What is the American Opportunity Tax Credit?
The American Opportunity Tax Credit, also called the AOTC, is a refundable tax credit that reduces a taxpayer's federal tax bill by a maximum of $2,500 per student, per year. Claim this credit for post-secondary education for up to four years per qualifying student.
The way the credit is applied depends on the amount you spend on qualified educational expenses for each eligible student. The credit is 100 percent of the first $2,000 paid; 25 percent of the next $2000 paid. If this credit brings the taxpayer's tax bill down to zero, then you will be refunded 40% of the remaining credit up to $1,000.
Example: You paid $10,000 the first year for education expenses. $2000 is reduced right off the top at 100 percent dollar for dollar, reducing the expense down to $8,000. Then the second $2,000 is credited at an additional 25% ($500) from the $8,000.00 which brings it to $7,500.00. There is now a $2,500 credit applied to your tax bill. If this $2,500 reduces your tax bill to zero, you then qualify for a refund of your original tax bill up to $1,000.
When calculating the refundable tax benefit, do not include expenses paid with tax-free funds such as Pell grants, section 127 tuition reimbursement plans, or veterans’ educational assistance. Scholarships awarded to the student are generally tax-free and can reduce the out-of-pocket expenses and in return will reduce the amount of the credit.
Determining American Opportunity Tax Credit eligibility
A taxpayer can claim this credit for a dependent who is attending a university, college, or any other accredited post-secondary institution. Other schools are eligible if they are administered by the Department of Education. This includes accredited non-profit, public, and proprietary educational organizations or participate in the financial aid program. Some foreign universities also qualify. However, high school students who are involved in dual credit college courses will not usually qualify for this credit.
Not all students qualify since several things will determine eligibility for the American Opportunity Tax Credit. Student eligibility requires the following:
- Enrolled at least half-time in any eligible post-secondary institution
- Enrolled in one of the first four years of higher education
- Pursuing a degree or other recognized education credit
- Has not claimed the American Opportunity Tax Credit, or the previous Hope credit, for a total of four years already
- No felony drug convictions during that tax year
Taxpayers who are eligible and pay tuition and any qualified fee expenses may be able to claim the credit up to four times, totaling a tax savings of up to $10,000 per student over those four years.
Income limits for the American Opportunity Tax Credit
Individuals who have a modified adjusted gross income (MAGI) of $80,000 or less, or for married couples $160,000 or less and file a joint return may receive the full credit. Taxpayers with a modified adjusted gross income (MAGI) that exceeds these amounts could qualify for a reduced credit. Any taxpayer that has a MAGI that exceeds $90,000, or for couples filing joint $180,000 will not be able to claim the credit.
School expenditures that qualify for the credit include anything required for enrollment or attendance such as:
- Tuition and/or fees that are required by the institution for enrollment
- Course-related books, materials, and equipment, even if they are not necessarily paid directly to the educational institution. Certain student activity and lab fees also may qualify.
- Computers, software, or tablets if required by the education institution
Expenditures not qualified for the credit
- Living quarters and board
- Any type of insurance
- Any medical expenses
- Any student fee unless it is an obligation as a condition of the student’s attendance or enrollment.
- Any educational expenses paid with tax-free educational assistance such as Pell grants, Veteran’s educational assistance, employer paid educational assistance, tax-free scholarships and fellowships
- Any of the same fees used for another tax deduction, educational benefit or credit
- Computers and other electronic devices unless the educational institution requires it
Claiming the credit on your tax return
To claim the American Opportunity tax credit, fill out Form 8863 to calculate the tax credit amount and submit it with Form 1040 or Form 1040A.
Only one opportunity credit is available per eligible student per each tax year. If you have two eligible students, you can only claim one student per year.
To claim the American Opportunity Tax Credit, you must have an active taxpayer identification number (TIN) for you, your spouse (if filing jointly), and the student (if you’re a parent and claiming for your eligible child). Apply for the required TIN before the filing date, because you may not claim the credit on an amended return or late original return. A TIN is either: a Social Security number, an adoption taxpayer identification number (ATIN) or an individual taxpayer identification number (ITIN).
Incorrectly claiming the American Opportunity Tax Credit
Ensuring that you are qualified for the credit is the first step to filing. Keep copies of any relevant documents used to figure out if you qualify and ones used to determine the amount of your credit.
You are required to pay back any amount, plus interest if you receive an incorrect credit and cannot prove you qualified. The IRS may also charge you for fraud and/or ban you from applying future claims anywhere from 2-10 years. However, in order to receive this penalty, one must wilfully disregard the rules, and not made a simple mistake.
Usually, a student will receive Form 1098-T Tuition Statement from an educational institution by January 31 of each year. The amount billed or received is listed in box 1 or 2 and will help compute your credit. Look for qualified education expenses on the form to determine the specific amount to claim. Contact the school if the form is incorrect or you did not receive one.
Comparing American Opportunity Tax Credit vs. Lifetime Learning Credit
With the American Opportunity Tax Credit, you may be able to get up to 40 percent or $1,000 of it refunded to you if your tax liability is zero. It can also assist in offsetting the self-employment tax or the alternative minimum tax.
The Lifetime Learning Credit is a non-refundable credit. However, unlike the AOTC, the Lifetime Learning Credit can include graduate programs or undergraduate education beyond four years. It is also accessible for any course-load a student is taking. However, the Lifetime Learning Credit is limited only to tuition. It also can aid in up to $4000 per student per year. The Lifetime Learning Credit is a little more lenient and does not require the student to obtain a degree, be enrolled at least half-time, or have a limit on the number of years to claim the credit.
Student loans are the most popular way for students to pay for college. It is important to compare multiple student loans for the American Opportunity Tax Credit eligibility requirements. Ask an Expert if you have any questions regarding the American Opportunity Tax Credit or other tax incentives for paying for post-secondary education.