Today we are going to be talking about students and taxes. This is a pretty broad subject, but it is very timely because we are in the midst of applying some major tax legislation. We also have record numbers of people going to school, furthering their education, and pursuing college degrees and other higher learning opportunities. With that said, it's a good time to talk about what tax breaks we can receive.
Video Transcript - Students and Taxes
It's time to get down to the brass tax. My name is Mel Sams, and I'm the Managing Associate of Sam's CPA. Today we're going to be talking about students and taxes, so pretty broad subject but it is very timely because we're in the midst of applying some major tax legislation, and we also have record numbers of people going to school, furthering their education, and pursuing college degrees and other higher learning opportunities. With that said, it's a good time to talk about what tax breaks we can also receive by doing so.
There's a lot specifics, there's a lot of variables here, but in general one question I get a lot is surrounding 529 plans. For those that don't know, a 529 plan is like an IRA for education. You can put money into this account, it can grow tax free, provided that the money is used for qualified education expenses at some point in time. Now, if you just put money in a 529 plan and just cash it out someday and go on vacation, you're gonna have tax from that, but if you use it for qualified education, you won't.
Now, what's qualified education expenses. Great question, getting it all the time. Your tuition, your fees, your books, and other class related costs are definitely qualified education expenses. Room and board is actually a qualified education expense, even if it's off campus. Every city in America has a published rate, and the colleges have this information, there's a published rate that says, this is the minimum cost of living here in this town, and that's the number that you use to determine how much of that 529 money can be used for room and board. Lot of things can be used there, and even now under the 2018 Tax Cuts and Jobs Act, you can use a 529 plan to pay for private school tuition at the Middle, High School, Elementary level, too. That's a big break, that for years we could only use those 529 plans on higher education, secondary education. So that was a big change.
Tax credits, for many years we had the Lifetime Learning tax credit and the Hope tax credit for higher education expenses. But a few years back, those credits were not replaced, but more surpassed by the American Opportunity Tax Credit. I think that came out around 2015. What that said was that with a little more restriction, the tax credits could be up to $2,500 per student which were higher than both of the other credits. But essentially to qualify for that, a student needs to be enrolled at least half-time, they need to be in their undergraduate education, they can't be a convicted felon. There's a couple of other basic criteria, but if you qualify for that, and there are income limitations, mind you. So this is where it becomes very important, you know, mom and dad or grandma and grandpa who are the custodians of the students, when the students are paying for their college or you're paying for it, it becomes very important to do some planning around that. Because if we can get your income into the threshold or below the threshold to qualify for these credits, it could be up to $2,500 per student. But again, there are income phase-outs on that.
Those are the three predominant tax credits, the Lifetime Learning, the Hope, and then the American Opportunity tax credit. And in talking about these tax credits, it's also important to do some planning around who's going to claim them. With tax credits related to education, there is flexibility regarding who claims the credits versus who paid the tuition and costs. So it's conceivable that a student who may be working while in college, if they pay their own tuition, it's still conceivable that we can claim that on mom and dad's return if that student is still a dependent. Or then it opens up an odd discussion about should the student be a dependent if they're earning enough money while working and they're supporting themselves. So there's all kinds of planning opportunities, and sometimes it comes down to looking at where is it most adventurous to claim these credits. Who's got a higher effective tax rate? All things that a CPA can help you with, all good discussions to have, preferably before you start paying that tuition, just so the planning can be done around that.
Another question that I get a lot is regarding student loans and the interest on those loans. People ask me all the time, can they deduct their student loan payments. I wish they could, I truly do. If I were in charge, I would change that. You'd be able to deduct your student loan payments, but unfortunately a lot of us have them. They are more permanent than anything I can think of. You can't get rid of them in bankruptcy, you can't get rid of them in death, they follow you until they're fully paid off.
What can we do to benefit or what benefits can we take by virtue of paying those student loans? You can only deduct up to $2,500 of interest on those student loan payments paid each year.
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