Back-to-school season is here. Families with students moving into college dorms and apartments this fall should take note that there are still tax credits available for higher education costs, and more importantly, they can be used in conjunction with 529 Plan withdrawals or student loans.

The main key to remember is, “no double dipping.” You cannot take a tax credit when you use tax-advantaged funds; however, you can use multiple benefits for the same student.

First, let’s look at the American Opportunity Tax Credit. Tax credits are extremely beneficial as they reduce your tax liability dollar for dollar. The maximum amount of the credit is $2,500, broken down to 100% of the first $2,000 in qualified educational expenses and 25% of the next $2,000 of qualified educational expenses. Furthermore, if the tax credit brings your tax bill down to zero, or your tax liability is such that you can’t use the full credit, you can have 40% of the remaining amount (up to $1,000) refunded to you. The credit is available to parents with married filing jointly modified adjusted gross income under $180,000 ($90,000 for single filers) who claim their student as a dependent, or students who are not claimed as dependents. The benefit can be claimed for you, your spouse, or a student you claim as a dependent.

If you’ve seen the cost of tuition lately, you know that it’s pretty easy to rack up $4,000—if not more — in one year of college. Now, if you’re also fortunate to have 529 Plan assets available to pay college expenses, you need to pay close attention to what is considered a “qualified higher educational expense.” The definition varies depending on what you’re looking at. The American Opportunity Tax Credit defines it as tuition, required enrollment fees, and course materials needed for course of study. Non-qualified expenses include room and board, student health fees, and personal or living expenses. However, for 529 Plan assets, qualified expenses include computers and internet access, room and board — which typically includes housing costs and a meal plan — and even some study abroad programs.

Keep detailed records of what expenses are being used for each benefit. Double-dipping will likely trigger a non-qualified withdrawal and will incur a penalty tax. If you are paying for higher education costs with student loans, you can still claim the American Opportunity credit. The IRS allows you to include the expenses you pay with those funds in the credit. Student loan funds aren’t considered tax-advantaged as they must be paid back with interest.

The American Opportunity credit is only good for four years of post-secondary education. However, you may be able to claim the Lifetime Learning Credit if your modified adjusted gross income is less than $134,000 for married filing jointly ($67,000 for single filers). The Lifetime Learning Credit is for 20% of the first $10,000 of qualified educational expenses, up to a maximum credit of $2,000. While not as beneficial as the American Opportunity credit, this credit can be used for an unlimited number of years and for single courses to acquire or improve job skills.

Finally, if your student is taking student loans to pay for college, there is a tax deduction for the interest payments made when repaying the loan, available to those who have a modified adjusted gross income less than $80,000 for single filers and $160,000 for joint returns. Note that the deduction is limited to the interest on student loans you actually use to pay school-related expenses. If you’ve been paying your car loan with some of your student loan money, you’ll need to reduce the deduction accordingly.

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William G. Lako, Jr., CFP®, is an Executive in Residence at Kennesaw State University’s Coles College of Business and a principal at Henssler Financial and a co-host on Atlanta’s longest running, most respected financial talk radio show “Money Talks” airing Saturdays at 10 a.m. on AM 920 The Answer. Mr. Lako is a CERTIFIED FINANCIAL PLANNER™ professional.


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