Out of Scope:
- Distributions from an Educational Savings Account not used for qualified expenses
- Education credits from a previous year that have to be repayed
- Prior to 2018, Form 8615 – Tax for Certain Children Who Have Unearned Income
Tax Slayer entry:
Federal section > Deductions > Credits Menu > Education Credits (Form 1098-T)
Federal section > Income > Other Compensation > Scholarships and Grants
There are five ways to claim education credits:
|Self-employment expense||– a dollar-by-dollar reduction in self-employment income (and thus self-employment tax). Note: cannot be in pursuit of a new career; must pertain to the current self-employment area.|
|Tuition and Fees deduction||– a dollar-by-dollar reduction in income up to $4,000 total for all students on the return.|
|Unreimbursed business expense||– a Schedule A deduction subject to the 2% of AGI threshold.|
|Lifetime Learning tax credit||– a non-refundable reduction in taxes up to $10,000 in expenses which can result in up to $2,500 as a tax credit per student.|
|American opportunity tax credit||– a reduction in taxes of which up to $1,000 is refundable and up to $1,500 is non-refundable, per student.|
Consider using one of the three primary credits (American Opportunity Credit, Lifetime Learning Credit, or Tuition and Fees deduction) for qualified expenses and then take the remaining expenses on Schedule A (business) or Schedule C (self-employed) if appropriate.
|Allowed Expense Description||American
|Required books purchased directly from institution||Yes||Yes||Yes|
|Required books purchased from a bookstore or second hand||Yes||No||No|
|Required supplies and equipment fees paid to institution||Yes||Yes||Yes|
|Required supplies and equipment not paid to institution||Yes||No||No|
|Student activity fees if required for enrollment||Yes||No||No|
|Sports, games, hobbies, non-credit course||No||No||No|
|Room and board||No||No||No|
|Insurance, student health fees, transportation, research||No||No||No|
- Complete the return, including ACA calculations, before applying tests for education benefits.
- A 1098-T is required to claim this credit, however the amount in the 1098-T box 1 (amount received) or box 2 (amount billed) may not be what the TP actually paid and the amount in box 5 (scholarship) may not be what was actually received or applied.
- Qualified education expenses paid by a taxpayer’s dependent for which an exemption is clamed, or a third party for the dependent, are considered paid by the taxpayer.
- Education benefits phase out differently based on AGI for the 3 options in the above table.
- A felony drug conviction disqualifies the student from the American Opportunity Credit.
- A “what if” calculation is relatively simple. Go to the Education Credits TS page and select the options one at a time; click CONTINUE and observe the Federal and State refund amounts. (HINT: Do the Tuition and Fees first – otherwise, it deletes the school information required for the others)
- The Education Calculator may also be helpful in determining the best option, especially if you wish to make part of a scholarship taxable.
- Check to be sure all scholarship money was used for qualified expenses for the terms of the scholarship. Most scholarships allow for tuition, fees, books and supplies no matter where purchased (but must be required for the course). Pell grants and “unrestricted” scholarships also allow for living expenses (room & board). Interview carefully to establish the terms of the scholarship and what expenses were paid. Enter any scholarship funds spent on other expenses as a taxable scholarship amount on THE STUDENT’S tax return.
- if the student is living at home, a reasonable amount of living expenses may be derived from the cost of maintaining that student in the home and some commuting expenses (gas, bus fare. No, not a new BMW!).
- Scholarships are generally non-taxable however, it may be advantageous to allow some or all to be taxed. See this local explanation or an IRS Pell grant example. If the student is a dependent, be careful or the student may have to file a tax return, may no longer qualify as a dependent, or may be subject to a “kiddie tax”.
Kiddie tax implication: (Now IN SCOPE for 2018!)
If the dependent student must file a tax return,
(taxable scholarships are “earned income” for this test and to determine the dependent’s standard deduction)
and if the unearned income is more than $2,100.
(taxable scholarships are “unearned income” for this test and to compute the tax using form 8615.)
Prior to 2018,
- Form 8615 is OUT OF SCOPE prior to 2018. (The form required knowledge of and complex analysis of the parent’s and other dependents’ returns to determine the tax.)
Beginning in 2018,
- earned income plus the first $2,100 of unearned income is taxed at the normal tax rate for the student. Much of that amount (possibly all) will be untaxed due to the student’s standard deduction.
- Remaining taxable unearned income, including taxable scholarships, will then be taxed at the trust tax rates.