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Obama's $2500 College Education Tax Credit Explained by Jordan at Investing Blog

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As part of the 2009 economic stimulus package passed by Congress and signed by Barack Obama, the American Opportunity Tax Credit was expanded to include more families with a higher income adjustment, and provide for as much as $2,500 against expenditures incurred from a college education.

Who Qualifies?

The new American Opportunity Tax Credit is essentially an expansion of the previous Hope college credit, which allowed students from low income families to receive a partially-refundable tax credit against their college expenses.

To qualify for the credit, married couples filing jointly must have modified adjusted gross income of no more than $160,000, while single parents may have as much as $80,000. These limits were previously $96,000 for married couples and $48,000 for singles. College students can also file for this tax credit on their own, however since the credit is only partially-refundable, parents with greater tax burdens may see better returns than their children.

In order to claim the college tax credit, students must be enrolled at least half-time or part time, with a minimum of 6 hours in each semester. This credit, unlike the one before it, is good for all four years of undergraduate study, compared to two years for the original “Hope” credit.

What it Covers

The college tax credit covers what the IRS calls “eligible expenses.” Eligible expenses includes practically everything necessary for enrollment, from tuition to student activity fees, books, but not things like meal plans or housing.

This college tuition tax credit covers all eligible expenses of up to $2,000 at 100%. The next $2,000 in expenses, however, are credited at 25%. That is, a student who spends $4,000 is eligible for a tax credit of up to $2,500. ($2000+ ¼ of $2000 = $2,500).

The education tax credit is refundable up to $1,000. Thus, someone who incurs $5,000 in college expenses would be eligible for up to $2,500, but if they were to pay only $200 in federal taxes, he or she would receive only $1,200 ($1000 refundable plus $200 of taxes returned). If someone were to spend $4,000 on college expenses and pay $3000 in Federal taxes, they would receive the full tax credit of $2,500 ($1000 refundable + $1,500 returned from their $3,000 in taxes paid).

IMPORTANT NOTE

The American Opportunity Tax Credit does have one very important exclusion. College expenses paid with a 529 state college plan, 529 prepaid college plan or a Coverdell Education Savings Account are not tax deductible.

I imagine this is designed to keep people from opening new college savings accounts with pre-tax savings then going to college for the purpose of removing their pre-tax money without taxation.

This tax credit should be renewed as part of the current Bush tax cut discussion happening in Washington DC. Under the current proposal, all tax credits from the 2009 economic stimulus package would be renewed for the next two years, from 2010-2012 tax years.

About Jordan

Jordan is the web master of www.investingblog.org, a site dedicated to skillful investing, news and recent trends. You can read the original article here.

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