Parents
facing college expenses have several provisions in the tax law to consider.
The benefits don't apply to all, but there is something of interest for
many families.
Tax
credits
 The
HOPE credit is available for certain tuition and fees, and it allows
you to reduce taxes annually up to $1,500 per student for the first two
years of college. The credit is equal to 100% of the first $1,000 of qualified
expenses and 50% of the next $1,000.
The
lifetime learning credit covers any year of post-secondary education
and gives you a 20% tax credit on up to $5,000 in tuition and fees. The
maximum credit is $1,000, no matter how many students in the family are
eligible.
Both
the Hope and lifetime learning credits start phasing out for married taxpayers
filing jointly with adjusted gross income (AGI) of $82,000 and for single
taxpayers with AGI of $41,000. Married taxpayers filing separate returns
are not eligible for these credits.
Other
education tax incentives
Education
savings accounts. You may establish an education savings account (previously
called an education IRA) with a nondeductible contribution for any child
under 18. The annual contribution limit is $2,000. Funds can accumulate
and be paid out tax-free for qualified college expenses, including tuition,
fees, books, supplies, equipment, and certain room and board costs. The
funds can also be used to pay for elementary and secondary (K-12) school
expenses at public, private, or religious schools. Eligibility for an education
IRA starts phasing out at $95,000 of AGI for single taxpayers and $190,000
for marrieds.
Individual
retirement accounts (IRAs). Existing IRAs can also be a source of college
funds. You may make withdrawals before age 59 1/2 without penalty for amounts
paid for college or graduate school tuition, fees, books, room and board,
supplies, and equipment.
Education
savings bonds. Interest on Series EE and Series I bonds issued after
1989 is nontaxable when used to pay tuition and fees for you or your dependents.
This tax break begins to phase out once income reaches certain levels.
Section
529 plans allow individuals to set up an account on behalf of someone
else (say a child or grandchild) that can be used to pay college expenses.
There are two types of plans:
Prepaid
tuition plans are designed to hedge against inflation. You can purchase
tuition credits, at today's rates, that your child can redeem when he or
she attends one of the plan's eligible colleges or universities.
College
savings plans are savings accounts that allow you to build a fund to
pay for your child's college education. The funds can be used to pay tuition,
fees, supplies, equipment, and certain room and board expenses.
Your
contribution is not tax-deductible, but your investment can grow tax-deferred
for as long as money stays in the plan. Qualified distributions from state-run
plans are tax-free. This tax-free status extends to nonstate plans after
2003.
College
expense deduction. For the years 2002 through 2005, there is an "above-the-line"
deduction for qualified higher education expenses. The maximum deduction
and the income limitations are as follows:
| Year |
Income
Limit |
Maximum
Deduction* |
| 2002-2003 |
Single
- $65,000
Joint
- $130,000 |
$3,000 |
| 2004-2005 |
Single
- $65,000
Joint
- $130,000 |
$4,000 |
Single
- $80,000
Joint
- $160,000 |
$2,000 |
Student
loan interest deduction. Interest on certain student loans can be deducted
whether or not you itemize your deductions. The maximum deduction is $2,500
per year over the loan repayment period.
Other
tax benefits. Most scholarships remain tax-free, nontaxable employer-paid
tuition may be available, and education expenses related to your job still
may be deductible.
When
you start examining your situation, remember that many of these provisions
are designed so that you can't benefit from more than one in any given
year. We can help guide you through the maze and help ensure that you receive
the maximum possible benefit.
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