97025221VTax Benefits for EducationWhat's New2Reminders2Introduction21. Scholarships, Fellowships, Grants, and Tuition Reductions5Scholarships and Fellowships5Other Types of Educational Assistance72. Hope Credit9Can You Claim the Credit9What Expenses Qualify10Who Is an Eligible Student12Who Can Claim a Dependent's Expenses12Figuring the Credit14Claiming the Credit16When Must the Credit Be Repaid (Recaptured)16Illustrated Example163. Lifetime Learning Credit18Can You Claim the Credit18What Expenses Qualify19Who Is an Eligible Student20Who Can Claim a Dependent's Expenses22Figuring the Credit22Claiming the Credit23When Must the Credit Be Repaid (Recaptured)23Illustrated Example234. Student Loan Interest Deduction25Student Loan Interest Defined25Can You Claim the Deduction28Who Can Claim a Dependent's Expenses28Figuring the Deduction29Claiming the Deduction305. Student Loan Cancellations and Repayment Assistance31Student Loan Cancellation31Student Loan Repayment Assistance316. Tuition and Fees Deduction33Can You Claim the Deduction33What Expenses Qualify34Who Is an Eligible Student35Who Can Claim a Dependent's Expenses36Figuring the Deduction36Claiming the Deduction37When Must the Deduction Be Repaid (Recaptured)377. Coverdell Education Savings Account (ESA)39What Is a Coverdell ESA39Contributions40Rollovers and Other Transfers43Distributions438. Qualified Tuition Program (QTP)49What Is a Qualified Tuition Program49How Much Can You Contribute49Are Distributions Taxable49Rollovers and Other Transfers519. Education Exception to Additional Tax on Early IRA Distributions53Who Is Eligible53Figuring the Amount Not Subject to the 10% Tax53Reporting Early Distributions5410. Education Savings Bond Program55Who Can Cash In Bonds Tax Free55Figuring the Tax-Free Amount56Claiming the Exclusion56Illustrated Example5611. Employer-Provided Educational Assistance5812. Business Deduction for Work-Related Education59Qualifying Work-Related Education59What Expenses Can Be Deducted62How To Treat Reimbursements64Deducting Business Expenses65Recordkeeping66Illustrated Example6613. How To Get Tax Help68Appendices70Appendix A—Illustrated Example70Appendix B—Highlights of Tax Benefits72Glossary74Index77What's NewKatrina Emergency Tax Relief Act of 2005.
This Act provides tax relief for persons affected by Hurricane Katrina. Under the Act, you may be able to claim an education credit, a student
loan interest deduction, and/or a tuition and fees deduction. See Publication 4492.
Hope and lifetime learning credits.Hope creditLifetime learning credit
Beginning in 2005, the amount of your Hope or lifetime learning credit is gradually reduced (phased out) if your modified adjusted gross income
(MAGI) is between $43,000 and $53,000 ($87,000 and $107,000 if you file a joint return). You cannot claim a credit if your MAGI is $53,000 or more
($107,000 or more if you file a joint return). This is an increase from the 2004 limits of $42,000 and $52,000 ($85,000 and $105,000 if filing a joint
return). For more information, see chapters 2 and 3.
Education savings bond program. Bonds, education savingsEducation savings bond programEducation savings bond programSavings bond program, educationEducation savings bond program
Beginning in 2005, the amount of your interest exclusion will be phased out (gradually reduced) if your filing status is married filing jointly or
qualifying widow(er) and your modified adjusted gross income (MAGI) is between $91,850 and $121,850. You cannot take the deduction if your MAGI is
$121,850 or more. For 2004, the limits that applied to you were $89,750 and $119,750.
For all other filing statuses, your interest exclusion is phased out if your MAGI is between $61,200 and $76,200. You cannot take the deduction if
your MAGI is $76,200 or more. For 2004, the limits that applied to you were $59,850 and $74,850. For more information, see chapter 10.
Business deduction for work-related education.Business deduction for work-related educationMileage deduction for work-related educationStandard mileage rate:Work-related education
Beginning in 2005:
If you drive your car to and from school and qualify to deduct transportation expenses, the amount you can deduct for miles driven from
January 1, 2005, through August 31, 2005, is 40 cents per mile. The amount you can deduct for miles driven from September 1, 2005,
through December 31, 2005, is 48 cents per mile. This is up from 37 cents per mile in 2004. See chapter 12 for more
information.
If your adjusted gross income for 2005 is more than $145,950 ($72,975 if you are married filing separately), your itemized deductions may be
limited. See chapter 12 and the instructions for line 28 of Schedule A (Form 1040).
RemindersEstimated tax.Estimated tax
If you have taxable income from any of your education benefits and the payer does not withhold enough income tax, you may need to make estimated
tax payments. For more information, see Publication 505, Tax Withholding and Estimated Tax.
Student loan repayments provided under certain federal and state repayment programs are tax free. See chapter 5 for more information.
Qualified tuition program (QTP).Qualified tuition program (QTP)
A distribution from a QTP established and maintained by an eligible educational institution (generally private colleges and universities) can be
excluded from income if the amount distributed is less than or equal to the beneficiary's adjusted qualified education expenses. See chapter 8 for
more information.
Photographs of missing children.Missing children, photographs of
The Internal Revenue Service is a proud partner with the National Center for Missing and Exploited Children. Photographs of missing children
selected by the Center may appear in this publication on pages that would otherwise be blank. You can help bring these children home by looking at the
photographs and calling 1-800-THE-LOST (1-800-843-5678) if you recognize a child.
This publication explains tax benefits that may be available to you if you are saving for or paying education costs for yourself or, in many cases,
another student who is a member of your immediate family. Most benefits apply only to higher education.
What is in this publication.
Chapter 1 explains the taxability of various types of educational assistance, including scholarships, fellowships, and tuition reductions.
Two tax credits for which you may be eligible are explained in chapters 2 and 3. These benefits, which reduce the amount of your income tax, are:
The Hope credit, and
The lifetime learning credit.
Ten other types of benefits are explained in chapters 4 through 12. With these benefits, you may be able to:
Deduct student loan interest,
Receive tax-free treatment of a canceled student loan,
Establish and contribute to a Coverdell education savings account (ESA), which features tax-free earnings,
Participate in a qualified tuition program (QTP), which features tax-free earnings,
Take early distributions from any type of individual retirement arrangement (IRA) for education costs without paying the 10% additional tax
on early distributions,
Cash in savings bonds for education costs without having to pay tax on the interest,
Receive tax-free educational benefits from your employer, and
Take a business deduction for work-related education.
Note.
You generally cannot claim more than one of the benefits described in the lists above for the same qualifying education expense.
Comparison table.
Some of the features of most of these benefits are highlighted in Appendix B, beginning on page 72 of this publication. This general
comparison table may guide you in determining which benefits you may be eligible for and which chapters you may want to read.
Analyzing your tax withholding.Withholding
After you estimate your education tax benefits for the year, you may be able to reduce the amount of your federal income tax withholding. Also, you
may want to recheck your withholding during the year if your personal or financial situation changes. See Publication 919, How Do I Adjust My Tax
Withholding, for more information.
Glossary.Glossary
In this publication, wherever appropriate, we have tried to use the same or similar terminology when referring to the basic components of each
education benefit. Some of the terms used are:
Qualified education expenses,
Eligible educational institution, and
Modified adjusted gross income.
Even though the same term, such as qualified education expenses, is used to label a basic component of many of the education benefits, the same
expenses are not necessarily allowed for each benefit. For example, the cost of room and board is a qualified education expense for the qualified
tuition program, but not for the education savings bond program.
Many of the terms used in the publication are defined under Glossary near the end of the publication. The glossary is not intended to be
a substitute for reading the chapter on a particular education benefit, but it will give you an overview of how certain terms are used in discussing
the different benefits.
Comments and suggestions.Comments on publicationSuggestions for publication
We welcome your comments about this publication and your suggestions for future editions.
You can write to us at the following address:
Internal Revenue Service
Individual Forms and Publications Branch
SE:W:CAR:MP:T:I
1111 Constitution Ave. NW, IR-6406
Washington, DC 20224
We respond to many letters by telephone. Therefore, it would be helpful if you would include your daytime phone number, including the area code, in
your correspondence.
You can email us at
*taxforms@irs.gov. (The asterisk must be included in the
address.) Please put Publications Comment on the subject line. Although we cannot respond individually to each email, we do appreciate your
feedback and will consider your comments as we revise our tax products.
Tax questions.
If you have a tax question, visit
www.irs.gov or call 1-800-829-1040. We cannot answer tax questions at either
of the addresses listed above.
Ordering forms and publications.
Visit
www.irs.gov/formspubs to download forms and publications, call 1-800-829-3676, or write to the National Distribution Center at the
address shown under How To Get Tax Help in the back of this publication.
Publication463Travel, Entertainment, Gift, and Car Expenses525Taxable and Nontaxable Income550Investment Income and Expenses553Highlights of 2005 Tax Changes590Individual Retirement Arrangements (IRAs)Form (and Instructions)U.S. Individual Income Tax ReturnU.S. Individual Income Tax ReturnIncome Tax Return for Single and Joint Filers With No DependentsEmployee Business ExpensesUnreimbursed Employee Business ExpensesAdditional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored AccountsExclusion of Interest From Series EE and I U.S. Savings Bonds Issued After 1989Education Credits (Hope and Lifetime Learning Credits)Itemized Deductions
See chapter 13, How To Get Tax Help, for information about getting these publications and forms.
Scholarships, Fellowships, Grants, and Tuition ReductionsReminderIndividual retirement arrangements (IRAs).
You can set up and make contributions to an IRA if you receive taxable compensation. Under this rule, a taxable scholarship or fellowship is
compensation only if it is shown in box 1 of Form W-2, Wage and Tax Statement. For more information about IRAs, see Publication 590.
This chapter discusses the taxability of various types of educational assistance you may receive if you are studying, teaching, or researching in
the United States. The educational assistance can be for a primary or secondary school, a college or university, or a vocational school. Included in
the discussion are:
Scholarships,
Fellowships,
Need-based education grants, such as a Pell Grant, and
Qualified tuition reductions.
Many of these amounts are tax free if they meet the requirements discussed here.
Special rules apply to U.S. citizens and resident aliens who have received scholarships or fellowships for studying, teaching, or researching
abroad. For information about these rules, see Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
Scholarships and Fellowships
Worksheets:Scholarships and fellowships, taxable income (Worksheet 1-1)Scholarships and fellowships:Figuring tax-free and taxable parts (Worksheet 1-1)FellowshipsScholarships and fellowshipsFinancial aidScholarships and fellowshipsScholarships and fellowshipsScholarships and fellowships:Scholarship, definedA scholarship is generally an amount paid or allowed to, or for the benefit of, a student at an
educational institution to aid in the pursuit of studies. The student may be either an undergraduate or a graduate.
Scholarships and fellowships:Fellowship, definedA fellowship is generally an amount paid for the benefit of an individual to aid in the pursuit of study
or research.
Table 1-1
provides an overview of the tax treatment of amounts received as a scholarship or fellowship
(other than amounts received as payment for services). Generally, taxability depends on the expense paid with the amount and whether you are a degree
candidate.
Table 1-1.Taxability of Scholarship and Fellowship Payments
1
Do not rely on this table alone. Refer to the text for complete details.
AND you are...THEN your payment is...IF you use the payment for...A degree
candidateNot a
degree
candidateTax free
2TaxableTuitionXXXXFeesXX
3XXBooksXX
3XXSuppliesXX
3XXEquipmentXX
3XXRoomXXXXBoardXXXXTravelXXXX
1 Does not include payments received for past, present, or future services.2 Payments used for any expenses indicated in this column are tax free only if the
terms of the scholarship or fellowship do not prohibit the expense.3 If required of all students in the course.
Tax-Free Scholarships and FellowshipsTables and figures:Scholarships and fellowships, taxability of (Table 1-1)Scholarships and fellowships:Tax treatment of (Table 1-1)Scholarships and fellowships:Tax-free
A scholarship or fellowship is tax free only if:
You are a candidate for a degree at an eligible educational institution, and
You use the scholarship or fellowship to pay qualified education expenses.
Candidate for a degree.Candidate for a degree:Scholarships and fellowships
You are a candidate for a degree if you:
Attend a primary or secondary school or are pursuing a degree at a college or university, or
Attend an accredited educational institution that is authorized to provide:
A program that is acceptable for full credit toward a bachelor's or higher degree, or
A program of training to prepare students for gainful employment in a recognized occupation.
Eligible educational institution.Eligible educational institution:Scholarships and fellowshipsScholarships and fellowships:Eligible educational institution
An eligible educational institution is one that maintains a regular faculty and curriculum and normally has a regularly enrolled body of students
in attendance at the place where it carries on its educational activities.
Qualified education expenses.Qualified education expenses:Scholarships and fellowshipsScholarships and fellowships:Qualified education expenses
For purposes of tax-free scholarships and fellowships, these are expenses for:
Tuition and fees required to enroll at or attend an eligible educational institution, and
Course-related expenses, such as fees, books, supplies, and equipment that are required for the courses at the eligible educational
institution. These items must be required of all students in your course of instruction.
