Tax Benefits

TAX BENEFITS FOR HIGHER EDUCATION

Did you know that going to college (or sending your son/daughter to college) can save you money on your income taxes?  It’s true.  Both the federal government and the State of New York offer taxpayers the opportunity to benefit from tax credits and/or taxable income deductions based upon tuition and other qualified college expenses. 

There are a number of different credits/deductions available.  The rules vary for each.  We have developed this Q&A page to help you understand the basic concepts and have provided links to the U.S. Internal Revenue Service and NYS Dept. of Taxation and Finance websites for more specific and technical information on these programs.

GENERAL DEFINITIONS

What is a “Deduction” or “Tax Credit”?

A deduction is an amount that is reduced from your taxable income when completing your tax return.  For example, if your taxable income was $50,000 and you received a $1000 deduction, your annual tax would be calculated as if your taxable income were only $49,000.  Depending on your tax bracket and prevailing rates, the deduction might save you up to a few hundred dollars on your annual income tax.

A tax credit is an amount that is reduced directly from your total annual tax on your tax return.  For example, if your tax return shows your annual tax at $3,500 and you receive a $1,000 tax credit, your annual tax would be reduced to $2,500.  If your payroll withholding (taxes paid) through the year totalled $3,000, the tax credit would mean the difference between a $500 tax due and a $500 income tax refund.  In general, an education tax credit will never reduce your annual tax due to less than zero.

FEDERAL TAX BENEFITS
(U.S. Income Tax – 1040, 1040A, etc)

What are the Federal Education Tax Credits?

There are two different education tax credits available to federal taxpayers. They are the Hope Credit and the Lifetime Learning Credit, also referred to as education credits.

What is the maximum Hope Credit?   You may be able to claim a Hope Credit of up to $1,500 annual for qualified education expenses paid for each eligible student.

What is the maximum Lifetime Learning Credit? You may be able to claim a total annual Lifetime Learning Credit of up to $2,000 for qualified education expenses paid for all eligible students in the household.

A tax credit reduces the amount of income tax you may have to pay. Unlike a deduction, which reduces the amount of income subject to tax, a credit directly reduces the tax itself. The Hope Credit/Lifetime Learning Credit is a nonrefundable credit. This means that it can reduce your tax to zero, but if the credit is more than your tax the excess will not be refunded to you.  The credit you are allowed may also be limited by the amount of your taxable income.

Can you claim both education credits this year?.   For each student, you can elect only one of the credits each tax year.  For example, if you elect to take the Hope Credit for a child on your 2006 tax return, you cannot, for that same child, also claim the Lifetime Learning Credit for 2006.

If you pay qualified education expenses for more than one student in the same year, you can choose to take credits on a per-student, per-year basis. This means that, for example, you can claim the Hope Credit for one student and the Lifetime Learning Credit for another student in the same year.

Differences between the Hope and lifetime learning credits. There are several differences between these two credits. For example, you can claim the Hope Credit based on an individual student's expenses for no more than 2 years.  However, there is no limit on the number of years for which you can claim a Lifetime Learning Credit for the same student's expenses. The differences between the two credits are summarized in the following table:

Other Rules/Restrictions on the Federal Tax Credits:

Generally, education tax credits are based only upon actual expenses paid by the taxpayer.  Any expenses paid by scholarships, grants, amounts or employer-provided educational assistance cannot be considered in calculation of the credits.  Your college will send you a form 1098-T each year that documents your qualified expenses minus any grants/scholarships received.

When calculating your credit, you cannot “double-dip” by doing any of the following:

• Deducting higher education expenses on your income tax return (as, for example, a business expense) and also claiming a Hope/Lifetime Learning Credit based on those same expenses.
• Claim a Hope credit in the same year that you are claiming a tuition and fees deduction for the same student.
• Claim a Hope Credit and a Lifetime Learning Credit based on the same qualified education expenses.
• Claim a Hope credit based on the same expenses used to figure the tax-free portion of a distribution from a Coverdell education savings account (ESA) or qualified tuition program (QTP).

Is the Interest on my Student Loan Tax-Deductable?

Generally, personal interest you pay is not deductible on your tax return.  However, if your modified adjusted gross income (2005) is less than $65,000 (or $135,000 if filing a joint return) there is a special deduction allowed for paying interest on a student loan (also known as an education loan) used for higher education.  This deduction can reduce the amount of your income subject to tax by up to $2,500 in 2005.

Student loan interest is interest you paid during the year on a qualified student loan. It includes both required and voluntary interest payments, and can be claimed for as many years after a student has finished school as necessary to complete repayment.

Definition of a “Qualified Student Loan” for the Tax Deduction:  This is a loan that was taken out solely to pay actual higher education expenses that were:

• For you, your spouse, or a person who was your dependent when you took out the loan,
• Paid or incurred within a reasonable period of time before or after you took out the loan, and
• For higher education provided for an eligible student at an eligible school.

Loans from the following sources are NOT qualified student loans.

• A related person.
• A qualified employer plan.

How Can I Learn More About Federal Tax Benefits?

To learn more about Federal Tax Benefits for Education you can visit the IRS education benefits website at:  www.irs.gov/publications/p970/index.html

NEW YORK TAX BENEFITS
(NYS Income Tax – IT-200, IT-201, etc)

What are the NY State Tax Benefits for Education?

The NYS tax benefits are similar in structure to the federal benefits, with differing rules and dollar values.  New York taxpayers may take either a refundable credit or an itemized deduction for allowable college tuition expenses paid on behalf of the taxpayer, the taxpayer’s spouse or dependents for enrollment at qualifying in- or out-of-state institutions of higher education.  The credit and deduction are available only for undergraduate study.

The credit is calculated based on allowable college tuition expenses of up to $10,000.  For taxpayers with allowable expenses of $5,000 or more, the credit equals the applicable percentage of allowed tuition expenses times 4 percent.  Taxpayers with expenses of less than $5,000 may claim a credit equal to the lesser of the applicable percentage of allowed tuition expenses or $200.  The itemized deduction equals the applicable percentage of allowed tuition expenses in a given year.

Qualifying tuition expenses are defined as net of scholarships, grants or other financial aid.  Institutions of higher education will send you a form 1098-T each year that documents your qualified expenses minus any grants/scholarships received.

How Can I Learn More About NYS Tax Benefits?

To learn more about NYS Tax Benefits for Education please vist the NYS Department of Taxation and Finance website at:  www.tax.state.ny.us .

STILL CONFUSED? CONTACT US!

Of course, you can always contact us for more information and explanations.  While we are not income tax advisors and cannot give tax advice, we can help by explaining general concepts and definitions, and helping you locate appropriate publications and forms.  Just call us at 607-753-4717 or e-mail at finaid@cortland.edu.