Tax Deduction and Credits for College Expenses

The following is an excerpt from my book Taxes Made Simple: Income Taxes Explained in 100 Pages or Less.

Given that the tax law is (usually) set up to reward things that Congress has decided are beneficial to our country, it’s no surprise that there are tax breaks available to people paying for higher education expenses.

Education Credits

If you pay higher education expenses for yourself, your spouse, or your dependent, you may be entitled to one (or both) of two credits: the Lifetime Learning Credit or the American Opportunity Credit.

Lifetime Learning Credit

The Lifetime Learning Credit may be available to you if you pay postsecondary education expenses for a student. The credit is calculated as 20% of the first $10,000 of qualified education expenses that you pay in a given year. (Note that this means that the maximum credit per tax return is $2,000.)

Your eligibility to claim the Lifetime Learning Credit begins to decrease as your modified adjusted gross income exceeds $80,000 ($160,000 if married filing jointly). Once your MAGI reaches $90,000 ($180,000 if married filing jointly), you’ll no longer be eligible to use the credit.

There is no limit to the number of years that the Lifetime Learning Credit can be used for a given student.

In order to qualify for the Lifetime Learning Credit, the expenses must be paid to a university, college, vocational school, or other postsecondary educational institution. Eligible expenses include tuition, fees, and other course-related expenses that are required to be paid to the institution as a condition for enrollment or attendance. The course must be part of a postsecondary degree program or taken by the student to acquire or improve job skills.

EXAMPLE: Jack is attending school to be a filmmaker. In addition to his tuition, he’s required to pay $500 per semester for use of the school’s film studio. Because he is required to pay the $500 to the school in order to attend classes, the expense can be included as a qualifying education expense.

EXAMPLE: Lee is attending school for a degree in Spanish. Each semester, he is required to buy several textbooks to use for his courses. However, because his school doesn’t require him to buy the materials from the school — he could buy them online on Amazon, for instance — the cost does not count as a qualifying education expense.

Two more points of note about qualifying expenses:

1. Room and board does not count as a qualifying education expense.
2. It doesn’t matter whether or not the money used to pay the expenses was obtained with a loan.

American Opportunity Credit

The American Opportunity Credit is available for students who are in their first four years of postsecondary education and who are enrolled at least “half-time.” The amount of the credit is the sum of the first $2,000 of qualified education expenses paid for the student, plus 25% of the next $2,000 of qualified expenses. (Note that this means that the maximum credit per student is $2,500.)

Your eligibility to claim the American Opportunity Credit begins to decrease as your modified adjusted gross income exceeds $80,000 ($160,000 if married filing jointly). Once your MAGI reaches $90,000 ($180,000 if married filing jointly), you’ll no longer be eligible to use the credit.

In addition to the expenses that can be used when calculating the Lifetime Learning Credit, expenditures for “course materials” can be used for purposes of calculating the American Opportunity Credit. “Course materials” includes books and supplies needed for a course, whether or not the materials are purchased from the educational institution as a condition of enrollment or attendance.

How the Credits Work Together

For a given student, you can claim either the Lifetime Learning Credit or the American Opportunity Credit in a given year, not both.

EXAMPLE: Katie and Alex are siblings. Alex is a freshman in college, and Katie is a senior (in her fifth year of college). With the help of some student loans, their family spends $20,000 for tuition for each of them for the year.

The family should probably claim the American Opportunity Credit for Alex, because it will allow for a credit of $2,500, as opposed to the $2,000 that would be allowed via the Lifetime Learning Credit. Also, by not using the Lifetime Learning Credit for Alex, the family can still use the Lifetime Learning Credit for Katie. (Katie is ineligible for the American Opportunity Credit, because she is in her fifth year of college.) In total, the family will be able to claim $4,500 of education-related credits.

Student Loan Interest Deduction

If you pay interest on student loans, you may be able to deduct that interest (up to $2,500 per year) as an “adjustment to income” (sometimes referred to as an “above the line” deduction). In order to qualify:

1. The loan must be taken out solely to pay for qualified higher education expenses,
2. You (and your spouse, if you’re married) must not be claimed as a dependent on another person’s return, and
3. If married, you must file jointly.

The $2,500 limit for the deduction is reduced as your modified adjusted gross income exceeds (for 2023) $75,000 ($155,000 if married filing jointly). Once your modified adjusted gross income reaches $90,000 ($185,000 if married filing jointly), you will no longer be eligible for the deduction.

Simple Summary

• If you pay postsecondary education expenses for yourself, your spouse, or your dependent, you may be eligible for the Lifetime Learning Credit (of up to $2,000). Only one Lifetime Learning Credit can be claimed per tax return per year.
• If you pay higher education expenses for yourself, your spouse, or your dependent, you may be eligible to claim the American Opportunity Credit (of up to $2,500 per student).
• For a given student’s expenses each year, you can use either the American Opportunity Credit or the Lifetime Learning Credit, not both.
• If you pay student loan interest, you may qualify for a deduction for the amount of interest paid, up to $2,500.