Tax Benefits for Education

To assist taxpayers with the ever-increasing costs of higher education, there are a variety of tax advantages available. For the 2011 tax year, there are two tax credits (reduce the amount of tax owed) available, the American Opportunity Credit, and the Lifetime Learning Credit. In addition, some taxpayers may be able to deduct tuition and fees (to reduce the amount of taxable income). Lastly, both parents and student should consider whether opening tax-advantaged savings accounts to help pay for education may yield some benefit. Additional education-related benefits exist (interest deductions for student loans and work-related education expenses) - be certain to address any questions you have with your tax professional soon so you can take the necessary actions before December 31, 2011.

The American Opportunity Credit

The American Opportunity Credit is available as a result of the American Recovery and Reinvestment Act. The American Opportunity Credit was originally set to expire in 2010 but was extended with a few small changes. In 2011 and 2012, the American Opportunity Credit applies to a broader range of taxpayers, the credit can be applied towards four years of post-secondary education instead of two years, and adds required reading materials to the list of qualified expenses.

The maximum annual credit allowed is $2,500 per student. The full credit is available to taxpayers whose modified adjusted gross income is $80,000 or less for individuals and $160,000 or less for married couples filing jointly. Expenses such as tuition, course materials, and supplies necessary for enrollment or attendance are considered qualified expenses. A computer may qualify as a qualified expense if it is needed as a condition of enrollment or attendance at the educational institution. If you have questions about what does or does not qualify, be sure to contact your tax advisor for guidance.

Lifetime Learning Credit

The Lifetime Learning Credit could reduce taxes up to $2,000 per year for qualified educational expenses. It is most useful for graduate students, part time students, and those who are not pursuing a degree because there is no limit on the number of years the lifetime learning credit can be claimed for each student. A taxpayer may not take both the American Opportunity Credit and the Lifetime Learning credit for the same student in the same year. But, if you pay for qualified educational expenses for more than one student in the same year, you can choose to take credits on a per-student, per-year basis. The American Opportunity Credit may be available for one student and the Lifetime Learning Credit for another.

Tuition and Fees Deduction

If your income is too high to claim the American Opportunity Credit, you may be able to deduct qualified education expenses paid during the year for yourself, your spouse or your dependent. The tuition and fees deductions can reduce the amount of income subject to tax by up to $4,000. The tuition and fees deduction is not allowed if any of the below conditions are true:

• Your filing status is married filing separately,
• Another person can claim an exemption for you as a dependent on his or her tax return,
• Your modified adjusted gross income is more than $80,000 (single) or $160,000 (married/joint), you were a nonresident alien for any part of the year and did not elect to be treated as a resident alien for tax purposes or
• You or anyone else claims an education credit for expenses of the student for whom the qualified education expenses were paid.

Savings Plans

Section 529 of the IRS Code allows taxpayers to prepay or contribute to certain specified savings accounts to pay for a student's qualified higher education expenses. Distributions from 529 plans are tax-free if they are used to pay for qualified higher education expenses including tuition, required fees, books and supplies. If the designated student attends school at least half-time, room and board expenses also qualify. These plans offer significant flexibility if a student's education plans change - be sure to discuss these options with your tax professional.

Coverdell Education Savings Accounts were also created to incentivize both parents and students to pay for both primary and secondary education. Total contributions for the beneficiary of a Coverdell Education Savings Account cannot be more than $2,000 in any year, no matter how many accounts have been established so it is important that all contributors to these accounts for a child communicate with one another. Contributions to a Coverdell Education Savings Account are not deductible. However, the principal grows tax-free until distributed. When distributed, the beneficiary is not required to pay tax on these funds provided the amount distributed is less than the qualified education expenses incurred in the year distribution occurs.

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