Being a college student or a parent footing the bill for their college-going child is not easy, financially speaking. But the good news is that there are several monetary benefits that students and their parents can make use of, including tax breaks.
College students and their parents are eligible to receive specific tax breaks. Once you file a return for income taxes, these benefits come as tax credits and deductions. A deduction reduces the amount of your earnings liable for tax, often leading to an overall reduction in tax. In simple terms, you don’t need to pay much in taxes!
The cost of college tuition in the US can be massive. According to the National Center for Education Statistics, on average, tuition and fees at public in-state universities cost $8,620, $19,034 at public out-of-state institutions, and $29,371 at private non-profit universities for the 2019–20 academic year.
The amount of Student debt has risen significantly. Currently, it stands at a record-high level of $1.75 trillion because of the increasing cost of higher education. The annual interest fees for student loan borrowers are $1,898 on average.
Most parents, guardians, and students hope to avoid paying such costs. Tax credits, deductions, and tax-free savings accounts are some of the ways that college students can get financial relief. These tax breaks can help save thousands of dollars annually, whether you are a parent or guardian financing your child’s college education or a student paying their own way through school.
Making Tax Payments
Even if you only work part-time throughout the school year or during summer, filing for taxes is advisable. You might be able to claim the credits and deductions even if your income doesn’t fall into the tax-paying category.
Do check with your parents if they wish to include you as a dependent on their tax return. Generally, your parents can claim you as a dependent if they support you financially, which is often true for college students. You may have to mention it on your own tax returns if someone else intends to claim you as a dependent on theirs.
Following that, get your W2s and a list of your educational costs, such as tuition bills and credit card statements for purchases of textbooks and other supplies. The IRS offers “Free File” options for filing on paper documents and online. If it is your first time doing your tax return, you can ask your parents for help and complete the form together to avoid discrepancies.
Tax Credits & Deductions for College Students
The most effective tax breaks for students attending college are tax credits. Instead of lowering the income subject to tax, these credits are directly used against the tax amount you owe. Moreover, tax deductions lower your cost of taxes by reducing the amount of taxable income. Tax deductions for students in college are helpful. It significantly lowers your tax amount, even though they are not as beneficial as college tax credits. Additional deductions and credits can be accessible if your modified adjusted gross income is less.
American Opportunity Tax Credit
Throughout the first four years of college, the American Opportunity Tax Credit (AOTC) grants a maximum yearly credit of $2,500 for each eligible student. Tuition, fees, and course supplies can all be paid with this credit. However, non-essential expenses such as medical care, accommodation, transportation, and insurance costs are not eligible.
The primary benefit of AOTC is that it is recoverable up to 40%. Thus, you could earn up to 40% of the balance amount, or $1,000, regardless of whether the credit you get lowers the burden of your taxes to zero.
For eligible school costs of every student, the credit equals 100% of the first $2,000, along with 25% of the next $2,000 in expenses. Simply put, you can claim the maximum credit of $2,500 if your eligible school costs are $4,000 or higher.
Applicants should be registered for at least half of one academic term starting during the year in question. Moreover, they should be working towards a postsecondary degree or an additional recognized educational credential to be eligible for the AOTC.
However, AOTC continues to have income limitations. The modified adjusted gross earnings must be $80,000 or less for single individuals and $160,000 or less for married couples filing together to be eligible for full credit. Assuming your modified adjusted gross income falls between $80,000 and $90,000, or $180,000 if you are claiming together, you might still be eligible for partial credit.
Lifetime Learning Credit
The lifetime learning credit (LLC) is similar to AOTC, but more flexible. This credit is for eligible tuition and related costs for qualified students registered in approved educational institutions.
If you are not an undergraduate, studying college part-time, or taking career growth courses, LLC can be more appealing to you. However, students must be registered to start that tax year for at least one academic term.
There is no limitation to the number of years to claim the credit, as opposed to AOTC. Furthermore, students are not required to be enrolled at least half-time or be pursuing a degree.
The LLC’s restrictions on income are slightly severe. If your modified adjusted gross income falls below $69,000 for single individuals and $138,000 for couples, only then can you claim the credit. If your modified adjusted gross income falls between $59,000 and $69,000 for individuals or between $118,000 and $138,000 for couples, the credit’s worth will eventually decrease.
The LLC’s non-refundable nature prohibits you from obtaining any credit as a return, as you can do with AOTC. So, it is somewhat less beneficial to taxpayers compared to the AOTC. Furthermore, 20% of the first $10,000 in eligible school-related costs, with a maximum of $2,000 for every tax return, is the value of the LLC’s credit.
Student Loan Interest Deduction
The student loan interest deduction permits taxpayers to claim, as a deduction, any obligatory or voluntary interest paid (a maximum of $2,500) on an eligible student loan, which is used only for covering the costs of higher education for themselves, their spouses, or a dependent during the tax year in question. Private loans from friends, family, or employer plans cannot be deducted. Moreover, the student must be registered for at least half the time.
Your modified adjusted gross income must fall under a specific limit that is fixed annually to be eligible. In 2020, singles were required to earn less than $85,000 a year in modified adjusted gross income; for couples, it was $170,000. Deductions are lowered over time for earnings that fall between $70,000 and $85,000 for singles and $140,000 and $170,000 for couples.
529 College Savings Plans
Investments placed in a state-sponsored 529 plan grow tax-sheltered and are eligible for tax-free withdrawals to be used for qualified educational costs. The number of permissible charges has been extended recently. Currently, you can employ 529 funds to pay for some apprenticeship courses and take a maximum of $10,000 overall to pay off student debts.