However, in order for these to be qualified education expenses, the terms of the scholarship or fellowship cannot require that it be used for
other purposes, such as room and board, or specify that it cannot be used for tuition or course-related expenses.
Qualified education expenses:Scholarships and fellowshipsScholarships and fellowships:Qualified education expensesExpenses that do not qualify.
Qualified education expenses do not include the cost of:
Room and board,
Travel,
Research,
Clerical help, or
Equipment and other expenses that are not required for enrollment in or attendance at an eligible educational institution.
This is true even if the fee must be paid to the institution as a condition of enrollment or attendance. Scholarship or fellowship amounts used
to pay these costs are taxable.
You can use Worksheet 1-1 to figure the tax-free and taxable parts of your scholarship or fellowship.
Worksheet 1-1. Taxable Scholarship and Fellowship Income
1.Enter your scholarship or fellowship income for 20051.
If you are a degree candidate at an eligible educational institution, go to line 2.
If you are not a degree candidate at an eligible educational institution, stop here. The entire amount is
taxable. For information on how to report this amount on your tax return, see Reporting Scholarships and
Fellowships.
2.Enter the amount from line 1 that was for teaching, research, or any other services. (Do not include
amounts received for these items under the National Health Service Corps Scholarship Program or the Armed Forces Health Professions Scholarship and
Financial Assistance Program.)2.3.Subtract line 2 from line 13.4.Enter the amount from line 3 that your scholarship or fellowship required you to use for
other than qualified education expenses4.5.Subtract line 4 from line 35.6.Enter the amount from line 5 that was used for qualified education expenses required for study at an
eligible educational institution. This amount is the tax-free part of your scholarship or fellowship income*6.7.Subtract line 6 from line 57.8.Taxable part. Add lines 2, 4, and 7. See Reporting Scholarships and
Fellowships for how to report this amount on your tax return8.
* If you qualify for other education benefits (see chapters 2 through 12), you may have to reduce the amount of education expenses qualifying
for a specific
benefit by the tax-free amount on this line.
Athletic ScholarshipsAthletic scholarshipsScholarships and fellowships:Athletic scholarships
An athletic scholarship is tax free if it meets the requirements discussed above.
Taxable Scholarships and FellowshipsScholarships and fellowships:TaxableTaxable scholarships and fellowships
If your scholarship or fellowship does not meet the requirements described earlier, it is taxable. The following amounts received may be taxable.
Amounts used to pay expenses that do not qualify.
Payments for services.
Scholarship prizes.
Each type is discussed below.
Amounts used to pay expenses that do not qualify.
A scholarship amount used to pay any expense that does not qualify is taxable, even if the expense is a fee that must be paid to the institution as
a condition of enrollment or attendance.
Payment for services.
Generally, you must include in income the part of any scholarship, fellowship, or tuition reduction that represents payment for past, present, or
future teaching, research, or other services. This applies even if all candidates for a degree must perform the services to receive the degree.
Exceptions.
You do not have to include in income the part of any scholarship or fellowship that represents payment for teaching, research, or other services if
you receive the amount under:
The National Health Service Corps Scholarship Program, or
National Health Service Corps Scholarship Program
The Armed Forces Health Professions Scholarship and Financial Assistance Program,
Armed Forces Health Professions Scholarship and Financial Assistance Programand you:
Are a candidate for a degree at an eligible educational institution, and
Use that part of the scholarship or fellowship to pay qualified education expenses.
Example 1.
You received a scholarship of $2,500. The scholarship was not received under either of the exceptions mentioned above. As a condition for receiving
the scholarship, you must serve as a part-time teaching assistant. Of the $2,500 scholarship, $1,000 represents payment for teaching. The provider of
your scholarship gives you a Form W-2 showing $1,000 as income. You used all the money for qualified education expenses. Assuming that all other
conditions are met, $1,500 of your scholarship is tax free. The $1,000 you received for teaching is taxable.
Example 2.
You are a candidate for a degree at a medical school. You receive a scholarship (not under either of the exceptions mentioned above) for your
medical education and training. The terms of your scholarship require you to perform future services. A substantial penalty applies if you do not
comply. The entire amount of your grant is taxable as payment for services in the year it is received.
Scholarship prizes.Prizes:Scholarships won asScholarships and fellowships:Prize, scholarship won as
If you win a scholarship as a prize in a contest, the scholarship is fully taxable unless you meet the requirements discussed earlier under
Tax-Free Scholarships and Fellowships.
Taxable scholarships and fellowshipsReporting Scholarships and FellowshipsReporting:Scholarships and fellowships, taxableScholarships and fellowships:Reporting
Whether you must report your scholarship or fellowship depends on whether you must file a return and whether any part of your scholarship or
fellowship is taxable.
If your only income is a completely tax-free scholarship or fellowship, you do not have to file a tax return and no reporting is necessary. If all
or part of your scholarship or fellowship is taxable and you are required to file a tax return, report the taxable amount as explained below. You must
report the taxable amount whether or not you received a Form W-2. If you receive an incorrect Form W-2, ask the payer for a corrected one.
For information on whether you must file a return, see Publication 501, Exemptions, Standard Deduction, and Filing Information, or your income tax
form instructions.
How To Report
How you report any taxable scholarship or fellowship income depends on which return you file.
Form 1040EZ.
If you file Form 1040EZ, report the taxable amount on line 1. If the taxable amount was not reported on Form W-2, enter SCH and the taxable
amount in the space to the left of line 1.
Form 1040A.
If you file Form 1040A, report the taxable amount on line 7. If the taxable amount was not reported on Form W-2, enter SCH and the taxable
amount in the space to the left of line 7.
Form 1040.
If you file Form 1040, report the taxable amount on line 7. If the taxable amount was not reported on Form W-2, enter SCH and the taxable
amount on the dotted line next to line 7.
Schedule SE (Form 1040).
Amounts you receive under a scholarship as pay for your services as an independent contractor are included in determining net earnings from
self-employment. If your net earnings are $400 or more, you will have to pay self-employment tax. Use Schedule SE, Self-Employment Tax, to figure this
tax.
Scholarships and fellowshipsFor more information in determining whether you are an independent contractor or an
employee, get Publication 15-A, Employer's Supplemental Tax Guide.
Other Types of
Educational Assistance
The following discussions deal with common types of educational assistance other than scholarships and fellowships.
Fulbright GrantsFulbright grantsGrants:Fulbright
A Fulbright grant is generally treated as a scholarship or fellowship in figuring how much of the grant is tax free. Only the taxable amount must
be reported. See Reporting Scholarships and Fellowships earlier in this chapter.
Pell Grants and Other Title IV Need-Based Education GrantsGrants:PellGrants:Title IV need-based educationPell grantsTitle IV need-based education grants
These need-based grants are treated as scholarships for purposes of figuring their taxability. They are tax free to the extent used for qualified
education expenses during the period for which a grant is awarded. Only the taxable amount must be reported. See Reporting Scholarships and
Fellowships earlier in this chapter.
Payment to Service Academy CadetsMilitary academy cadetsService academy cadets
An appointment to a United States military academy is not a scholarship or fellowship. Payment you receive as a cadet or midshipman at an armed
services academy is pay for personal services and will be reported to you in box 1 of Form W-2. Include this pay in your income in the year you
receive it unless one of the exceptions, discussed earlier under Payment for services, applies.
Veterans' BenefitsVeterans' benefits
Payments you receive for education, training, or subsistence under any law administered by the Department of Veterans Affairs (VA) are tax free. Do
not include these payments as income on your federal tax return.
If you qualify for one or more of the education benefits discussed in chapters 2 through 12, you may have to reduce the amount of education
expenses qualifying for a specific benefit by part or all of your VA payments. This applies only to the part of your VA payments that is required to
be used for education expenses.
The term qualified tuition reduction means a tax-free reduction in tuition provided by an eligible educational institution. Whether a
tuition reduction is a qualified tuition reduction, and therefore tax free, depends on whether it is for education below or at the graduate level. The
qualified tuition reduction must not represent payment for services.
Education below the graduate level.
Qualified tuition reductions for education below the graduate level (including primary and secondary school) are tax free if provided to the
following individuals who are treated as employees.
A current employee of the eligible educational institution.
A former employee who retired or left on disability.
A widow or widower of an individual who died while an employee.
A widow or widower of a former employee who retired or left on disability.
A dependent child or spouse of any person listed in (1) through (4), above.
Child of deceased parents.
For purposes of the qualified tuition reduction, a child is a dependent child if the child is under age 25 and both parents have died.
Child of divorced parents.
For purposes of the qualified tuition reduction, a dependent child of divorced parents is treated as the dependent of both parents.
Officers, owners, and highly compensated employees.
Qualified tuition reductions apply to officers, owners, or highly compensated employees only if benefits are available to employees on a
nondiscriminatory basis. This means that the tuition reduction benefits must be available on substantially the same basis to each member of a group of
employees. The group must be defined under a reasonable classification set up by the employer. The classification must not discriminate in favor of
owners, officers, or highly compensated employees.
Tuition reductions for graduate education are considered qualified and are tax free if they are provided by an eligible educational
institution to a graduate student who performs teaching or research activities for that institution. All other tuition reductions for graduate
education are taxable.
How to report.Reporting:Tuition reduction, taxable
Any tuition reduction that is taxable should be included as wages in box 1 of the employee's Form W-2. Report the amount in box 1 on line 7 (Form
1040 or Form 1040A) or line 1 (Form 1040EZ).
The amount of your Hope credit for 2005 is gradually reduced (phased out) if your modified adjusted gross income (MAGI) is between $43,000 and
$53,000 ($87,000 and $107,000 if you file a joint return). You cannot claim a credit if your MAGI is $53,000 or more ($107,000 or more if you file a
joint return). This is an increase from the 2004 limits of $42,000 and $52,000 ($85,000 and $105,000 if filing a joint return). See Effect of the
Amount of Your Income on the Amount of Your Credit, later, for more information.
There are two tax credits available to help you offset the costs of higher education by reducing the amount of your income tax. They are the Hope
credit and the lifetime learning credit, also referred to as education credits. This chapter discusses the Hope credit. The lifetime learning credit
is discussed in chapter 3.
This chapter explains:
Who can claim the Hope credit,
What expenses qualify for the credit,
Who is an eligible student,
Who can claim a dependent's expenses,
How to figure the credit,
How to claim the credit, and
When the credit must be repaid.
What is the tax benefit of the Hope credit.Hope credit:Tax benefit of
You may be able to claim a Hope credit of up to $1,500 for qualified education expenses paid for each eligible student.
A tax credit reduces the amount of income tax you may have to pay. Unlike a deduction, which reduces the amount of income subject to tax, a credit
directly reduces the tax itself. The Hope credit is a nonrefundable credit. This means that it can reduce your tax to zero, but if the credit is more
than your tax the excess will not be refunded to you.
The Hope credit you are allowed may be limited by the amount of your income and the amount of your tax.
You may be able to take a tuition and fees deduction for your education expenses instead of a Hope credit. You can choose the one that will give
you the lower tax. See chapter 6 for details about the deduction.
Can you claim both education credits this year.
For each student, you can elect for any year only one of the credits. For example, if you elect to take the Hope credit for a child on your 2005
tax return, you cannot, for that same child, also claim the lifetime learning credit for 2005.
If you are eligible to claim the Hope credit and you are also eligible to claim the lifetime learning credit for the same student in the same year,
you can choose to claim either credit, but not both. For 2005, if the total qualified education expenses for a student are less than $7,500, it will
generally be to your benefit to claim the Hope credit.
If you pay qualified education expenses for more than one student in the same year, you can choose to take credits on a per-student, per-year
basis. This means that, for example, you can claim the Hope credit for one student and the lifetime learning credit for another student in the same
year.
Differences between the Hope and lifetime learning credits.Hope credit:Differences from lifetime learning credit
There are several differences between these two credits. For example, you can claim the Hope credit based on the same student's expenses for no
more than 2 years. However, there is no limit on the number of years for which you can claim a lifetime learning credit based on the same student's
expenses. The differences between the two credits are summarized in Table 2-1.
Table 2-1. Comparison of Education Credits
Hope CreditLifetime Learning CreditUp to $1,500 credit per eligible studentUp to $2,000 credit per returnAvailable ONLY until the first 2 years of post-
secondary education are completed Available for all years of postsecondary education and for courses to acquire or improve job skills Available ONLY for 2 years per eligible student Available for an unlimited number of years Student must be pursuing an undergraduate degree or other recognized education credential Student does not need to be pursuing a degree or other recognized education credential Student must be enrolled at least half time for at least one academic period beginning during the year Available for one or more courses No felony drug conviction on student's record Felony drug conviction rule does not apply
Hope credit:Differences from lifetime learning credit:Comparison table (Table 2-1)Tables and figures:Education credits, comparison of (Tables 2-1 & 3-1)Tables and figures:Hope credit:Comparing education credits (Table 2-1)
Can You Claim the Credit
Hope credit:Claiming the creditThe following rules will help you determine if you are eligible to claim the Hope credit on your tax
return.
