Making Tax Benefits Work for You

Offset the cost of higher education


This federal government deduction permits you to reduce your taxable income by up to $2,500 by deducting the interest payments you made on your student loan. You do not have to itemize your deductions to take advantage of this benefit. To be eligible, the loan must have been taken out solely to pay tuition and other qualified education expenses at any eligible educational institution, including graduate school.

The qualified expenses include: tuition and fees, room and board (subject to certain limitations), books, supplies, equipment, and other necessary expenses, such as transportation. The student must be the taxpayer, taxpayer’s spouse, or the taxpayer’s dependent that is enrolled at least half time in a program leading to a degree, certificate, or other recognized educational credential.

Eligibility for the deduction is dependent on income, filing status, and other factors. The amount of the deduction is gradually reduced (or phased out) as income increases, and taxpayers with higher income levels will not be eligible for the deduction. The deduction is also not available for married taxpayers filing separately.

In addition to simple interest on the loan, if all other requirements are met, the items listed below may be student loan interest. Certain conditions may apply.

  • Loan origination fee
  • Capitalization interest
  • Interest on revolving lines of credit
  • Interest on refinanced student loans. This includes interest on both consolidated loans and collapsed loans.

Tax Benefits and Higher Education

Lifetime Learning Credit
A nonrefundable tax credit of up to $2,000 per return can be claimed if you paid qualified educational expenses for yourself, your spouse, or a dependent for whom you claim an exemption on your tax return. Unlike deductions, tax credits are subtracted from the amount of tax owed, rather than your taxable income. There is no limit on the number of years the Lifetime Learning Credit can be claimed for each student.

This credit applies to tuition and certain related expenses for courses that are part of a postsecondary degree program or taken to acquire or improve job skills.

The credit you are allowed may be limited by the amount of your income and the amount of your tax. Students do not need to be pursuing a degree or other recognized educational credential.

Hope Scholarship Credit
This credit allows you to reduce the amount of your tax by up to $1,500 for qualified educational expenses paid for each eligible student. The Hope Scholarship Credit may be limited by the amount of your income and the amount of your tax. The IRS defines eligibility and conditions.

The student must be pursuing an undergraduate degree or other recognized educational credential. The credit is only available for the first two years of postsecondary education, and the student must be enrolled at least half time for at least one academic period beginning during the year.

If you are eligible for both the Lifetime Learning Credit and the Hope Scholarship Credit for the same student in the same year, you can claim either credit, but not both.

Tax-Free Withdrawals from Traditional or Roth IRAs
Generally, if you choose to withdraw funds from a Traditional or Roth IRA before reaching age 59 ½, you must pay an additional 10 percent tax on the amount withdrawn. However, you may be able to avoid this early withdrawal penalty when the funds are used to pay qualified educational expenses for the year. The IRS defines eligibility and conditions.

Education Savings Bond Program
Generally, you must pay tax on interest earned on a U.S. savings bond. However, you may be able to cash in certain savings bonds under an educational savings bond program without having to include in your income some or all of the interest earned on the bonds if you meet certain conditions. Eligibility is dependent on income, fi ling status and other factors. The IRS defines eligibility and conditions.

Deductions for Work-Related Education
Workers taking college courses directly related to their current jobs may be able to deduct many of the costs of education as a business expense, including tuition, books, supplies, lab fees ,and certain transportation or travel expenses.

For costs to be deductible, education must be to maintain or improve skills needed in your present work, or the courses must be required by an employer or by law for the employee to keep their present job, position, or salary. No deduction is allowed if the education is needed to meet the minimum requirements for employment or if the education would qualify the employee for a new trade or business.

To claim this deduction, employees must itemize deductions. Self-employed workers must file a Schedule C or F with their tax return.

Coverdell ESA
A Coverdell Education Savings Account (ESA) is a trust or custodial account that is set up to pay the qualified educational expenses of a designated beneficiary (student). Contributions are not deductible, but amounts deposited in the account grow tax-free until distributed.

When the account is established, the designated beneficiary must be under age 18 or a special needs beneficiary. Generally, any individual, including the beneficiary, whose modified adjusted gross income for the year is less than $110,000 ($220,000 for a joint return) can contribute to a Coverdell ESA. The maximum annual cash contribution is $2,000 per beneficiary, no matter how many accounts have been established.

Generally, Coverdell ESA withdrawals are tax-free if they do not exceed the beneficiary’s adjusted qualified educational expenses for the year. However, the tax rules related to these savings accounts are complex. Consult your tax advisor for details.

529 Plans
529 Plans are like 401(k) plans that save for college instead of retirement. Although contributions are made with after-tax dollars, these plans offer tax advantages for families, including:

  • Tax-deferred growth
  • Tax-free qualified withdrawals
  • Money may be used by siblings and other family members related to the original beneficiary
  • Accounts can be created by extended family members

In addition, some state-based 529 Plans offer additional tax advantages; consult your tax advisor for details.

Employer-Provided Educational Assistance
If you receive educational assistance benefits from your employer under an educational assistance program, you can exclude up to $5,250 of those benefits each year from the wages and other compensation reported on your Form W-2. Tax-free benefits include payments for tuition and fees, books, supplies and equipment for either undergraduate or graduate-level courses that do not have to be work related.

Qualified Tuition Programs
QTPs established by states and educational institutions allow individuals to prepay or contribute to an account for paying a student’s qualified educational expenses. Distributions from a QTP established by an eligible educational institution (generally private college or university) will also be excludable from income if the amount distributed is used to pay qualified educational expenses. Contact your state government or the educational institution in which you are interested to find out whether they participate in a QTP. The IRS defines eligibility and conditions.

Tax-Free Treatment of Canceled Student Loans
Generally, the IRS considers canceled loans to be taxable income. However, if your student loan is canceled, you may not have to include any amount in income, depending on the terms and conditions of the loan, the qualification of the lender, and other factors. The IRS defines eligibility and conditions.

Student Loan Repayment Assistance
Loan repayment programs provide student loan repayment assistance to participants under the condition that those participants provide certain services, generally primary health services, in areas where shortages of these services exist.


ABOUT THE AUTHOR

This article was written by College Loan Corporation

College Loan Corporation (CLC®), headquartered in San Diego, is the nation's seventh largest student loan provider, owning and managing more than $8 billion in student loan assets. CLC has helped more than 500,000 students and families pay for college. More than 800 colleges and universities have designated CLC as a preferred lender. CLC makes higher education possible through innovative loan products and industry-leading, first-class customer service. CLC also offers the nation's best student loan advice line, answered by expert Loan Consultants 24 Hours a Day, 7 Days a Week.

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