Using Your American Opportunity Credit for Education in 2014

Using Your American Opportunity Credit for Education in 2014

Education is an invaluable resource, and in 2014, you or your dependents may be eligible to receive a tax credit for tuition that further enhances its worth. Instituted in 2012, the American Opportunity Tax Credit (AOTC) offers as much as $2,500 in tax credit to defray the cost of post-secondary tuition for the first four years that you or a dependent attend school. Unlike deductions related to educational expenses, this tax credit reduces your taxes paid, making it a particularly valuable resource for those who plan to return to school or who have children who will soon attend college.

For 2014, the credit supplies 100 percent of the initial $2,000 spent on tuition at a post-secondary institution of higher education. For the remaining tuition, the credit covers an additional 25 percent of costs up to the maximum of $500, or a total of $2,500 not including room and board. The AOTC phases out at higher income levels, starting at $80,000 for single taxpayers and $160,000 for those who file jointly. The credit applies to individual students, so families with more than one student may claim more than a single AOTC.

For tax planners, understanding eligibility and restrictions is potentially complex, depending on the nature of the claim. To comply with IRS requirements for eligibility, a student’s credit must be claimed on the same tax return as that student’s exemption. In the case of divided or blended households in which parents file separately, for example, the parent who claims the child on the tax return must list the AOTC. However, income disparities may lessen the available credit or even render it unavailable if the partner with the higher income makes the claim.

Another issue that can complicate filing your tax returns and claiming your American Opportunity Tax Credit is the application of gift taxes. If you were to send a grandchild to college and pay tuition to the university directly, you would incur no gift taxes. Money used for education is exempt from gift taxes when it goes straight to the school. Giving the funds to the student or the student’s parents directly, though, could mean paying surtax on the gift. When deciding how to apply an AOTC claim or give a tuition gift, speak with your financial advisor or accountant first; your potential savings could help defray the cost of books, room and board.

The AOTC is a partially reversible tax credit, which means you may receive some of the credit as a refund after all other owed self-employment or income tax is paid. Up to 40 percent of your AOTC is potentially refundable, but the refund only applies to the current year. Your financial planner can help you plan your educational expenses and maximize the refundable credit you receive.

The federal government designed the AOTC to cover a portion of the cost of tuition for a four-year post-secondary degree program, but many students plan on earning post-graduate degrees that could mean additional years of education. Although the American Opportunity Credit ends after four years, other possibilities can supplement tuition payments. The Lifetime Learning Credit has a slightly lower annual maximum of $2,000, but eligibility requirements have no expiration date or time limits. This credit does have a per-student limitation and lower thresholds of eligibility, however, so work with your family accountant to determine which combination of tuition credits is most beneficial for you.

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