Who Can Claim the Credit
Generally, you can claim the Hope credit if all three of the following requirements are met.
You pay qualified education expenses of higher education.
You pay the education expenses for an eligible student.
The eligible student is either yourself, your spouse, or a dependent for whom you claim an exemption on your tax return.
Note.
Qualified education expenses paid by a dependent for whom you claim an exemption, or by a third party for that dependent, are considered paid by
you.
Qualified education expenses are defined later under What Expenses Qualify. Eligible students are defined later under
Who Is an Eligible Student. A dependent for whom you claim an exemption is defined later under Who Can Claim a Dependent's
Expenses.
You may find Figure 2-2,
later in this chapter, helpful in determining if you can claim a
Hope credit on your tax return.
Who Cannot Claim the Credit
You cannot claim the Hope credit for 2005 if any of the following apply.
Your filing status is married filing separately.
You are listed as a dependent in the Exemptions section on another person's tax return (such as your parents'). See Who Can
Claim a Dependent's Expenses, later.
Your modified adjusted gross income (MAGI) is $53,000 or more ($107,000 or more in the case of a joint return). MAGI is explained later
under Effect of the Amount of Your Income on the Amount of Your Credit.
You (or your spouse) were a nonresident alien for any part of 2005 and the nonresident alien did not elect to be treated as a resident alien
for tax purposes. More information on nonresident aliens can be found in Publication 519, U.S. Tax Guide for Aliens.
You claim the lifetime learning credit or a tuition and fees deduction for the same student in 2005.
What Expenses Qualify
Hope credit:Expenses qualifying forThe Hope credit is based on qualified education expenses you pay for yourself, your spouse, or a
dependent for whom you claim an exemption on your tax return. Generally, the credit is allowed for qualified education expenses paid in 2005 for an
academic period beginning in 2005 or in the first 3 months of 2006.
For example, if you paid $1,500 in December 2005 for qualified tuition for the Spring 2006 semester beginning in January 2006, you may be able to
use that $1,500 in figuring your 2005 credit.
Academic period.Academic period:Hope creditHope credit:Academic period
An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by
an educational institution. In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each
payment period can be treated as an academic period.
Paid with borrowed funds.Loans:Qualified education expenses paid with:Hope credit
You can claim a Hope credit for qualified education expenses paid with the proceeds of a loan. You use the expenses to figure the Hope credit for
the year in which the expenses are paid, not the year in which the loan is repaid. Treat loan payments sent directly to the educational institution as
paid on the date the institution credits the student's account.
Student withdraws from class(es).
You can claim a Hope credit for qualified education expenses not refunded when a student withdraws.
For purposes of the Hope credit, qualified education expenses are tuition and certain related expenses required for enrollment or attendance at an
eligible educational institution.
An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to
participate in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and
proprietary (privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible
educational institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
Related expenses.
Student-activity fees and expenses for course-related books, supplies, and equipment are included in qualified education expenses only if the fees
and expenses must be paid to the institution as a condition of enrollment or attendance.
In the following examples, assume that each student is an eligible student at an eligible educational institution.
Example 1.
Jackson is a sophomore in University V's degree program in dentistry. This year, in addition to tuition, he is required to pay a fee to the
university for the rental of the dental equipment he will use in this program. Because the equipment rental fee must be paid to University V for
enrollment and attendance, Jackson's equipment rental fee is a qualified expense.
Example 2.
Donna and Charles, both first-year students at College W, are required to have certain books and other reading materials to use in their mandatory
first-year classes. The college has no policy about how students should obtain these materials, but any student who purchases them from College W's
bookstore will receive a bill directly from the college. Charles bought his books from a friend, so what he paid for them is not a qualified education
expense. Donna bought hers at College W's bookstore. Although Donna paid College W directly for her first-year books and materials, her payment is not
a qualified expense because the books and materials are not required to be purchased from College W for enrollment or attendance at the institution.
Example 3.
When Marci enrolled at College X for her freshman year, she had to pay a separate student activity fee in addition to her tuition. This activity
fee is required of all students, and is used solely to fund on-campus organizations and activities run by students, such as the student newspaper and
the student government. No portion of the fee covers personal expenses. Although labeled as a student activity fee, the fee is required for Marci's
enrollment and attendance at College X. Therefore, it is a qualified expense.
No Double Benefit AllowedDouble benefit not allowed:Hope credit
You cannot do any of the following.
Deduct higher education expenses on your income tax return (as, for example, a business expense) and also claim a Hope credit based on those
same expenses.
Claim a Hope credit in the same year that you are claiming a tuition and fees deduction for the same student.
Claim a Hope credit and a lifetime learning credit based on the same qualified education expenses.
Claim a Hope credit based on the same expenses used to figure the tax-free portion of a distribution from a Coverdell education savings
account (ESA) or qualified tuition program (QTP). See Coordination With Hope and Lifetime Learning Credits in chapter 7 (Coverdell ESA) and
chapter 8 (QTP).
Claim a credit based on qualified education expenses paid with a tax-free scholarship, grant, or employer-provided educational assistance.
See Adjustments to Qualified Education Expenses, next.
Adjustments to Qualified Education ExpensesQualified education expenses:Adjustments to:Hope creditHope credit:Adjustments to qualified education expenses
If you pay qualified education expenses with certain tax-free funds, you cannot claim a credit for those amounts. You must reduce the qualified
education expenses by the amount of any tax-free educational assistance and refund(s) you received.
The tax-free parts of scholarships and fellowships (see chapter 1),
Pell grants (see chapter 1),
Employer-provided educational assistance (see chapter 11),
Veterans' educational assistance (see chapter 1), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Refunds.Refunds:Hope creditHope credit:Refunds
Qualified education expenses do not include expenses for which you, or someone else who paid qualified education expenses on behalf of a student,
receive a refund. (For information on expenses paid by a dependent student or third party, see Who Can Claim a Dependent's Expenses, later
in this chapter.)
If a refund of expenses paid in 2005 is received before you file your tax return for 2005, simply reduce the amount of the expenses paid by the
amount of the refund received. If the refund is received after you file your 2005 tax return, see When Must the Credit Be Repaid
(Recaptured), later.
You are considered to receive a refund of expenses when an eligible educational institution refunds loan proceeds to the lender on behalf of the
borrower. Depending on when you are considered to receive the refund, follow the above instructions or see When Must the Credit Be Repaid
(Recaptured), later.
Amounts that do not reduce qualified education expenses.
Do not reduce qualified education expenses by amounts paid with funds the student receives as:
Payment for services, such as wages,
A loan,
A gift,
An inheritance, or
A withdrawal from the student's personal savings.
Do not reduce the qualified education expenses by any scholarship or fellowship reported as income on the student's tax return in the following
situations.
The use of the money is restricted to costs of attendance (such as room and board) other than qualified education expenses.
The use of the money is not restricted and is used to pay education expenses that are not qualified (such as room and board).
Example 1.
In 2005, Jackie paid $3,000 for tuition and $5,000 for room and board at University X. The university did not require her to pay any fees in
addition to her tuition in order to enroll in or attend classes. To help pay these costs, she was awarded a $2,000 scholarship and a $4,000 student
loan.
The terms of the scholarship state that it may be used to pay any of Jackie's college expenses. Because she applied it toward her tuition, the
scholarship is tax free. Therefore, for purposes of figuring an education credit (either Hope or lifetime learning), she must first use the $2,000
scholarship to reduce her tuition (her only qualified education expense). The student loan is not tax-free educational assistance, so she does not use
it to reduce her qualified expenses. Jackie is treated as having paid $1,000 in qualified education expenses ($3,000 tuition – $2,000
scholarship) in 2005.
Example 2.
Qualified education expenses:Adjustments to:Hope creditThe facts are the same as in Example 1, except that Jackie uses the $2,000 scholarship to pay
room and board, and, therefore, reports her entire scholarship as income on her tax return. In this case, the scholarship is allocated to expenses
other than qualified education expenses. Jackie is treated as paying the entire $3,000 tuition with other funds and can figure her education credit on
the entire $3,000.
Hope credit:Expenses qualifying forQualified education expenses:Hope creditExpenses That Do Not QualifyExpensesspecific benefit
Qualified education expenses:Expenses not qualified:Hope creditQualified education expenses do not include amounts paid for:
Insurance,
Medical expenses (including student health fees),
Room and board,
Transportation, or
Similar personal, living, or family expenses.
This is true even if the amount must be paid to the institution as a condition of enrollment or attendance.
Sports, games, hobbies, and noncredit courses.Sports, games, hobbies, and noncredit courses:Hope credit
Qualified education expenses generally do not include expenses that relate to any course of instruction or other education that involves sports,
games or hobbies, or any noncredit course. However, if the course of instruction or other education is part of the student's degree program, these
expenses can qualify.
Comprehensive or bundled fees.Comprehensive or bundled fees:Hope credit
Some eligible educational institutions combine all of their fees for an academic period into one amount. If you do not receive or do not have
access to an allocation showing how much you paid for qualified education expenses and how much you paid for personal expenses, such as those listed
above, contact the institution. The institution is required to make this allocation and provide you with the amount you paid (or were billed) for
qualified education expenses on Form 1098-T, Tuition Statement. See Figuring the Credit, later, for more information about Form 1098-T.
Qualified education expenses:Expenses not qualified:Hope creditWho Is an Eligible Student
Eligible student:Hope creditHope credit:Eligible studentTo claim the Hope credit, the student for whom you pay qualified education expenses must be an eligible
student. This is a student who meets all of the following requirements.
The student did not have expenses that were used to figure a Hope credit in any 2 earlier tax years.
The student had not completed the first 2 years of postsecondary education (generally, the freshman and sophomore years of
college) before 2005.
For at least one academic period beginning in 2005, the student was enrolled at least half-time in a program leading to a degree,
certificate, or other recognized educational credential.
The student was free of any federal or state felony conviction for possessing or distributing a controlled substance as of the end of
2005.
These requirements are also shown in Figure 2-1.
Completion of first 2 years.
A student who was awarded 2 years of academic credit for postsecondary work completed before 2005 has completed the first 2 years of postsecondary
education. This student generally would not be an eligible student for purposes of the Hope credit.
Exception.
Any academic credit awarded solely on the basis of the student's performance on proficiency examinations is disregarded in determining whether the
student has completed 2 years of postsecondary education.
Enrolled at least half-time.Half-time student:Hope credit
A student was enrolled at least half-time if the student was taking at least half the normal full-time work load for his or her course of study.
The standard for what is half of the normal full-time work load is determined by each eligible educational institution. However, the standard may
not be lower than any of those established by the Department of Education under the Higher Education Act of 1965.
Example 1.
Marty graduated from high school in June 2004. In September, he enrolled in an undergraduate degree program at College U, and attended full time
for both the 2004 Fall and 2005 Spring semesters. For the 2005 Fall semester, Marty was enrolled less than half-time. Because Marty was enrolled in an
undergraduate degree program on at least a half-time basis for at least one academic period that began during 2004 and at least one academic period
that began during 2005, he is an eligible student for tax years 2004 and 2005 (including the 2005 Fall semester when he enrolled at College U on less
than a half-time basis).
Example 2.
After taking classes at College V on a half-time basis for the 2004 Spring and Fall semesters, Sharon became a full-time student for the 2005
Spring semester. College V classified Sharon as a second-semester sophomore for the 2005 Spring semester and as a first-semester junior for the 2005
Fall semester. Because College V did not classify Sharon as having completed the first two years of postsecondary education as of the beginning of
2005, Sharon is an eligible student for tax year 2005. Therefore, the qualified education expenses paid for the 2005 Spring semester and the 2005 Fall
semester are taken into account in calculating any Hope credit for 2005.
Example 3.
During the 2004 Fall semester, Luis was a high school student who took classes on a half-time basis at College X. Luis was not enrolled as part of
a degree program at College X because College X only admits students to a degree program if they have a high school diploma or equivalent. Because
Luis was not enrolled in a degree program at College X during 2004, Luis was not an eligible student for tax year 2004.
Example 4.
The facts are the same as in Example 3. During the 2005 Spring semester, Luis again attended College X but not as part of a degree
program. Luis graduated from high school in June 2005. For the 2005 Fall semester, Luis enrolled as a full-time student in College X as part of a
degree program, and College X awarded Luis credit for his prior coursework at College X. Because Luis was enrolled in a degree program at College X
for the 2005 Fall term on at least a half-time basis, Luis is an eligible student for all of tax year 2005. Therefore, the qualified education
expenses paid for classes taken at College X during both the 2005 Spring semester (during which Luis was not enrolled in a degree program) and the
2005 Fall semester are taken into account in computing any Hope credit.
Example 5.
