avoid any gift tax complications, while at the same time providing the education credit.
Qualified Tuition and Related Expenses – Unfortunately, recent law changes affecting qualified expenses only applied to the AOTC, creating another difference between the two credits.