This college tax guide answers some of the questions we get in the Paying for College 101 Facebook group. Here’s what you need to know about claiming tax benefits as well as how you might have to pay taxes on scholarships.
Claiming Your Child’s College Costs on Your Taxes
The first question many people ask is this: What college expenses are tax-deductible for parents? When can parents claim deductions or credits related to the costs they pay on behalf of their students?
Realize that your child must be claimed as a dependent on your tax return before you can even start claiming college-related costs. If you’re not claiming your child as a dependent, you’re not able to claim tax benefits related to their schooling.
Next, double-check any income restrictions on tax benefits. Some education-related tax benefits, such as deductions for tuition or the Lifetime Learning credit, phaseout at certain income levels. Compare phaseouts to determine what will be most beneficial for you. Additionally, consider that if your own income is too high to benefit from tax breaks, it might make more sense to not claim your child as a dependent and let them benefit on their own taxes.
The passage of the 2017 tax reform package got rid of personal exemptions, so claiming your child as a dependent might not be as beneficial. While the child tax credit was expanded, it only applies to children under the age of 17, so unless your child is going to college early, it likely won’t benefit you.
A tax professional can help you determine whether keeping your child as a dependent for tax purposes still makes sense — or if you should just let your child claim educational tax benefits on their own.
What’s the Status of the Tuition and Fees Deduction?
Next, it’s important to understand that the status of the tuition and fees deduction is up in the air right now. Originally, the tuitions and fees deduction expired at the end of tax year 2016. Congress extended the deduction through tax year 2017. Now we’re looking at tax year 2018, and there hasn’t been movement on this issue.
So, the question of your child’s college tuition being tax-deductible for the parent hasn’t been settled going forward. The deduction for 2017 was up to $4,000 for those making up to $130,000 filing jointly or $65,000 filing single). For those making between $130,000 and $160,000 (or between $65,000 and $80,000 for single filers), the tax deduction was up to $2,000.
In order to qualify for the tuitions and fees deductions, expenses must be:
- Qualified tuition
- Mandatory fees
- Paid directly to the university or college
- Be required by the school (such as books or the purchase of a computer)
However, we will need to wait to see if this is something that can be claimed this year. Congress didn’t retroactively extend the deduction for tax year 2017 until February of 2018, so you might want to work on other aspects of your taxes while waiting on this information.
Can Parents Claim the Lifetime Learning Credit?
Many parents in our Facebook group want to know if they can use the Lifetime Learning credit as a way to reduce taxes. One of the benefits of a credit is that it directly reduces your tax bill, unlike a deduction which reduces your income. A credit is more valuable than a deduction.
As with other education-related tax benefits, your child must be listed as a dependent on your tax return in order for you to claim this credit. Here are some things to keep in mind about the Lifetime Learning credit:
- You can only claim one credit each year, no matter how many kids you have attending college.
- You can claim up to $2,000 (20% of $10,000 of qualifying higher-education expenses).
- The credit phases out when your income reaches $114,000 (joint) or $57,000 (single).
- There is no limit to the number of years you can claim this credit
- It’s possible to claim this credit while in grad school.
- The credit is nonrefundable, meaning it can only take your tax bill to $0, and any leftover won’t be refunded to you.
Depending on your situation, though, it might make more sense for you to focus on the American Opportunity credit. However, you must choose one or the other; you can’t claim both the Lifetime Learning and American Opportunity credits for the same student in the same year.
Should Parents Claim the American Opportunity Tax Credit?
In some cases, it can make more sense to look at the American Opportunity tax credit. You can claim it for each of your dependent children who are in the first four years of college. Here are some of the things to be aware of:
- You can claim up to $2,500 per student. So, if you have two students, you might be able to claim up to $5,000.
- The credit starts phasing out at $160,000 (joint) and $80,000 (single).
- Up to 40% of the credit is refundable, meaning that if the credit takes you to $0, a portion will be returned to you in the form of a tax refund.
It makes sense to weigh your options, based on your income and the situation of your students.