Diana graduated from high school in June 2003. In January 2004, Diana enrolled in a one-year postsecondary certificate program on a full-time basis
to obtain a certificate as a travel agent. Diana completed the program in December 2004, and was awarded a certificate. In January 2005, she enrolled
in a one-year postsecondary certificate program on a full-time basis to obtain a certificate as a computer programmer. Diana is an eligible student
for both tax years 2004 and 2005 because she meets the degree requirement, the work load requirement, and the year of study requirement for those
years.
FiguresTables and figuresFigure 2-1. Who Is an Eligible Student for the Hope Credit?Summary: This flowchart is used to determine if a student is eligible for the Hope credit.StartThis is the starting of the flowchart.Decision (1)Did the student complete the first 2 years of postsecondary education before the beginning of the tax year?IF Yes Continue To Process (a)IF No Continue To Decision (2)Decision (2)Was the credit claimed in at least 2 prior tax years for this student?IF Yes Continue To Process (a)IF No Continue To Decision (3)Decision (3)Was the student enrolled at least half-time in a program leading to a degree, certificate, or other recognized educational credential for at
least one academic period beginning during the tax year?IF Yes Continue To Decision (4)IF No Continue To Process (a)Decision (4)Is the student free of any federal or state felony conviction for possessing or distributing a controlled substance as of the end of the tax
year?IF Yes Continue To Process (b)IF No Continue To Process (a)Process (a)The student is not an eligible student.Continue To EndProcess (b)The student is an eligible student.Continue To EndEndThis is the ending of the flowchart.
Who Can Claim a
Dependent's Expenses
Hope credit:Claiming dependent's expensesIf there are qualified education expenses for your dependent for a year, either you or your
dependent, but not both of you, can claim a Hope credit for your dependent's expenses for that year.
For you to claim a Hope credit for your dependent's expenses, you must also claim an exemption for your dependent. You do this by listing your
dependent's name and other required information on Form 1040 (or Form 1040A), line 6c.
IF you...THEN only...claim an exemption on
your tax return for a
dependent who is an
eligible studentyou can claim the Hope credit based on that dependent's expenses. The dependent cannot claim the credit.do not claim an exemption on your tax return for a dependent who is an eligible student (even if entitled
to the exemption)the dependent can claim the Hope credit. You cannot claim the credit based on this dependent's
expenses.
Expenses paid by dependent.
If you claim an exemption on your tax return for an eligible student who is your dependent, treat any expenses paid (or deemed paid) by your
dependent as if you had paid them. Include these expenses when figuring the amount of your Hope credit.
Tables and figures:Hope credit:Eligible student requirements (Figure 2-1)Hope credit:Eligible student:Requirements (Figure 2-1)
Qualified education expenses paid directly to an eligible educational institution for your dependent under a court-approved divorce decree are
treated as paid by your dependent.
Divorce:Expenses paid under decree:Hope creditExpenses paid by you.
If you claim an exemption for a dependent who is an eligible student, only you can include any expenses you paid when figuring the amount of the
Hope credit. If neither you nor anyone else claims an exemption for the dependent, only the dependent can include any expenses you paid when figuring
the Hope credit.
Expenses paid by others.
Someone other than you, your spouse, or your dependent (such as a relative or former spouse) may make a payment directly to an eligible educational
institution to pay for an eligible student's qualified education expenses. In this case, the student is treated as receiving the payment from the
other person and, in turn, paying the institution. If you claim an exemption on your tax return for the student, you are considered to have paid the
expenses.
Example.
In 2005, Ms. Allen makes a payment directly to an eligible educational institution for her grandson Todd's qualified education expenses. For
purposes of claiming a Hope credit, Todd is treated as receiving the money as a gift from his grandmother and, in turn, paying his qualified education
expenses himself.
Unless an exemption for Todd is claimed on someone else's return, only Todd can use the payment to claim a Hope credit.
If anyone, such as Todd's parents, claims an exemption for Todd on his or her tax return, whoever claims the exemption may be able to use the
expenses to claim a Hope credit. If anyone else claims an exemption for Todd, Todd cannot claim a Hope credit.
Hope credit:Claiming dependent's expensesWhen an eligible educational institution provides a reduction in tuition to an employee of the
institution (or spouse or dependent child of an employee), the amount of the reduction may or may not be taxable. If it is taxable, the employee is
treated as receiving a payment of that amount and, in turn, paying it to the educational institution on behalf of the student. For more information on
tuition reductions, see Qualified Tuition Reduction in chapter 1.
Figuring the Credit
Hope credit:Figuring the creditThe amount of the Hope credit (per eligible student) is the sum of:
100% of the first $1,000 of qualified education expenses you paid for the eligible student, and
50% of the next $1,000 of qualified education expenses you paid for that student.
The maximum amount of Hope credit you can claim in 2005 is $1,500 times the number of eligible students. You can claim the full $1,500 for each
eligible student for whom you paid at least $2,000 of qualified education expenses. However, the credit may be reduced based on your modified adjusted
gross income (MAGI). See Effect of the Amount of Your Income on the Amount of Your Credit, below.
Example.
Jon and Karen Frost are married and file a joint tax return. For 2005, they claim an exemption for their dependent daughter on their tax return.
Their MAGI is $70,000. Their daughter is in her sophomore (second) year of studies at the local university. Jon and Karen paid qualified education
expenses of $4,300 in 2005.
Jon and Karen, their daughter, and the local university meet all of the requirements for the Hope credit. Jon and Karen can claim a $1,500 Hope
credit in 2005. This is 100% of the first $1,000 of qualified education expenses, plus 50% of the next $1,000.
Form 1098-T.Form 1098-T:Hope credit
To help you figure your Hope credit, you should receive Form 1098-T. Generally, an eligible educational institution (such as a college or
university) must send Form 1098-T (or acceptable substitute) to each enrolled student by January 31, 2006. An institution may choose to report either
payments received (box 1), or amounts billed (box 2), for qualified education expenses. In addition, your Form 1098-T should give you other
information for that institution, such as adjustments made for prior years, the amount of scholarships or grants, reimbursements or refunds, and
whether you were enrolled at least half-time or were a graduate student.
Form W-9SThe eligible educational institution may ask for a completed Form W-9S, Request for Student's or Borrower's Taxpayer
Identification Number and Certification, or similar statement to obtain the student's name, address, and taxpayer identification number.
Effect of the Amount of Your Income on the Amount of Your CreditHope credit:Income limitsHope credit:Income level, effect on amount of credit
The amount of your Hope credit is phased out (gradually reduced) if your modified adjusted gross income (MAGI) is between $43,000 and $53,000
($87,000 and $107,000 if you file a joint return). You cannot claim a Hope credit if your MAGI is $53,000 or more ($107,000 or more if you file a
joint return).
Modified adjusted gross income (MAGI).Hope credit:Modified adjusted gross income (MAGI)Modified adjusted gross income (MAGI):Hope credit
For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return.
MAGI when using Form 1040A.
If you file Form 1040A, your MAGI is the AGI on line 22 of that form.
MAGI when using Form 1040.
If you file Form 1040, your MAGI is the AGI on line 38 of that form, modified by adding back any:
Foreign earned income exclusion,
Foreign housing exclusion,
Exclusion of income for bona fide residents of American Samoa, and
Exclusion of income from Puerto Rico.
You can use Worksheet 2-1, later,
to figure your MAGI.
Worksheet 2-1. MAGI for the Hope Credit
1.Enter your adjusted gross income
(Form 1040, line 38) 1.2. Enter your foreign earned income exclusion and/or housing exclusion (Form 2555, line 43, or Form
2555-EZ, line 18)2.3.Enter the amount of income from Puerto Rico that you are excluding3.4.Enter the amount of income from American Samoa that you are excluding (Form 4563,
line 15)4.5.Add the amounts on
lines 2, 3, and 45.6.Add the amounts on lines 1 and 5.
This is your modified adjusted
gross income. Enter this amount
on Form 8863, line 96.
Worksheets:Hope credit MAGI calculation (Worksheet 2-1)Hope credit:Claiming the credit:Qualifying to claim (Figure 2-2)Tables and figures:Hope credit:Qualifying to claim (Figure 2-2)Figure 2–2. Can You Claim the Hope Credit for 2005?Summary: This flowchart is used to determine if you qualify to claim the Hope Credit for 2005.StartThis is the start of the flowchart.Decision (1)Did you* pay qualified education expenses in 2005 for an eligible student?IF YES continue to Decision (2)IF NO continue to Process (a)Decision (2)Did the academic period for which you paid qualified education expenses begin in 2005 or the first 3 months of 2005?IF YES continue to Decision (3)IF NO continue to Process (a)Decision (3)Is the eligible student you, your spouse (if married filing jointly), or your dependent for whom you claim an exemption on your tax
return?IF YES continue to Decision (4)IF NO continue to Process (a)Decision (4)Are you listed as a dependent on another person's tax return?IF YES continue to Process (a)IF NO continue to Decision (5)Decision (5)Is your filing status married filing separately?IF YES continue to Process (a)IF NO continue to Decision (6)Decision (6)Were you (or your spouse) a nonresident alien for any part of 2005 who did not elect to be treated as a resident alien for tax
purposes?IF YES continue to Process (a)IF NO continue to Decision (7)Decision (7)Is your modified adjusted gross income (MAGI) less than $53,000 ($107,000 if married filing jointly)?IF YES continue to Decision (8)IF NO continue to Process (a)Decision (8)Do you have a tax liability (Form 1040, line 46 minus lines 47, 48, and 49) (Form 1040A, line 28 minus lines 29 and 30)?IF YES continue to Decision (9)IF NO continue to Process (a)Decision (9)Did you claim a lifetime learning credit or a tuition and fees deduction for the same student?IF YES continue to Process (a)IF NO continue to Decision (10)Decision (10)Did you use the same expenses to claim a deduction or credit, or to figure the tax-free portion of a Coverdell ESA or QTP
distribution?IF YES continue to Process (a)IF NO continue to Decision (11)Decision (11)Were the same expenses paid with tax-free scholarship, fellowship, grant, or employer-provided educational assistance?IF YES continue to Process (a)IF NO continue to Decision (12)Decision (12)Did you, or someone else who paid these expenses on behalf of a student, receive a refund of all the expenses?IF YES continue to Process (a)IF NO continue to Process (b)Process (a)You cannot claim the Hope credit for 2005.Continue to EndProcess (b)You can claim the Hope credit for 2005.Continue to End* If you claim an exemption for your dependent, qualified education expenses paid by your dependent or by a third party for your dependent
are considered paid by you.EndThis is the end of the flowchart.Phaseout.Hope credit:PhaseoutPhaseout:Hope creditHope credit:Figuring the credit
If your MAGI is within the range of incomes where the credit must be reduced, you will figure your reduced credit using lines 7–13 of Form
8863. The same method is shown in the following example.
Example.
The information is the same as in the previous example for the Frosts, except that Jon and Karen have a MAGI of $90,000.
They figure the tentative Hope credit (100% of the first $1,000 of qualified education expenses, plus 50% of the next $1,000 of qualified education
expenses). As shown in the previous example, the result is a $1,500 tentative credit.
Because the Frosts' MAGI is within the range of incomes where the credit must be reduced, they must multiply their tentative credit ($1,500) by a
fraction. The numerator of the fraction is $107,000 (the upper limit for those filing a joint return) minus their MAGI. The denominator is $20,000,
the range of incomes for the phaseout ($87,000 to $107,000). The result is the amount of their phased out (reduced) Hope credit ($1,275).
$1,500 ×$107,000 − $90,000$20,000=$1,275
Claiming the Credit
Modified adjusted gross income (MAGI):Hope credit:Worksheet 2-1Hope credit:Modified adjusted gross income (MAGI):Worksheet 2-1Hope credit:Claiming the creditReporting:Hope creditYou claim the Hope credit by completing Parts I and III of Form 8863 and submitting it with your Form 1040 or
1040A. Enter the credit on Form 1040, line 50, or on Form 1040A, line 31. A filled-in Form 8863
is shown at the end of this chapter.
When Must the Credit Be Repaid (Recaptured)
Hope credit:Repayment of creditRecapture:Hope creditIf, after you file your 2005 tax return, you or someone else receives tax-free educational assistance for, or a
refund of, an expense you used to figure a Hope credit on that return, you may have to repay all or part of the credit. You must refigure your Hope
credit for 2005 as if the assistance or refund was received in 2005. Subtract the amount of the refigured credit from the amount of the credit you
claimed. The result is the amount you must repay. You add the repayment (recapture) to your tax liability for the year in which you receive the
assistance or refund (see the instructions for your tax return for that year). Your original 2005 tax return does not change.
Illustrated Example
Jim Grant, a single taxpayer, enrolled full-time at a local college to earn a degree in computer science. This is the first year of his
postsecondary education. During 2005, he paid $2,600 for his qualified 2005 tuition. He received Form 1098-T (shown later) from the college. He and
the college meet all of the requirements for the Hope credit. Jim's MAGI is $34,000. His income tax liability, before credits, is $3,404. He figures
his credit of $1,500 as shown on the Form 8863 on page 17.
Note.
Form 8863:Hope credit In Appendix A at the end of this publication there is an example illustrating the use of Form 8863
when both the Hope credit and the lifetime learning credit are claimed on the same tax return.
