When it comes to college students and their parents saving money on taxes, the American opportunity credit is hard to beat. Consider this: The College Board reports that parents and students saved right around $18.2 billion on their federal income taxes in 2014, thanks to tax deductions and credits related to education expenses. Of those billions in savings, a whopping 86 percent were the result of the American opportunity credit.
If you haven’t been getting a piece of that action, it’s time to see if you qualify. It could mean as much as $10,000 in savings for you over the course of a four-year college education. Here’s what you need to know about the American opportunity tax credit.
What is the American opportunity tax credit?
The American opportunity credit is meant to help students (or their parents) alleviate some of the cost of attending college. You can receive up to $2,500 to help offset the cost of school each year, for up to four years.
Because it’s a tax credit (not a deduction), the American opportunity credit directly reduces the tax you owe. It’s applied after you figure your tax bill — almost like a gift card that helps pay some of your liability. On top of that, 40 percent of this credit is refundable, up to $1,000. So, if your bill hits zero before the full amount of the credit is applied, you’ll get money back.
Say, for example, you’re eligible for the full $2,500 credit, but you only owe $1,000 in taxes. That leaves another $1,500 just sitting there. Because the American opportunity tax credit is partially refundable, you’ll get $600 (40 percent) of the remainder as part of a tax refund.
Who’s eligible for this tax credit?
Not everyone gets access to the American opportunity credit. First of all, if you’re a student, you can only claim the tax credit if you’re not a dependent on someone else’s taxes. If your parents say you’re a dependent — even if you pay some of your own bills — you can’t claim the credit.
To be eligible, you must meet the following guidelines, according to the IRS.
- Be enrolled at least half-time for at least one academic period beginning in the tax year at an institution offering a degree or other recognized education credential.
- Must not have finished your first four years of college (or other higher education) as of the beginning of the tax year.
- Can’t have claimed the American opportunity tax credit (or the former Hope credit) for more than four tax years.
- Can’t have a felony drug conviction as of the end of the tax year.
On top of that, there are income requirements. As a student, it won’t matter since it’s unlikely you’re making enough money to disqualify you from taking the credit, said Charlie Donaldson, MBA, a college funding advisor with College Bound Coaching. “However, a parent must have income under certain limits in order to claim the full credit.”
Once your adjusted gross income reaches $80,000 (filing single) or $160,000 (filing jointly), you can only claim a reduced amount. And if you make $90,000 (single) or $180,000 (joint), you can no longer receive the credit at all.
What expenses qualify for the American opportunity tax credit?
The amount you pay for qualified college expenses is taken into account when determining how much you get for your tax credit. This can include costs such as tuition, fees, and books. But remember the IRS doesn’t allow you to claim room and board, medical expenses, insurance, living expenses (such as groceries and utilities), or transportation.
Also, don’t think of double-dipping for tax benefits, warned Derek Hagen, a financial planner and the founder of Fireside Financial, a firm specializing in helping families with their college planning. “You have to spend money that hasn’t had preferential tax treatment,” he said. “You can’t use 529 plan dollars or Coverdell [educational savings account] dollars and then claim those dollars for credit.”
If you need help maximizing your education tax benefits, talk to an accountant or professional specializing in college planning.
How to claim the American opportunity credit
Save your receipts so you can add up qualified expenses. Additionally, watch for IRS Form 1098-T in the mail. This form is issued by your educational institution and includes information about your tuition costs and other related expenses, so you have an idea of what was spent. Additionally, it includes how much you paid toward these costs.
Once you have that information, you fill out a Form 8863 to figure out how much you can claim, and what amount is refundable. Form 8863 also includes other education credits, so you’ll want to fill out the entire form. On the last page of your tax return, you’ll see two spaces where you enter amounts from your Form 8863.
If you want help filing your federal taxes, some programs will help you for free to help you avoid mistakes.
Get what you’re entitled to
Attending college can be expensive. Since the government is willing to help you out with some of those costs, you might as well take advantage of what you’re entitled to. Check your eligibility for the American opportunity tax credit, and if you qualify, claim it to reduce what you owe the IRS.