Smart Money: Back-to-school expenses

Smart Money: Back to School Expenses

OVERVIEW

  • Educational expenses are nondeductible unless the Internal Revenue Code provides a deduction or credit.
  • Education credits may not be claimed by a taxpayer if someone else claims the taxpayer as a dependent.
  • Taxpayers may not obtain a double benefit from education expenditures. For example, you may not claim a credit or deduction for expenditures paid with scholarships or other tax-free funds.

DEDUCTIONS

  • Educational expenses may qualify as business expenses if they are related to current employment and do not qualify the taxpayer for another job or profession.
  • A deduction is available for qualified higher education tuition and related expenses incurred at eligible post-secondary institutions even if the taxpayer does not itemize deductions.

            But only through 2016, unless extended by Congress.

            The maximum annual deduction is $4,000.

  • Employees may be able to deduct unreimbursed job-related education expenses if they itemize deductions.  Expenses for entering a new line of work are not deductible.
  • Taxpayers may be able to deduct up to $2,500 of student loan interest even if they do not itemize deductions.

CREDITS

  • The American Opportunity Tax Credit applies to an eligible student’s first four years at an eligible college or vocational school leading to a degree or other recognized education credential. The maximum annual credit is $2,500 per eligible student.
  • The Lifetime Learning Credit applies to a broader range of students because all years of post-secondary education are eligible.  The maximum annual credit is $2,000 per tax return regardless of how many students qualify.

TAX-ADVANTAGED STRATEGIES

  • Taxpayers may avoid the 10% early withdrawal penalty on IRA withdrawals before the owner reaches age 59 ½ if used for qualified higher education expenses. Withdrawals are still subject to ordinary income tax.
  • Qualified tuition programs (a.k.a. 529 plans) permit tax-free distributions if used for qualified educational expenses.
  • Coverdell Education Savings Accounts allow tax-free distributions if funds are used for qualified education expenses, and can be used for K-12 education costs in addition to college expenses.

PARTING THOUGHTS

  • Most tax provisions become limited or unavailable at certain income thresholds and/or are subject to other specific limitations.
  • The devil is in the details. Pay close attention to qualification requirements for eligible expenses, institutions and students.
  • Taxpayers may not claim education credits and the tuition and fees deduction for the same student in a particular tax year.
  • Beginning in 2016 students typically must retain Form 1098-T Tuition Statement provided by the educational institution.
  • Consult IRS Publication 970, Tax Benefits for Education, for detailed guidance.  https://www.irs.gov/pub/irs-pdf/p970.pdf

 

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