Students and families are paying millions of dollars every year to pay for college. The good news is that the federal government offers tax credits to reduce your tax obligations. Take a bit of time to understand these federal education tax credits so you can benefit from these options.
Tax Credits vs. Tax Deductions
The primary difference between tax credits and tax deductions is that one reduces the amount of your taxes and the other reduces your taxable income. In other words, tax credits directly reduce any federal taxes that you owe. Whereas, the value of tax deductions depends on your specific marginal tax rate. If your total itemized deductions (including an education tax deduction) is less than this standard deduction, then you don’t benefit from the education tax deduction. To give you a reference point in 2021, single individual’s have a $12,550 standard deduction and married filing jointly has a $25,100 standard deduction.
Types of Education Tax Credits
The IRS has two education credits available: the
American Opportunity Tax Credit (AOTC) and the
Lifetime Learning Credit. Both of these education tax credits can lower your federal tax bill if you paid eligible education expenses last year. Qualifying payments can be made by cash, check, credit card or student loan.
The AOTC lets you claim up to the first $2,000 that you spend on tuition, fees, books and course materials. Then, the AOTC lets you claim 25% of the next $2,000 you spend on those same expenses. This means that you may be able to claim up to $2,500 in AOTC annually. Plus, up to 40% of AOTC can be refundable. That means a portion of the education tax credit may be refunded to you even if you don’t owe any federal income tax.
Lifetime Learning Credit let’s you claim 20% of the first $10,000 you paid toward tuition, fees, books and course materials in 2020, for a maximum of $2,000. Lifetime Learning Credit covers more types of education - undergraduate, graduate and courses taken to maintain or improve job skills. Unlike AOTC, Lifetime Learning Credit is non refundable.
Who Can Claim
American Opportunity Tax Credit: Either undergraduate college students or parents of undergraduate college students who are still listed as federal income tax dependents may claim the AOTC but not both. This tax credit can be claimed for a maximum of 4 years. IRS phases out eligibility for AOTC based on modified adjusted gross income (MAGI) exceeding certain levels. For instance in 2020, the MAGI phase-out range for single individuals is $80,000 to $90,000 and $160,000 to $180,000 for married couples filing jointly. Married filing separate status are not eligible for AOTC. Also, you can’t claim both the AOTC and the Lifetime Learning credit for the same student for the same year.
Lifetime Learning Credit: If you don’t qualify for AOTC because you already used up your 4 years of eligibility or are pursuing graduate studies or maintaining or improving job skills, then you can use the Lifetime Learning Credit. You can use the Lifetime Learning Credit for a federal income tax dependent, you or your spouse. The only catch is that the maximum annual tax credit is $2,000 no matter how many students are in the household. Similar to AOTC, Lifetime Learning Credit includes phases out rules. In 2021, the Lifetime Learning Credit MAGI phase-out range for single individuals is $59,000 to $69,000 and $118,000 to $138,000 for married couples filing jointly. Married filing separate status are not eligible for Lifetime Learning Credit. Also, you must choose annually between AOTC and Lifetime Learning Credit for a specific student in your household.
Pro Tip:
Education tax credit eligibility is based on a tax year - not an academic year. If you are enrolling in the fall for a 4 year program, then you may have qualifying tuition, fees, books and course materials for 5 tax years. Since the AOTC can only be claimed for a specific individual for 4 years, then you may want to consider taking the Lifetime Learning credit for the first semester is you are only qualifying for a small amount of AOTC so you can maximize your AOTC eligibility for a year you qualify for a larger tax credit. Just remember to check the timing of the due date for your specific college’s direct costs (tuition, fees, on-campus room and board) because sometimes the spring semester due date may be in December (a different tax year).
Tax Credit Documentation
Colleges make it easy to document your eligible tuition and fees amounts with the Form 1098-T. Every January colleges and universities send out Form 1098-T to students and their parents. For books and coursework materials, you will need copies of receipts. Although such receipts may not be sent to the IRS, you should maintain your receipts with your other tax records for 3 to 6 years after filing.
Before You Qualify, Figure Out How You are Going to Pay for College
We make it easy for you and your family to see how far your cash and savings will stretch to pay for college. In less than 5 minutes with only 5 steps using
our College Finance Planner, you can not only understand 4 years of college costs but also compare your pricing estimates of your eligible financing options. Our College Finance Planner will also review the next steps you’ll need to take to apply for the financing options that you decide to use.
Colleen Krumwiede
Co-Founder & Chief Marketing Officer
Colleen MacDonald Krumwiede is a financial aid and paying for college expert with over a decade of financial aid experience at Stanford GSB, Caltech, and Pomona College and another decade at educational finance and technology companies servicing higher education. She guides go-to-market strategy and product development at Quatromoney to transform the way families afford college.
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