Form 8863:Filled-in examplesHope creditForm 8863 Education Credits (Hope and Lifetime Learning Credits) 2005Summary: This is an example of Form 8863 (2005) as pertains to the description in the text. The line items completed are:Name(s) shown on return field contains Jim GrantYour social security number field contains 000-00-4321Under
Part I: Hope Credit.:1a. Student's name (as shown on page 1 of your tax return)First name field contains JimLast name field contains Grant1b. Student's social security number (as shown on page 1 of your tax return) field contains 000-00-43211c. Qualified expenses (but do not enter more than $2,000 for each student). See instructions field contains 2,0001d. Enter the smaller of the amount in column (c) or $1,000 field contains 1,0001e. Add column (c) and column (d) field contains 3,0001f. Enter one-half of the amount in column (e) field contains 1,5002. Tentative Hope credit. Add the amounts on line 1, column (f). If you are claiming the lifetime learning credit, go to Part II; otherwise,
go to Part III field contains 1,500Under
Part III: Allowable Education Credits:7. Tentative education credits. Add lines 2 and 6 field contains 1,5008. Enter: $107,000 if married filing jointly; $53,000 if single, head of household, or qualifying widow(er) field contains
53,0009. Enter the amount from Form 1040, line 38, or Form 1040A, line 22 field contains 34,00010. Subtract line 9 from line 8. If line 9 is equal to or more than line 8, stop; you cannot take any education credits field
contains 19,00011. Enter: $20,000 if married filing jointly; $10,000 if single, head of household, or qualifying widow(er) field contains
10,00013. Multiply line 7 by line 12 field contains 1,50014. Enter the amount from Form 1040, line 46, or Form 1040A, line 28 field contains 3,40415. Enter the total, if any, of your credits from Form 1040, lines 47 through 49, or Form 1040A, lines 29 and 30 field contains
016. Enter the amount from Form 6251, line 31 field contains 017. Add lines 15 and 16 field contains 018. Subtract line 17 from line 14. If zero or less, stop; you cannot take any education credits field contains 3,40419. Education credits. Enter the smaller of line 13 or line 18 here and on Form 1040, lines 49, or Form 1040A, line 31 field contains
1,500
Form 1098-T Tuition Statement 2005Summary: This is an example of Form 1098-T (2005) as pertains to the description in the text. The line items completed
are:
The amount of your lifetime learning credit for 2005 is gradually reduced (phased out) if your modified adjusted gross income (MAGI) is between
$43,000 and $53,000 ($87,000 and $107,000 if you file a joint return). You cannot claim a credit if your MAGI is $53,000 or more ($107,000 or more if
you file a joint return). This is an increase from the 2004 limits of $42,000 and $52,000 ($85,000 and $105,000 if filing a joint return). See
Effect of the Amount of Your Income on the Amount of Your Credit, later, for more information.
There are two tax credits available to help you offset the costs of higher education by reducing the amount of your income tax. They are the Hope
credit and the lifetime learning credit, also referred to as education credits. This chapter discusses the lifetime learning credit. The Hope credit
is discussed in chapter 2.
This chapter explains:
Who can claim the lifetime learning credit,
What expenses qualify for the credit,
Who is an eligible student,
Who can claim a dependent's expenses,
How to figure the credit,
How to claim the credit, and
When the credit must be repaid.
What is the tax benefit of the lifetime learning credit.Lifetime learning credit:Tax benefit of
You may be able to claim a lifetime learning credit of up to $2,000 for qualified education expenses paid for all students enrolled in eligible
educational institutions. There is no limit on the number of years the lifetime learning credit can be claimed for each student.
A tax credit reduces the amount of income tax you may have to pay. Unlike a deduction, which reduces the amount of income subject to tax, a credit
directly reduces the tax itself. The lifetime learning credit is a nonrefundable credit. This means that it can reduce your tax to zero, but if the
credit is more than your tax the excess will not be refunded to you.
The lifetime learning credit you are allowed may be limited by the amount of your income and the amount of your tax.
You may be able to take a tuition and fees deduction for your education expenses instead of a lifetime learning credit. You can choose the one that
will give you the lower tax. See chapter 6 for details about the deduction.
Can you claim both education credits this year.
For each student, you can elect for any year only one of the credits. For example, if you elect to take the lifetime learning credit for a child on
your 2005 tax return, you cannot, for that same child, also claim the Hope credit for 2005.
If you are eligible to claim the lifetime learning credit and you are also eligible to claim the Hope credit for the same student in the same year,
you can choose to claim either credit, but not both. For 2005, if the total qualified education expenses for a student are more than $7,500, it will
generally be to your benefit to claim the lifetime learning credit.
If you pay qualified education expenses for more than one student in the same year, you can choose to take credits on a per-student, per-year
basis. This means that, for example, you can claim the Hope credit for one student and the lifetime learning credit for another student in the same
year.
Differences between the lifetime learning and Hope credits.Lifetime learning credit:Differences from Hope credit
There are several differences between these two credits. For example, you can claim the Hope credit based on the same student's expenses for no
more than 2 years. However, there is no limit on the number of years for which you can claim a lifetime learning credit based on the same student's
expenses. The differences between the two credits are summarized in Table 3-1.
Table 3-1. Comparison of Education Credits
Lifetime Learning CreditHope CreditUp to $2,000 credit per returnUp to $1,500 credit per eligible studentAvailable for all years of postsecondary education and for courses to acquire or improve job skills Available ONLY until the first 2 years of post-
secondary education are completed Available for an unlimited number of years Available ONLY for 2 years per eligible student Student does not need to be pursuing a degree or other recognized education credential Student must be pursuing an undergraduate degree or other recognized education credential Available for one or more courses Student must be enrolled at least half time for at least one academic period beginning during the year
Felony drug conviction rule does not applyNo felony drug conviction on student's record
Lifetime learning credit:Differences from Hope credit:Comparison table (Table 3-1)Tables and figures:Education credits, comparison of (Tables 2-1 & 3-1)Tables and figures:Lifetime learning credit:Comparing education credits (Table 3-1)
Can You Claim the Credit
Lifetime learning credit:Claiming the creditThe following rules will help you determine if you are eligible to claim the lifetime learning credit on
your tax return.
Who Can Claim the Credit
Generally, you can claim the lifetime learning credit if all three of the following requirements are met.
You pay qualified education expenses of higher education.
You pay the education expenses for an eligible student.
The eligible student is either yourself, your spouse, or a dependent for whom you claim an exemption on your tax return.
Note.
Qualified education expenses paid by a dependent for whom you claim an exemption, or by a third party for that dependent, are considered paid by
you.
Qualified education expenses are defined below under What Expenses Qualify. Eligible students are defined later under
Who Is an Eligible Student. A dependent for whom you claim an exemption is defined later under Who Can Claim a Dependent's
Expenses.
You may find Figure 3-1,
later in this chapter, helpful in determining if you
can claim a lifetime learning credit on your tax return.
Who Cannot Claim the Credit
You cannot claim the lifetime learning credit for 2005 if any of the following apply.
Your filing status is married filing separately.
You are listed as a dependent in the Exemptions section on another person's tax return (such as your parents'). See Who Can
Claim a Dependent's Expenses, later.
Your modified adjusted gross income (MAGI) is $53,000 or more ($107,000 or more in the case of a joint return). MAGI is explained later
under Effect of the Amount of Your Income on the Amount of Your Credit.
You (or your spouse) were a nonresident alien for any part of 2005 and the nonresident alien did not elect to be treated as a resident alien
for tax purposes. More information on nonresident aliens can be found in Publication 519, U.S. Tax Guide for Aliens.
You claim the Hope credit or a tuition and fees deduction for the same student in 2005.
Lifetime learning credit:Claiming the credit
What Expenses Qualify
Lifetime learning credit:Expenses qualifying forThe lifetime learning credit is based on qualified education expenses you pay for yourself, your
spouse, or a dependent for whom you claim an exemption on your tax return. Generally, the credit is allowed for qualified education expenses paid in
2005 for an academic period beginning in 2005 or in the first 3 months of 2006.
For example, if you paid $1,500 in December 2005 for qualified tuition for the Spring 2006 semester beginning in January 2006, you may be able to
use that $1,500 in figuring your 2005 credit.
Academic period.Academic period:Lifetime learning creditLifetime learning credit:Academic period
An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by
an educational institution. In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each
payment period can be treated as an academic period.
Paid with borrowed funds.Loans:Qualified education expenses paid with:Lifetime learning credit
You can claim a lifetime learning credit for qualified education expenses paid with the proceeds of a loan. You use the expenses to figure the
lifetime learning credit for the year in which the expenses are paid, not the year in which the loan is repaid. Treat loan payments sent directly to
the educational institution as paid on the date the institution credits the student's account.
Student withdraws from class(es).
You can claim a lifetime learning credit for qualified education expenses not refunded when a student withdraws.
For purposes of the lifetime learning credit, qualified education expenses are tuition and certain related expenses required for enrollment in a
course at an eligible educational institution. The course must be either part of a postsecondary degree program or taken by the student to acquire or
improve job skills.
An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to
participate in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and
proprietary (privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible
educational institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
Related expenses.
Student-activity fees and expenses for course-related books, supplies, and equipment are included in qualified education expenses only if the fees
and expenses must be paid to the institution as a condition of enrollment or attendance. For examples, see Related expenses in chapter 2
under Qualified Education Expenses.
No Double Benefit AllowedDouble benefit not allowed:Lifetime learning credit
You cannot do any of the following:
Deduct higher education expenses on your income tax return (as, for example, a business expense) and also claim a lifetime learning credit
based on those same expenses.
Claim a lifetime learning credit in the same year that you are claiming a tuition and fees deduction for the same student.
Claim a lifetime learning credit and a Hope credit based on the same qualified education expenses.
Claim a lifetime learning credit based on the same expenses used to figure the tax-free portion of a distribution from a Coverdell education
savings account (ESA) or qualified tuition program (QTP). See Coordination With Hope and Lifetime Learning Credits in chapter 7 (Coverdell
ESA) and chapter 8 (QTP).
Claim a credit based on qualified education expenses paid with a tax-free scholarship, grant, or employer-provided educational assistance.
See Adjustments to Qualified Education Expenses, next.
Adjustments to Qualified Education ExpensesLifetime learning credit:Adjustments to qualified education expensesQualified education expenses:Adjustments to:Lifetime learning credit
If you pay qualified education expenses with certain tax-free funds, you cannot claim a credit for those amounts. You must reduce the qualified
education expenses by the amount of any tax-free educational assistance and refund(s) you received.
Qualified education expenses do not include expenses for which you, or someone else who paid qualified education expenses on behalf of a student,
receive a refund. (For information on expenses paid by a dependent student or third party, see Who Can Claim a Dependent's Expenses, later
in this chapter.)
If a refund of expenses paid in 2005 is received before you file your tax return for 2005, simply reduce the amount of the expenses paid by the
amount of the refund received. If the refund is received after you file your 2005 tax return, see When Must the Credit Be Repaid
(Recaptured), later.
You are considered to receive a refund of expenses when an eligible educational institution refunds loan proceeds to the lender on behalf of the
borrower. Depending on when you are considered to receive the refund, follow the above instructions or see When Must the Credit Be Repaid
(Recaptured), later.
Amounts that do not reduce qualified education expenses.
Do not reduce qualified education expenses by amounts paid with funds the student receives as:
Payment for services, such as wages,
A loan,
A gift,
An inheritance, or
A withdrawal from the student's personal savings.
Do not reduce the qualified education expenses by any scholarship or fellowship reported as income on the student's tax return in the following
situations.
The use of the money is restricted to costs of attendance (such as room and board) other than qualified education expenses.
The use of the money is not restricted and is used to pay education expenses that are not qualified (such as room and board).
For examples, see Adjustments to Qualified Education Expenses in chapter 2.
Lifetime learning credit:Expenses qualifying forLifetime learning credit:Qualified education expensesQualified education expenses:Lifetime learning creditExpenses That Do Not QualifyQualified education expenses:Expenses not qualified:Lifetime learning credit
Qualified education expenses do not include amounts paid for:
Insurance,
Medical expenses (including student health fees),
Room and board,
Transportation, or
Similar personal, living, or family expenses.
This is true even if the amount must be paid to the institution as a condition of enrollment or attendance.
Sports, games, hobbies, and noncredit courses.Sports, games, hobbies, and noncredit courses:Lifetime learning credit
Qualified education expenses generally do not include expenses that relate to any course of instruction or other education that involves sports,
games or hobbies, or any noncredit course. However, if the course of instruction or other education is part of the student's degree program or is
taken by the student to acquire or improve job skills, these expenses can qualify.
Comprehensive or bundled fees.Comprehensive or bundled fees:Lifetime learning credit
Some eligible educational institutions combine all of their fees for an academic period into one amount. If you do not receive or do not have
access to an allocation showing how much you paid for qualified education expenses and how much you paid for personal expenses, such as those listed
above, contact the institution. The institution is required to make this allocation and provide you with the amount you paid (or were billed) for
qualified education expenses on Form 1098-T, Tuition Statement. See Figuring the Credit, later, for more information about Form 1098-T.
