About Student Loans and Tax Credits

Updated for Tax Year 2017


OVERVIEW

The federal government offers two tax credits that reduce your tax bill on a dollar-for-dollar basis for your school-related expenses.


American Opportunity credit

Students who are pursuing a course of study that will eventually lead to a degree and are in their first four years of school—or those who are paying for their educations—may be eligible to claim the American Opportunity credit. The credit covers the tuition payments you make plus the cost of purchasing the books and supplies you need, as long as you maintain at least half-time status.

With the price of tuition rising, it’s not difficult to qualify for the maximum credit; the hard part is finding the money to pay for those expenses. When you use student loan funds to finance your education, the IRS allows you to include the expenses you pay with those funds in the credit.

Lifetime Learning credit

Students who have already finished their first four years of post-secondary study or who just take a course here and there to improve work skills can qualify for the Lifetime Learning credit. Although the credit covers your tuition and fees, you may not include the cost of books and supplies unless the school requires direct payment for them.

Many older students also take advantage of student loans to pay for their tuition. Just like the American Opportunity credit, the IRS allows you to claim the Lifetime Learning credit even if you use a student loan to pay 100 percent of your tuition. For example, since the credit is equal to 20 percent of the tuition and fees you pay, even if you borrow $2,000 to pay for the tuition on a course, your credit will equal $400. You can view this as a discount on your student loan if you take that $400 to pay down some of your student loan debt.

IRS Form 8863

For any tax year that you claim either of the tax credits, the IRS requires you to prepare a Form 8863 and submit it with your personal income tax return. You use this form to report your eligible school expenses and to calculate the credit. In most cases, your school will notify you of your eligible costs for the year before you prepare your income tax return.

If you use TurboTax to prepare your tax return, we’ll make sure to fill in all the right forms for you. You’ll just need to answer a few simple questions about your education expenses.

Student loan interest deduction

The tax benefits of your student loan don’t end with these tax credits. A deduction is also available for the interest payments you make when you start repaying your loan. Although the amount you can deduct is limited each year, you can only deduct the interest on student loans you actually use to pay school-related expenses, including your room and board. But even if you use some of the funds for other personal expenses, such as to finance a vacation, the deduction is not entirely lost; you just need to reduce it accordingly.

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The above article is intended to provide generalized financial information designed to educate a broad segment of the public; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business.

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