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The Internal Revenue Code is designed in part to use tax incentives to encourage socially beneficial activities. Because of this, it contains several education incentives. Among these incentives are two tax credits -- the American opportunity credit and the lifetime learning credit. You can claim these credits to offset tuition that you pay for yourself, your spouse or your dependent.
Tax Credits vs. Tax Deductions
A tax credit is different from a tax deduction. You subtract the amount of your tax deductions from your taxable income, and the IRS taxes you only on what remains. By contrast, you subtract tax credits directly from the total amount of tax that you owe. Because of this, a $100 tax credit is almost always worth considerably more than a $100 tax deduction. Furthermore, you don't have to itemize your deductions to take a tax credit.
The American Opportunity Credit
The American opportunity credit can be used to pay tuition for undergraduate students studying at least half-time in a degree-seeking program. You can use the credit only for four tax years for any particular student. You can use it to cover the first $2,000 per student, and 25 percent of the next $2,000 per student. In addition, 40 percent of the credit is refundable, meaning that you can claim a tax refund to the extent that the refundable portion exceeds your total tax due.
The Lifetime Learning Credit
The lifetime learning credit is an alternative to the American opportunity credit -- you can't claim both credits for the same student during the same tax year. You can claim the credit, however, even if the student is taking only one class, even if she is in graduate school and even if she is simply taking a course to develop occupational skills. The student does not have to be enrolled in a degree-seeking program, and you can continue taking the credit no matter how many years the student stays in school. The maximum credit is $2,000 per tax return no matter how many students you pay tuition for.
Both credits can be taken only for students studying at the post-secondary level -- you can't use them for high school students, for example. In addition, income limits apply. The American opportunity credit can be taken only if your modified adjusted gross income exceeds $180,000 if married filling jointly or $90,000 if your filing status is single, head of household or qualifying widow(er). Income limits for the lifetime learning credit are $122,000 if you are married filling jointly and $61,000 if your filing status is single, head of household or qualifying widow(er). You can't claim either of the credits if you are married filing separately.
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