Who Is an Eligible Student
Eligible student:Lifetime learning creditLifetime learning credit:Eligible studentFor purposes of the lifetime learning credit, an eligible student is a student who is enrolled in one or
more courses at an eligible educational institution (as defined under Qualified Education Expenses, earlier).
Lifetime learning credit:Claiming the credit:Qualifying to claim (Figure 3-1)Lifetime learning credit:Qualifying to claim (Figure 3-1)Tables and figures:Lifetime learning credit:Qualifying to claim (Figure 3-1)Figure 3–1. Can You Claim the Lifetime Learning Credit for 2005?Summary: This flowchart is used to determine if you* qualify to claim the lifetime learning credit for 2005.StartThis is the start of the flowchart.Decision (1)Did you* pay qualified education expenses in 2005 for an eligible student?IF YES continue to Decision (2)IF NO continue to Process (a)Decision (2)Did the academic period for which you paid qualified education expenses begin in 2005 or the first 3 months of 2005?IF YES continue to Decision (3)IF NO continue to Process (a)Decision (3)Is the eligible student you, your spouse (if married filing jointly), or your dependent for whom you claim an exemption on your tax
return?IF YES continue to Decision (4)IF NO continue to Process (a)Decision (4)Are you listed as a dependent on another person's tax return?IF YES continue to Process (a)IF NO continue to Decision (5)Decision (5)Is your filing status married filing separately?IF YES continue to Process (a)IF NO continue to Decision (6)Decision (6)Were you (or your spouse) a nonresident alien for any part of 2005 who did not elect to be treated as a resident alien for tax
purposes?IF YES continue to Process (a)IF NO continue to Decision (7)Decision (7)Is your modified adjusted gross income (MAGI) less than $53,000 ($107,000 if married filing jointly)?IF YES continue to Decision (8)IF NO continue to Process (a)Decision (8)Do you have a tax liability (Form 1040, line 46 minus lines 47, 48, and 49) (Form 1040A, line 28 minus lines 29 and 30)?IF YES continue to Decision (9)IF NO continue to Process (a)Decision (9)Did you claim a lifetime learning credit or a tuition and fees deduction for the same student?IF YES continue to Process (a)IF NO continue to Decision (10)Decision (10)Did you use the same expenses to claim a deduction or credit, or to figure the tax-free portion of a Coverdell ESA or QTP
distribution?IF YES continue to Process (a)IF NO continue to Decision (11)Decision (11)Were the same expenses paid with tax-free scholarship, fellowship, grant, or employer-provided educational assistance?IF YES continue to Process (a)IF NO continue to Decision (12)Decision (12)Did you, or someone else who paid these expenses on behalf of a student, receive a refund of all the expenses?IF YES continue to Process (a)IF NO continue to Process (b)Process (a)You cannot claim the lifetime learning credit for 2005.Continue to EndProcess (b)You can claim the lifetime learning credit for 2005.Continue to End*If you claim an exemption for your dependent, qualified education expenses paid by your dependent or by a third party for your dependent are
considered paid by you.End*Qualified education expenses paid by your dependent or by a third party for your dependent are considered paid by you.This is the end of the flowchart.Who Can Claim a
Dependent's Expenses
Lifetime learning credit:Claiming dependent's expensesIf there are qualified education expenses for your dependent for a year, either you or your
dependent, but not both of you, can claim a lifetime learning credit for your dependent's expenses for that year.
For you to claim a lifetime learning credit for your dependent's expenses, you must also claim an exemption for your dependent. You do this by
listing your dependent's name and other required information on Form 1040 (or Form 1040A), line 6c.
IF you...THEN only...claim an exemption on your tax return for a dependent who is an eligible studentyou can claim the lifetime learning credit based on that dependent's expenses. The dependent cannot claim the
credit.do not claim an exemption on your tax return for a dependent who is an eligible student (even if entitled
to the exemption)the dependent can claim the lifetime learning credit. You cannot claim the credit based on this dependent's
expenses.
Expenses paid by dependent.
If you claim an exemption on your tax return for an eligible student who is your dependent, treat any expenses paid (or deemed paid) by your
dependent as if you had paid them. Include these expenses when figuring the amount of your lifetime learning credit.
Qualified education expenses paid directly to an eligible educational institution for your dependent under a court-approved divorce decree are
treated as paid by your dependent.
Divorce:Expenses paid under decree:Lifetime learning creditExpenses paid by you.
If you claim an exemption for a dependent who is an eligible student, only you can include any expenses you paid when figuring the amount of the
lifetime learning credit. If neither you nor anyone else claims an exemption for the dependent, only the dependent can include any expenses you paid
when figuring the lifetime learning credit.
Expenses paid by others.
Someone other than you, your spouse, or your dependent (such as a relative or former spouse) may make a payment directly to an eligible educational
institution to pay for an eligible student's qualified education expenses. In this case, the student is treated as receiving the payment from the
other person and, in turn, paying the institution. If you claim an exemption on your tax return for the student, you are considered to have paid the
expenses.
Example.
In 2005, Ms. Allen makes a payment directly to an eligible educational institution for her grandson Todd's qualified education expenses. For
purposes of claiming a lifetime learning credit, Todd is treated as receiving the money as a gift from his grandmother and, in turn, paying his
qualified education expenses himself.
Unless an exemption for Todd is claimed on someone else's return, only Todd can use the payment to claim a lifetime learning credit.
If anyone, such as Todd's parents, claims an exemption for Todd on his or her tax return, whoever claims the exemption may be able to use the
expenses to claim a lifetime learning credit. If anyone else claims an exemption for Todd, Todd cannot claim a lifetime learning credit.
When an eligible educational institution provides a reduction in tuition to an employee of the institution (or spouse or dependent child of an
employee), the amount of the reduction may or may not be taxable. If it is taxable, the employee is treated as receiving a payment of that amount and,
in turn, paying it to the educational institution on behalf of the student. For more information on tuition reductions, see Qualified Tuition
Reduction in chapter 1.
Figuring the Credit
Lifetime learning credit:Figuring the creditThe amount of the lifetime learning credit is 20% of the first $10,000 of qualified education expenses
you paid for all eligible students. The maximum amount of lifetime learning credit you can claim for 2005 is $2,000 (20% × $10,000). However,
that amount may be reduced based on your modified adjusted gross income (MAGI). See Effect of the Amount of Your Income on the Amount of Your
Credit below.
Example.
Bruce and Toni Harper are married and file a joint tax return. For 2005, their MAGI is $75,000. Toni is attending a local college (an eligible
educational institution) to earn credits toward a degree in nursing. She already has a bachelor's degree in history and wants to become a nurse. In
August 2005, Toni paid $6,000 of qualified education expenses for her Fall 2005 semester. Bruce and Toni can claim a $1,200 (20% × $6,000)
lifetime learning credit on their 2005 joint tax return.
Form 1098-T.Form 1098-T:Lifetime learning credit
To help you figure your lifetime learning credit, you should receive Form 1098-T. Generally, an eligible educational institution (such as a college
or university) must send Form 1098-T (or acceptable substitute) to each enrolled student by January 31, 2006. An institution may choose to report
either payments received (box 1), or amounts billed (box 2), for qualified education expenses. In addition, your Form 1098-T should give you other
information for that institution, such as adjustments made for prior years, the amount of scholarships or grants, reimbursements or refunds, and
whether you were enrolled at least half-time or were a graduate student.
Form W-9SThe eligible educational institution may ask for a completed Form W-9S, Request for Student's or Borrower's Taxpayer
Identification Number and Certification, or similar statement to obtain the student's name, address, and taxpayer identification number.
Effect of the Amount of Your Income on the Amount of Your CreditLifetime learning credit:Income level, effect on amount of creditLifetime learning credit:Income limits
The amount of your lifetime learning credit is phased out (gradually reduced) if your modified adjusted gross income (MAGI) is between $43,000 and
$53,000 ($87,000 and $107,000 if you file a joint return). You cannot claim a lifetime learning credit if your MAGI is $53,000 or more ($107,000 or
more if you file a joint return).
Modified adjusted gross income (MAGI).Lifetime learning credit:Modified adjusted gross income (MAGI)Modified adjusted gross income (MAGI):Lifetime learning credit
For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return.
MAGI when using Form 1040A.
If you file Form 1040A, your MAGI is the AGI on line 22 of that form.
MAGI when using Form 1040.
If you file Form 1040, your MAGI is the AGI on line 38 of that form, modified by adding back any:
Foreign earned income exclusion,
Foreign housing exclusion,
Exclusion of income for bona fide residents of American Samoa, and
Exclusion of income from Puerto Rico.
Lifetime learning credit:Modified adjusted gross income (MAGI):Worksheet 3-1Modified adjusted gross income (MAGI):Lifetime learning credit:Worksheet 3-1Worksheets:Lifetime learning credit MAGI calculation (Worksheet 3-1)You can use Worksheet 3-1
to figure your MAGI.
Worksheet 3-1.MAGI for the Lifetime
Learning Credit
1.Enter your adjusted gross income
(Form 1040, line 38) 1.2. Enter your foreign earned income exclusion and/or housing exclusion (Form 2555, line 43, or Form
2555-EZ, line 18)2.3.Enter the amount of income from Puerto Rico that you are excluding3.4.Enter the amount of income from American Samoa that you are excluding (Form 4563,
line 15)4.5.Add the amounts on
lines 2, 3, and 45.6.Add the amounts on lines 1 and 5.
This is your modified adjusted
gross income. Enter this amount
on Form 8863, line 96.
If your MAGI is within the range of incomes where the credit must be reduced, you will figure your reduced credit using lines 7–13 of Form
8863. The same method is shown in the following example.
Example.
The information is the same as in the Harper example (previous page), except that Bruce and Toni have a MAGI of $97,000.
They figure the tentative lifetime learning credit (20% of the first $10,000 of qualified education expenses they paid for all eligible students).
As shown in the previous example, the result is a $1,200 (20% x $6,000) tentative credit.
Because the Harpers' MAGI is within the range of incomes where the credit must be reduced, they must multiply their tentative credit ($1,200) by a
fraction. The numerator of the fraction is $107,000 (the upper limit for those filing a joint return) minus their MAGI. The denominator is $20,000,
the range of incomes for the phaseout ($87,000 to $107,000). The result is the amount of their phased out (reduced) lifetime learning credit ($600).
$1,200 ×$107,000 − $97,000$20,000=$600
Lifetime learning credit:Income level, effect on amount of creditClaiming the CreditLifetime learning credit:Claiming the creditReporting:Lifetime learning credit
You claim the lifetime learning credit by completing Parts II and III of Form 8863 and submitting it with your Form 1040 or 1040A. Enter the credit
on Form 1040, line 50, or Form 1040A, line 31. A filled-in Form 8863 is shown at the end of this chapter.
When Must the Credit Be Repaid (Recaptured)
Lifetime learning credit:Repayment of creditRecapture:Lifetime learning creditIf, after you file your 2005 tax return, you or someone else receives tax-free educational
assistance for, or a refund of, an expense you used to figure a lifetime learning credit on that return, you may have to repay all or part of the
credit. You must refigure your lifetime learning credit for 2005 as if the assistance or refund was received in 2005. Subtract the amount of the
refigured credit from the amount of the credit you claimed. The result is the amount you must repay. You add the repayment (recapture) to your tax
liability for the year in which you receive the assistance or refund (see the instructions for your tax return for that year). Your original 2005 tax
return does not change.
Illustrated Example
Judy Green, a single taxpayer, is taking courses at a community college to be recertified to teach in public schools. Her MAGI is $23,000. Her tax,
before credits, is $1,904. In July 2005 she pays $700 for the Summer 2005 semester; in August 2005 she pays $1,900 for the Fall 2005 semester; and in
December 2005 she pays another $1,900 for the Spring semester beginning January 2006. Judy and the college meet all the requirements for the lifetime
learning credit. She can use all of the $4,500 tuition she paid in 2005 when figuring her credit for her 2005 tax return. She figures her credit as
shown on the filled-in Form 8863 on the next page.
Note.
Form 8863:Lifetime learning creditLifetime learning credit:Figuring the creditIn Appendix A at the end of this publication, there is an example illustrating the use of
Form 8863 when both the Hope credit and the lifetime learning credit are claimed on the same tax return.
