I Pay A Lot for College, Can I Save Any Tax?

As the cost of higher education continues to grow, the good news is you may be able to save a significant amount of income tax. There are many ways to save tax related to higher education, here are a few:

Planning Ahead – Qualified tuition programs. A qualified tuition program (also known as a 529 plan) allows you to make contributions to an account set up to meet a child's future higher education expenses. Qualified tuition programs can be established by state governments or by private education institutions. The contributions are not deductible for federal income tax purposes, but the earnings on an account accumulate tax-free and distributions are tax-free if spent on qualified education expenses. The state of Wisconsin allows a deduction for contributions to a qualified state tuition program of up to $3,000 per child. This deduction is allowed not only to the child’s parents, but also grandparents, great-grandparents, and aunts and uncles.

While Attending – There are a number of tax credits available for tuition and related expenses. A tax credit is dollar for dollar tax savings and provides much more benefit compared to a deduction which reduces your taxable income so it saves you only your income tax rate (10-35%). Tuition credits are available for qualified tuition and related expenses for you, your spouse, or a dependent if claimed on your tax return. Be aware, there are phase-outs for higher income taxpayers. Also, if the student receives a scholarship, it reduces the amount of expenses that may be taken into account in computing a credit or deduction.

The American Opportunity tax credit is up to $2,500 per student for the first four years of college (a 100% credit for the first $2,000 in tuition, fees, and books, and a 25% credit for the second $2,000). The American Opportunity tax credit also has the added benefit of being 40% refundable, which means that you can get a refund if the amount of the credit is greater than your tax liability.

After the first four years, you can take a Lifetime Learning credit of up to $2,000 per family for every additional year of college or graduate school (a 20% credit for up to $10,000 in tuition and fees). If you don’t qualify for one of the tax credits, you may be able to use the Tuition and Fees deduction. The deduction is up to $4,000 of qualified college tuition and related expenses.

After Attending – Student Loans. Interest on loans used to pay for education at a post-secondary school is deductible up to $2,500. However, for 2011, if your adjusted gross income is over $120,000 for married filing jointly or $60,000 for single filers the deduction will be partly or fully phased out.

Keep in mind that other tax savings options are available and not all of the above mentioned ideas can be used in the same year. Also some may reduce the benefits of others, so it takes careful thought given an individual’s particular situation to determine which provides the most benefit.