What Should I Know About 529s and Taxes?
A 529 is one of the best tools available for planning for college costs. You can take money out of a 529 without paying taxes on the withdrawal as long as the expenses are “qualified.” Here’s what you can consider qualified:
- Room and board paid directly to the school
- Rent paid to a landlord — as long as it doesn’t exceed the school’s estimated cost for off-campus housing
- Books and school supplies
- Technology items required by the school (software and hardware)
Realize that contributions made into a 529 plan are not tax-deductible at the federal level. You don’t have to worry about a penalty when you withdraw for qualified expenses, but you don’t get a federal tax benefit for contributions.
The story might be different for state taxes, though. Some states offer tax deductions when you contribute to a 529 for your child. So, while you might not see a lower federal tax bill, you could benefit at the state level.
Are Scholarships Taxable?
We get questions about scholarships and taxes all the time in the Facebook group. Understanding the different parts of your financial aid package is important because some of it might actually be taxable. While you won’t be taxed on the loan portions of your aid package, you might end up paying taxes on some of your child’s scholarship money.
Scholarship money used for qualified education expenses won’t be taxed. However, if there is money left over afterward, it will be taxed. For example, if you receive $20,000 in scholarship money, but the tuition, fees, and other mandatory costs at your school only amount to $15,000, you’ll have an extra $5,000 — and that amount is taxable.
Additionally, if the scholarship money is specifically designed for a non-qualified purpose, such as paying for room and board, the amount will be taxed. Check with your school and consult with a tax professional to figure out what’s taxable and what isn’t.
Carefully consider your situation. A “housing scholarship” for $3,000, even if it comes with a tax bill of a couple hundred bucks, might be worth it, since you’re only on the hook for the taxes, and not the whole $3,000 you would have paid to begin with, as some of our Facebook group members pointed out.
Additionally, another pointed out that the income reported by taxable scholarships could also be offset by the higher standard deduction. How much scholarships affect your taxes really depends on your situation.
Other Questions Parents Have about Education Expenses and Taxes
In addition to the issues covered above, there are a few other questions we see a lot in our Facebook group, and that are worth including in this college tax guide.
Is student loan interest tax-deductible?
Many parents want to know if they can deduct student loan interest payments from their taxes. It’s important to note that you can only do so if you take out the loan in your name, using a federal Parent PLUS loan or a private parent loan in order to use the funds to pay for school-related expenses.
You can use a loan to pay for things like room and board, dorm furnishings, and educational technology. You can deduct up to $2,500 in student loan interest each year, as of 2018.
Are student loan repayments tax-deductible?
When you start repaying a student loan, the only thing deductible is the interest payments. As parents, you can only claim the interest on your own loans taken out for the benefit of your child’s education.
What about tax-free savings bond interest?
If you redeem eligible Series EE and I Bonds issued after 1989, you might be able to exclude a portion (or even all) of the interest you receive from your gross income. In order to qualify, though, the Treasury requires that qualified education expenses be incurred the same year that you redeem your bond.
There are also income requirements and other filing requirements. Check with Treasury Direct to make sure you qualify.
Are college application fees tax-deductible?
Can you write off the cost of college visits?
Is a laptop a qualified education expense?
Sometimes, a laptop can “count” as a qualified education expense. However, in order to be included as qualified, it must be required by the school. If the college or university requires that each student purchase a laptop, then it can be lumped in with qualified expenses.
If it’s not a requirement, though, a laptop isn’t a qualified education expense.
There are ways to reduce the pain of paying for college through tax benefits. However, as a parent, you need to make sure you understand rules involved, as well as make sure claiming your child as a dependent makes sense for your situation.
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By Miranda Marquit, who has been covering personal finance for more than 10 years, including aspects of college planning and student loans. She is a recognized money expert and has contributed to numerous media outlets, including Forbes, Marketwatch, NPR, USA Today, Investopedia, and U.S. News & World Report. She lives in Idaho with her teenage son — who she’s just starting to guide through the college selection and admissions process.