Form 8863:Filled-in examplesLifetime learning creditForm 8863 Education Credits (Hope and Lifetime Learning Credits) 2005Summary: This is an example of Form 8863 (2005) as pertains to the description in the text. The line items completed are:Name(s) shown on return field contains Judy GreenYour social security number field contains 000-00-7777Under
Part II: Lifetime Learning Credit.:3a. Student's name (as shown on page 1 of your tax return)First name field contains JudyLast name field contains Green3b. Student's social security number (as shown on page 1 of your tax return) field contains 000-00-77773c. Qualified expenses. See instructions field contains 4,5004. Add the amounts on line 3, column (c), and enter the total field contains 4,5005. Enter the smaller of line 5 or $5,000 field contains 4,5006. Tentative lifetime learning credit. Multiply line 5by 20% (.20) and go to Part III field contains
900Under
Part III: Allowable Education Credits:7. Tentative education credits. Add lines 3 and 7 field contains 9008. Enter: $105,000 if married filing jointly; $53,000 if single, head of household, or qualifying widow(er) field contains
52,00010. Enter the amount from Form 1040, line 38, or Form 1040A, line 22 field contains 24,00010. Subtract line 9 from line 8. If line 9 is equal to or more than line 8, stop; you cannot take any education credits field
contains 29,00011. Enter: $20,000 if married filing jointly; $10,000 if single, head of household, or qualifying widow(er) field contains
10,00013. Multiply line 7by line 12 field contains 90014. Enter the amount from Form 1040, line 46, or Form 1040A, line 28 field contains 1,90415. Enter the total, if any, of your credits from Form 1040, lines 47 through 49, or Form 1040A, lines 29 and 30 field contains
016. Enter the amount from Form 6251, line 31 field contains 017. Add lines 15 and 16 field contains 018. Subtract line 17 from line 16. If zero or less, stop; you cannot take any education credits field contains 1,90419. Education credits. Enter the smaller of line 13 or line 18 here and on Form 1040, line 49, or Form 1040A, line 31 field contains
900
Student Loan Interest DeductionReminders
LoansInterest onStudent loan interest deductionStudent loan interest deductionStudent loan interest deduction:Final regulations, issuedThe following changes apply to interest due and paid on qualified student loans after December 31,
1997.
Longer period allowed for loan disbursement.
The 60-day safe harbor for disbursing loan proceeds used to pay qualified education expenses has been increased to 90 days before and 90 days after
the academic period to which the expenses relate. See Reasonable period of time for more information.
Interest paid by a third party may be deductible.Student loan interest deduction:Third party interest payments
The person legally obligated to make interest payments on a student loan may be able to deduct interest payments on that loan made by someone else
(third party). For more information, see Expenses paid by others.
If you are affected by either of these changes, you may want to file Form 1040X, Amended U.S. Individual Income Tax Return, to correct a return you
have already filed. Generally, you must file your claim for a refund within 3 years after the date you filed your original return or within 2 years
after the date you paid the tax, whichever is later.
Generally, personal interest you pay, other than certain mortgage interest, is not deductible on your tax return. However, if your modified
adjusted gross income (MAGI) is less than $65,000 ($135,000 if filing a joint return) there is a special deduction allowed for paying interest on a
student loan (also known as an education loan) used for higher education. For most taxpayers, MAGI is the adjusted gross income as figured on their
federal income tax return before subtracting any deduction for student loan interest. This deduction can reduce the amount of your income subject to
tax by up to $2,500 in 2005.
The student loan interest deduction is taken as an adjustment to income. This means you can claim this deduction even if you do not itemize
deductions on Schedule A (Form 1040).
This chapter explains:
What type of loan interest you can deduct,
Whether you can claim the deduction,
What expenses you must have paid with the student loan,
Who is an eligible student,
Who can claim a dependent's expenses,
How to figure the deduction, and
How to claim the deduction.
Tables and figures:Student loan interest deduction:Overview (Table 4-1)Table 4-1
summarizes the features of the student loan interest deduction.
<ROM>Table 4-1.</ROM>
<IMARK>Student Loan Interest Deduction at a GlanceDo not rely on this table alone. Refer to the
text for complete details.FeatureDescriptionMaximum benefitYou can reduce your income subject to tax by up to $2,500. Loan qualificationsYour student loan:•
must have been taken out solely to pay qualified education expenses, and•cannot be from a related person or made under a qualified employer plan. Student qualificationsThe student must be:•you, your spouse, or your dependent, and•enrolled at least half-time in a degree program. Time limit on deductionYou can deduct interest paid during the remaining period of your student loan. PhaseoutThe amount of your deduction depends on your income level.
Student loan interest deduction:Student loan interest, definedStudent loan interest is interest you paid during the year on a qualified student loan. It
includes both required and voluntary interest payments.
This is a loan you took out solely to pay qualified education expenses (defined later) that were:
For you, your spouse, or a person who was your dependent when you took out the loan,
Paid or incurred within a reasonable period of time before or after you took out the loan, and
For education provided during an academic period for an eligible student.
Loans from the following sources are not qualified student loans.
A related person.
A qualified employer plan.
Your dependent.
Generally, your dependent is someone who:
Provides less than one-half of his or her own support,
Is either related to you or lives with you, and
Is a citizen or resident of the United States, Canada, or Mexico.
You can find more information about dependents in Publication 501, Exemptions, Standard Deduction, and Filing Information.
Exceptions.
For purposes of the student loan interest deduction, there are the following exceptions to the general rules for dependents.
You can have a dependent even if you are the dependent of another taxpayer.
An individual can be your dependent even if the individual files a joint return with a spouse.
An individual can be your dependent even if the individual had gross income that was equal to or more than the exemption amount for the year
($3,200 for 2005).
Reasonable period of time.Student loan interest deduction:Reasonable period of time
Qualified education expenses are treated as paid or incurred within a reasonable period of time before or after you take out the loan if they are
paid with the proceeds of student loans that are part of a federal postsecondary education loan program.
Even if not paid with the proceeds of that type of loan, the expenses are treated as paid or incurred within a reasonable period of time if both of
the following requirements are met.
The expenses relate to a specific academic period, and
The loan proceeds are disbursed within a period that begins 90 days before the start of that academic period and ends 90 days after the end
of that academic period.
If neither of the above situations applies, the reasonable period of time usually is determined based on all the relevant facts and circumstances.
Academic period.Academic period:Student loan interest deductionStudent loan interest deduction:Academic period
An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by
an educational institution. In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each
payment period can be treated as an academic period.
This is a student who was enrolled at least half-time in a program leading to a degree, certificate, or other recognized educational credential.
Enrolled at least half-time.Half-time student:Student loan interest deduction
A student was enrolled at least half-time if the student was taking at least half the normal full-time work load for his or her course of study.
The standard for what is half of the normal full-time work load is determined by each eligible educational institution. However, the standard may
not be lower than any of those established by the Department of Education under the Higher Education Act of 1965.
Related person.Related persons:Student loan interest deductionStudent loan interest deduction:Related persons
You cannot deduct interest on a loan you get from a related person. Related persons include:
Your spouse,
Your brothers and sisters,
Your half brothers and half sisters,
Your ancestors (parents, grandparents, etc.),
Your lineal descendants (children, grandchildren, etc.), and
Certain corporations, partnerships, trusts, and exempt organizations.
For purposes of the student loan interest deduction, these expenses are the total costs of attending an eligible educational institution, including
graduate school. They include amounts paid for the following items.
Tuition and fees.
Room and board.
Books, supplies, and equipment.
Other necessary expenses (such as transportation).
The cost of room and board qualifies only to the extent that it is not more than the greater of the following two amounts.
The allowance for room and board, as determined by the eligible educational institution, that was included in the cost of attendance (for
federal financial aid purposes) for a particular academic period and living arrangement of the student.
The actual amount charged if the student is residing in housing owned or operated by the eligible educational institution.
An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to
participate in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and
proprietary (privately owned profit-making) postsecondary institutions.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
For purposes of the student loan interest deduction, an eligible educational institution also includes an institution conducting an internship or
residency program leading to a degree or certificate from an institution of higher education, a hospital, or a health care facility that offers
postgraduate training.
An educational institution must meet the above criteria only during the academic period(s) for which the student loan was incurred. The
deductibility of interest on the loan is not affected by the institution's subsequent loss of eligibility.
The educational institution should be able to tell you if it is an eligible educational institution.
Adjustments to Qualified Education ExpensesQualified education expenses:Adjustments to:Student loan interest deductionStudent loan interest deduction:Adjustments to qualified education expenses
You must reduce your qualified education expenses by the total amount paid for them with the following tax-free items.
Employer-provided educational assistance. See chapter 11.
Tax-free distributions from a Coverdell education savings account (ESA). See chapter 7.
Tax-free distributions from a qualified tuition program (QTP). See chapter 8.
U.S. savings bond interest that you exclude from income because it is used to pay qualified education expenses. See chapter 10.
The tax-free part of scholarships and fellowships. See chapter 1.
Veterans' educational assistance. See chapter 1.
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Qualified education expenses:Adjustments to:Student loan interest deductionStudent loan interest deduction:Adjustments to qualified education expensesInclude As InterestStudent loan interest deduction:Include as interest
In addition to simple interest on the loan, if all other requirements are met, the items discussed below can be student loan interest.
Loan origination fee.Loans:Origination fees on student loan
In general, this is a one-time fee charged by the lender when a loan is made. To be deductible as interest, a loan origination fee must be for the
use of money rather than for property or services (such as commitment fees or processing costs) provided by the lender. A loan origination fee treated
as interest accrues over the term of the loan.
If loan origination fees are not included in the amount reported on your Form 1098-E, Student Loan Interest Statement,
Form 1098-E:Student loan interest deductionyou can use any reasonable method to allocate the loan origination fees over the term of the
loan. The method shown in the example below allocates equal portions of the loan origination fee to each payment required under the terms of the loan.
A method that results in the double deduction of the same portion of a loan origination fee would not be reasonable.
Example.
In August 2003, Bill took out a student loan for $16,000 to pay the tuition for his senior year of college. The lender charged a 3% loan
origination fee ($480) that was withheld from the funds Bill received. Because the loan origination fee was not included in his 2005 Form 1098-E, Bill
can use any reasonable method to allocate that fee over the term of the loan. Bill's loan is payable in 120 equal monthly payments. He allocates the
$480 fee equally over the total number of payments ($480 ÷ 120 months = $4 per month). Bill made 12 payments in 2005, so he paid $48 ($4
× 12) of interest attributable to the loan origination fee. To determine his student loan interest deduction, he will add the $48 to the amount
of other interest reported to him on Form 1098-E.
Capitalized interest.Loans:Capitalized interest on student loan
This is unpaid interest on a student loan that is added by the lender to the outstanding principal balance of the loan. Capitalized interest is
treated as interest for tax purposes and is deductible as payments of principal are made on the loan.
Interest on revolving lines of credit.Revolving lines of credit, interest on
This interest, which includes interest on credit card debt, is student loan interest if the borrower uses the line of credit (credit card) only to
pay qualified education expenses. See Qualified Education Expenses, earlier.
Interest on refinanced student loans.Refinanced student loans
This includes interest on both:
Consolidated loans—loans used to refinance more than one student loan of the same borrower, and
Consolidated loans used to refinance student loans
Collapsed loans—two or more loans of the same borrower that are treated by both the lender and the borrower as one loan.
Collapsed loans
If you refinance a qualified student loan for more than your original loan and you use the additional amount for any purpose other than qualified
education expenses, you cannot deduct any interest paid on the refinanced loan.
These are payments made on a qualified student loan during a period when interest payments are not required, such as when the borrower has been
granted a deferment or the loan has not yet entered repayment status.
Example.
The payments on Roger's student loan were scheduled to begin in June 2004, 6 months after he graduated from college. He began making payments as
required. In September 2005, Roger enrolled in graduate school on a full-time basis. He applied for and was granted deferment of his loan payments
while in graduate school. Wanting to pay down his student loan as much as possible, he made loan payments in October and November, 2005. Even though
these were voluntary (not required) payments, Roger can deduct the interest paid in October and November.
Allocating Payments Between Interest and PrincipalStudent loan interest deduction:Allocation between interest and principal
The allocation of payments between interest and principal for tax purposes may not be the same as the allocation shown on the Form 1098-E or other
statement you receive from the lender or loan servicer. To make the allocation for tax purposes, a payment generally applies first to stated interest
that remains unpaid as of the date the payment is due, second to any loan origination fees allocable to the payment, third to any capitalized interest
that remains unpaid as of the date the payment is due, and fourth to the outstanding principal.
Example.
In August 2004, Peg took out a $10,000 student loan to pay the tuition for her senior year of college. The lender charged a 3% loan origination fee
($300) that was withheld from the funds Peg received. The interest (5% simple) on this loan accrued while she completed her senior year and for 6
months after she graduated. At the end of that period, the lender determined the amount to be repaid by capitalizing all accrued but unpaid interest
($625 interest accrued from August 2004 through October 2005) and adding it to the outstanding principal balance of the loan. The loan is payable over
60 months, with a payment of $200.51 due on the first of each month, beginning November 2005.
Peg did not receive a Form 1098-E for 2005 from her lender because the amount of interest she paid did not require the lender to issue an
information return. However, she did receive an account statement from the lender that showed the following 2005 payments on her outstanding loan of
$10,625 ($10,000 principal + $625 accrued but unpaid interest).
