Find Tax Incentives
You can also find ways to save on your income taxes. No, this book is not advising you to cheat on your taxes! That will only cost you more money in the long run, when the IRS decides to audit you, not to mention that it's against the law. One of the best ways to save on your income taxes is to take advantage of tax incentives, which besides being perfectly legal can be helpful as well.
The Taxpayer Relief Act
As a result of the Taxpayer Relief Act of 1997, the IRS has enacted tax incentives for costs related to higher education. Specifically, the act makes two relevant additions to the tax code: the Hope Scholarship credit and the Lifetime Learning tax credit. The act also added a deduction for student loan interest.
Along with those credits and deductions, the Taxpayer Relief Act of 1997 also made it possible to get tax-free financial aid (or educational assistance) from your employer. Amendments were also made to the provisions that define eligibility for Section 529 plans (or qualified tuition programs, as discussed in Chapter 10).
These provisions have created several new tax benefits for a lot of American families, whether they are saving up for higher education costs, already paying for them, or just repaying student loans. Certain factors determine whether a taxpayer can take advantage of these benefits, such as financial situation, facts, and circumstances. Visit the IRS Web site at www.irs.gov for a more detailed review of the requirements for each of these benefits. (The above information was provided to the public by the Internal Revenue Service's Notice 97-60: Administrative, Procedural, and Miscellaneous Education Tax Incentives.)
Hope Scholarship Tax Credit
As a taxpayer, you can claim the Hope Scholarship credit for qualified tuition and college-related expenses for every student in your family (that includes you, your spouse, and any dependents). Students must be enrolled with at least a 50-percent course load. They must be in the first two years of higher education and be enrolled in a degree program or one that will earn some other form of nationally recognized vocational/educational credential.
As your income increases over the $40,000 threshold ($80,000 if you are married and filing jointly), the amount you can claim in Hope Scholarship credit will be reduced little by little. If you earn more than $50,000 ($100,000 if married filing jointly), you will no longer be eligible for this credit.
The amount that a taxpayer can claim as Hope Scholarship credit is determined as follows. You may claim 100 percent of the first $1,000 of out-of-pocket expenses for each student's tuition and college-related expenses, plus an additional 50 percent from the second $1,000 of these expenses. Therefore, the maximum amount of Hope Scholarship credit that you can claim in a tax year will equal $1,500 multiplied by the number of students in your family who meet the enrollment criteria.
Taxpayers with modified gross incomes of more than $50,000 ($100,000 if married filing jointly) are ineligible to claim Hope Scholarship tax credit. These limits—both on income and on the amount of expenses that can be claimed—were set to match inflation rates in 2002. They have not yet been modified.
The Lifetime Learning Tax Credit
Whether the student in your family is your spouse, your child, or you yourself, as a taxpayer you may be eligible to claim the Lifetime Learning credit (depending on your income). This credit applies to out-of-pocket tuition payments and other college-related expenses for students enrolled in a recognized institution of higher education. You are entitled to claim up to 20 percent of your first $10,000 in out-of-pocket tuition and college-related expenses, or up to $2,000. Unlike the Hope scholarship credit, these expense limits are not being indexed/adjusted to meet the rate of inflation.
If you claim a Hope Scholarship credit for your daughter, a college student, then your daughter may not apply any of her own out-of-pocket college-related expenses for that year may toward her Lifetime Learning credit. The amount that any taxpayer may claim in Lifetime Learning credit is gradually reduced as gross income increases to more than $40,000 ($80,000 if married filing jointly). If you earn more than $50,000 ($100,000 if married filing jointly), you are no longer eligible to claim this credit. The modified gross income limit will be indexed for inflation, as with the Hope Scholarship credit.