With the ever-rising costs of higher education, being able to pay for your children’s education has become harder to afford. According to a 2019 report from the Center on Budget and Policy Priorities, tuition increased by 37% from 2008 to 2018. This far exceeds the annual inflation rates for the same period, which was approximately 17%. The same report stated that tuition in all 50 states increased. More and more parents are struggling to pay for their children’s education. In order to help there are two main credits available in tax year 2021, since the Tuition and Fees deduction expired in 2020. The two remaining credits are the American Opportunity Tax Credit and the Lifetime Learning Credit.
The American Opportunity Tax Credit, or AOTC, is a partially refundable credit and is available only for the first four years of undergraduate studies. In order to qualify, the student must be enrolled at least part-time in a degree program. With this credit, you take 100% of the first $2,000 of expenses, and 25% of the next $2,000 of expenses, for a maximum credit of $2,500. Of this, up to 40% of the credit can be refunded if your credit exceeds your actual tax liability, with the remaining 60% eligible to reduce your tax liability. In other words, if the credit brings your tax down to zero, you can get a refund of up to $1,000. As an example, if your 2021 tax liability was $1,500, the credit would offset the tax of $1,500 and refund you an additional $1,000, for a total credit of $2,500. Your allowable expenses include tuition, fees, books, supplies and equipment if they are required by the college or university. The AOTC credit is phased out for couples filing jointly with a modified adjusted gross income between $160,000 - $180,000. For those filing as single, head of household, or as a qualifying widow, the credit is phased out for modified adjusted gross income between $60,000 - $90,000. Those filing as married filing separately are not eligible to take the credit.
The Lifetime Learning Credit is a non-refundable credit (meaning it can only be used to offset your actual tax liability) and can be used for an unlimited number of years for both undergraduate studies and graduate school. You do not have to be enrolled in an official degree program, and it can also be used for taking classes to improve job skills or to acquire new job skills. The maximum credit is $2,000, or 20% of expenses up to $10,000. Unlike the AOTC, allowable expenses include only tuition and necessary fees assessed by the educational institution. The Lifetime Learning Credit is phased out for couples filing jointly with adjusted gross income between $116,000 - $136,000. For those filing as single, head of household, or as a qualifying widow the credit is phased out for adjusted gross income between $59,000 - $69,000. Those filing as married filing separately are not eligible to take the credit.
With both credits, your actual expenses must be reduced by any tax-free assistance such as scholarships, Pell Grants, Veteran’s Education Assistance and employment education assistance. The credits pertain to both traditional colleges and universities, and to trade schools and other educational institutions eligible to participate in the federal student aid program. For both credits the college or university should be sending you a Form 1098-T showing the amounts paid and any scholarships received. You will also want to keep your receipts for books and supplies not reported on the 1098-T if you are taking the AOTC. Both credits may be used on yourself, spouse, or dependent. When your income is too high to take the credit, you may want to consider not claiming your student as a dependent and allow them to take the credit on their own tax return. Please consult with your tax advisor to see what is best for your family.
Silva, Derek. “Qualified Education Expenses: The IRS offers three tax breaks for costs like tuition.”
Policygenius. November 2, 2020. https://www.policygenius.com/taxes/qualified-education-expenses/.
Hess, Abigail. “The cost of college increased by more than 25% in the last 10 years – here’s why”.
CNBC: Make it. December 13, 2019. https://www.cnbc.com/2019/12/13/cost-of-college-increased-by-more-than-25percent-in-the-last-10-years.html.