To help make paying for college more affordable, take advantage of the various federal tax breaks geared toward helping families save money on college.
These programs include the following:
Qualified Tuition Programs (529 plans): A 529 plan is a tax-advantaged savings plan designed to encourage saving for future college costs. Earnings can be used for qualified post-secondary education costs.
Coverdell Education Savings Accounts (ESA): Earnings grow tax-deferred and distributions are tax-free when used for qualified post-secondary education costs. The total contributions for the beneficiary of this account cannot be more than $2,000 in any year, no matter how many accounts have been established.
U.S. Savings Bonds: Both EE and I bonds purchased after 1989 by someone at least 24 years old may be redeemed tax-free when the bond owner, the bond owner's spouse or dependent pays for college tuition and fees. In 2007, the tax exclusion is phased out for incomes between $65,600 and $80,600 (between $98,400 and $128,400 for married taxpayers filing jointly). These income limits may increase each year.
Individual Retirement Accounts (IRA): Any early withdrawal penalties can be waived when both Roth IRAs and traditional IRAs are used to pay for qualified post-secondary education costs for yourself, your spouse, your children or your grandchildren. You may still be required to pay for some taxes.
Hope Scholarship Credit: This tax credit is subtracted directly from the tax a family owes, instead of being subtracted from taxable income like a tax deduction. A parent may claim this tax credit for 100 percent of the first $1,100 and 50 percent of the next $1,100 of a dependent child's college tuition and mandatory fees for a maximum $1,650 annual tax credit per child. Students may also claim the credit if they are not claimed as a dependent on another person's tax return. In 2007, the credit is phased out for incomes between $47,000 and $57,000 or between $94,000 and $114,000 for married taxpayers filing jointly. The credit is allowed only for students who are attending a degree program at least half-time and who have not completed their first two years of academic study before the beginning of the taxable year. It cannot be claimed in more than two tax years for any one student.
Lifetime Learning Credit: This credit allows you to claim a tax credit for 20 percent of up to $10,000 in combined tuition and mandatory fees for yourself, your spouse and any dependent children. This amount equates to up to $2,000 tax credit. In 2007, the credit is phased out for incomes between $47,000 and $57,000 or between $94,000 and $114,000 for married taxpayers filing jointly. You cannot claim both the Hope Credit and the Lifetime Learning Credit at the same time.
Tuition and Fees: You can deduct tuition and fees up to $4,000 for yourself, your spouse or dependant in 2007 if your income is $65,000 or less or $130,000 or less if you are married filing jointly. For taxpayers with incomes between $65,000 and $80,000 or between $130,001 and $160,000 for married taxpayers filing jointly, the deduction limit is $2,000. The deduction is not available if anyone claims a Hope or Lifetime Learning credit for that student's expenses in the same tax year.
Deduction for Student-loan Interest: Once you begin to pay back your student loan you can deduct up to $2,500 in student loan interest. For 2007, the deduction is phased out for income between $55,000 and $70,000 or between $110,000 and $140,000 for married taxpayers filing jointly.
Tax-free Scholarships: Most scholarships or grants are tax-free if you do not have to provide a service for them.
Tax-free Educational Assistance: Your employer may pay and deduct up to $5,250 in college and graduate school costs for each employee under a Section 127 educational assistance plan. This education does not have to be job-related. The benefit is tax-free to the employee, but cannot be used to pay for an employee's children or other family members.