To determine the amount of interest that could be deducted on the loan for 2005, Peg starts with the total amount of stated interest she paid,
$87.89. Next, she uses a reasonable method to allocate the loan origination fee over the term of the loan ($300 ÷ 60 months = $5 per month). A
total of $10 ($5 of each of the two principal payments) should be treated as interest for tax purposes. Peg then applies the unpaid capitalized
interest to the two principal payments in the order in which they were made, and determines that the remaining amount of principal of both payments is
treated as interest for tax purposes. Assuming that Peg qualifies to take the student loan interest deduction, she can deduct $401.02 ($87.89 + $10 +
$303.13).
For 2006, Peg will continue to allocate $5 of the loan origination fee to the principal portion of each monthly payment she makes and treat that
amount as interest for tax purposes. She also will apply the remaining amount of capitalized interest ($625 − $303.13 = $321.87) to the
principal payments in the order in which they are made until the balance is zero, and treat those amounts as interest for tax purposes.
Student loan interest deduction:Allocation between interest and principalDo Not Include As InterestStudent loan interest deduction:Not included as interest
You cannot claim a student loan interest deduction for:
Interest you paid on a loan if, under the terms of the loan, you are not legally obligated to make interest payments.
Loan origination fees that are payments for property or services provided by the lender, such as commitment fees or processing
costs.
Interest you paid on a loan to the extent payments were made through your participation in the National Health Service Corps Loan Repayment
Program (the NHSC Loan Repayment Program) or certain other state loan repayment programs. This is effective beginning January 1, 2004. For more
information, see Student Loan Repayment Assistance in chapter 5. Student loan interest deduction:Loan repayment assistance
When Must Interest Be PaidStudent loan interest deduction:When interest must be paid
You can deduct all interest you paid during the year on your student loan, including voluntary payments, until the loan is paid off. Prior to 2002,
you could deduct only the interest paid during the first 60 months you were required to make interest payments on the loan.
Student loan interest deduction:Student loan interest, definedCan You Claim the Deduction
Generally, you can claim the deduction if all three of the following requirements are met.
Your filing status is any filing status except married filing separately.
No one else is claiming an exemption for you on his or her tax return.
You paid interest on a qualified student loan.
Claiming an exemption for you.
Another taxpayer is claiming an exemption for you if he or she lists your name and other required information on his or her Form 1040 (or Form
1040A), line 6c.
Example.
During 2005, Josh paid $600 interest on his qualified student loan. Only he is legally obligated to make the payments. No one claims an exemption
for Josh for 2005. Assuming all other requirements are met, Josh can deduct the $600 of interest he paid on his 2005 Form 1040 or 1040A.
Expenses paid by others.Student loan interest deduction:Third party interest payments
If you are the person legally obligated to make interest payments and someone else makes a payment of interest on your behalf, you are treated as
receiving the payments from the other person and, in turn, paying the interest.
Example 1.
Darla obtained a qualified student loan to attend college. After Darla's graduation from college, she worked as an intern for a nonprofit
organization. As part of the internship program, the nonprofit organization made an interest payment on behalf of Darla. This payment was treated as
additional compensation and reported in box 1 of her Form W-2. Assuming all other qualifications are met, Darla can deduct this payment of interest on
her tax return.
Example 2.
Ethan obtained a qualified student loan to attend college. After graduating from college, the first monthly payment on his loan was due in
December. As a gift, Ethan's mother made this payment for him. No one is claiming a dependency exemption for Ethan on his or her tax return. Assuming
all other qualifications are met, Ethan can deduct this payment of interest on his tax return.
No Double Benefit AllowedDouble benefit not allowed:Student loan interest deduction
You cannot deduct as interest on a student loan any amount that is an allowable deduction under any other provision of the tax law (for example, as
home mortgage interest).
Who Can Claim a
Dependent's Expenses
Student loan interest deduction:Claiming dependent's expensesYou can deduct interest paid on a student loan for your dependent only if you:
Are legally obligated to make the interest payments,
Actually made the payments during the tax year, and
Claim an exemption for your dependent on your tax return.
Example.
Student loan interest deduction:Claiming dependent's expensesDuring 2005, Jo paid $1,100 interest on her qualified student loan. Only she is legally
obligated to make the payments. Jo's parents claimed an exemption for her on their 2005 tax return. In this case, neither Jo nor her parents may
deduct the student loan interest Jo paid in 2005.
Figuring the Deduction
Student loan interest deduction:Figuring the deductionYour student loan interest deduction for 2005 is generally the smaller of:
$2,500, or
The interest you paid in 2005.
However, the amount determined above may be gradually reduced (phased out) or eliminated based on your filing status and modified adjusted
gross income (MAGI) as explained below. You can use Worksheet 4-1 (at end of chapter) to figure both your MAGI and your deduction.
Form 1098-E.Form 1098-E:Student loan interest deduction
To help you figure your student loan interest deduction, you should receive Form 1098-E. Generally, an institution (such as a bank or governmental
agency) that received interest payments of $600 or more during 2005 on one or more qualified student loans must send Form 1098-E (or acceptable
substitute) to each borrower by January 31, 2006.
For qualified student loans taken out before September 1, 2004, the institution is required to include on Form 1098-E only payments of stated
interest. Other interest payments, such as certain loan origination fees and capitalized interest, may not appear on the form you receive. However, if
you pay qualifying interest that is not included on Form 1098-E, you can also deduct those amounts. See Allocating Payments Between Interest and
Principal, earlier.
Form W-9SThe lender may ask for a completed Form W-9S, Request for Student's or Borrower's Taxpayer Identification Number and
Certification, or similar statement to obtain the borrower's name, address, and taxpayer identification number. The form may also be used by the
borrower to certify that the student loan was incurred solely to pay for qualified education expenses.
Effect of the Amount of Your Income on the Amount of Your DeductionStudent loan interest deduction:Income level, effect on amount of deduction
The amount of your student loan interest deduction is phased out (gradually reduced) if your modified adjusted gross income (MAGI) is between
$50,000 and $65,000 ($105,000 and $135,000 if you file a joint return). You cannot take a student loan interest deduction if your MAGI is $65,000 or
more ($135,000 or more if you file a joint return).
Modified adjusted gross income (MAGI).Modified adjusted gross income (MAGI):Student loan interest deductionStudent loan interest deduction:Modified adjusted gross income (MAGI)
For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return before subtracting any deduction for student
loan interest.
MAGI when using Form 1040A.
If you file Form 1040A, your MAGI is the AGI on line 22 of that form figured without taking into account any amount on line 18 (Student loan
interest deduction) or line 19 (Tuition and fees deduction).
MAGI when using Form 1040.
If you file Form 1040, your MAGI is the AGI on line 38 of that form figured without taking into account any amount on line 33 (Student loan
interest deduction), line 34 (Tuition and fees deduction), or line 35 (Domestic production activities deduction), and modified by adding back any:
Foreign earned income exclusion,
Foreign housing exclusion,
Foreign housing deduction,
Exclusion of income for bona fide residents of American Samoa, and
Exclusion of income from Puerto Rico.
Table 4-2, next,
shows how the amount of your MAGI can affect your student loan interest deduction.
Table 4-2Effect of MAGI on Student Loan Interest Deduction
IF your filing status is...AND your MAGI is...THEN your student loan interest deduction is...single,
head of household,
ornot more than $50,000not affected by the phaseout.more than $50,000
but less than $65,000reduced because of the phaseout.qualifying widow(er)$65,000 or moreeliminated by the phaseout.married filing joint returnnot more than $105,000not affected by the phaseout.more than $105,000
but less than $135,000reduced because of the phaseout.$135,000 or moreeliminated by the phaseout.
Modified adjusted gross income (MAGI):Student loan interest deduction:Table 4-2Student loan interest deduction:Modified adjusted gross income (MAGI):Table 4-2Tables and figures:Student loan interest deduction:MAGI, effect of (Table 4-2)
If your MAGI is within the range of incomes where the credit must be reduced, you must figure your reduced deduction. To figure the phaseout,
multiply your interest deduction (before the phaseout) by a fraction. The numerator is your MAGI minus $50,000 ($105,000 in the case of a joint
return). The denominator is $15,000 ($30,000 in the case of a joint return). Subtract the result from your deduction (before the phaseout). This
result is the amount you can deduct.
Example 1.
During 2005 you paid $800 interest on a qualified student loan. Your 2005 MAGI is $130,000 and you are filing a joint return. You must reduce your
deduction by $667, figured as follows.
$800 ×$130,000 − $105,000$30,000=$667
Your reduced student loan interest deduction is $133 ($800 − $667).
Example 2.
The facts are the same as in Example 1 except that you paid $2,750 interest. Your maximum deduction for 2005 is $2,500. You must reduce
your maximum deduction by $2,083, figured as follows.
$2,500×$130,000 − $105,000$30,000=$2,083
In this example, your reduced student loan interest deduction is $417 ($2,500 − $2,083).
Which Worksheet To Use
Generally, you figure the deduction using the Student Loan Interest Deduction Worksheet in the Form 1040 or Form 1040A instructions. However, if
you are filing Form 2555, 2555-EZ, or 4563, or you are excluding income from sources within Puerto Rico, you must complete Worksheet 4-1.
Student loan interest deduction:Figuring the deductionStudent loan interest deduction:Modified adjusted gross income (MAGI)Claiming the DeductionStudent loan interest deduction:Claiming the deductionReporting:Student loan interest deduction
The student loan interest deduction is an adjustment to income. To claim the deduction, enter the allowable amount on line 33 (Form 1040) or line
18 (Form 1040A).
Worksheet 4-1.Student Loan Interest Deduction Worksheet(Keep for Your Records)
Use this worksheet instead of the worksheet in the Form 1040 instructions if you are filing Form 2555, 2555-EZ, or
4563, or you are excluding income from sources within Puerto Rico. You must complete Form 1040, lines 7 through 32, plus any
amount to be entered on the dotted line next to line 36, before using this worksheet.
1.Enter the total interest you paid in 2005 on qualified student loans. Do not enter
more than $2,5001. 2.Enter your total income from Form 1040, line 222. 3.Enter the total of amounts from Form 1040,
lines 23 through 323. 4.Enter any amount you entered on the dotted line next to Form 1040, line 364. 5.Add the amounts on lines 3 and 45. 6.Subtract the amount on line 5 from the amount on line 26. 7.Enter any foreign earned income exclusion and/or housing
exclusion (Form 2555, line 43, or Form 2555-EZ, line 18)7. 8.Enter any housing deduction (Form 2555, line 48)8. 9.Enter the amount of income from Puerto Rico that you are excluding9.10.Enter the amount of income from American Samoa that
you are excluding (Form 4563, line 15)10.11.Add the amounts on lines 6 through 10. This is your modified adjusted gross income11.12.Enter the amount shown below for your filing status12.• Single, head of household, or qualifying widow(er)—$50,000• Married filing jointly—$105,00013.Is the amount on line 11 more than the amount on line 12?□No. Skip line 14, enter -0- on line 15, and go to line 16.□Yes. Subtract line 12 from line 1113.14.Divide line 13 by $15,000 ($30,000 if married filing jointly). Enter the result as a decimal
(rounded to at least three places). If the result is 1.000 or more, enter 1.00014.. 15.Multiply line 1 by line 1415.16.Student loan interest deduction. Subtract line 15 from line 1. Enter the result here
and on Form 1040, line 33. Do not include this amount in figuring any other
deduction on your return (such as on Schedule A, C, E, etc.)16.
Student Loan Cancellations and Repayment AssistanceReminderStudent loan repayment assistance may be tax free.
Student loan repayments provided under certain federal and state repayment programs are tax free. See Student Loan Repayment Assistance,
later, for more information.
If you fulfill certain requirements, two types of student loan assistance may be tax free. The types of assistance discussed in this chapter are:
Generally, if you are responsible for making loan payments, and the loan is canceled (forgiven), you must include the amount that was forgiven in
your gross income for tax purposes. However, if your student loan is canceled, you may not have to include any amount in income. This section
describes the requirements for tax-free treatment of canceled student loans.
Qualifying Loans
To qualify for tax-free treatment, your loan must contain a provision that all or part of the debt will be canceled if you work:
For a certain period of time,
In certain professions, and
For any of a broad class of employers.
The loan must have been made by a qualified lender to assist the borrower in attending an eligible educational institution.
Qualified lenders.
These include the following.
The government—federal, state, or local, or an instrumentality, agency, or subdivision thereof.
A tax-exempt public benefit corporation that has assumed control of a state, county, or municipal hospital and whose employees are
considered public employees under state law.
An eligible educational institution, if the loan is made:
As part of an agreement with an entity described in (1) or (2) under which the funds to make the loan were provided to the educational
institution, or
Under a program of the educational institution that is designed to encourage its students to serve in occupations with unmet needs or in
areas with unmet needs where the services required of the students are for or under the direction of a governmental unit or a tax-exempt section
501(c)(3) organization.
In satisfying the service requirement in (3)(b), the student must not provide services for the lender organization.
This is any corporation, community chest, fund, or foundation organized and operated exclusively for one or more of the following purposes.
Charitable.
Religious.
Educational.
Scientific.
Literary.
Testing for public safety.
Fostering national or international amateur sports competition (but only if none of its activities involve providing athletic facilities or
equipment).
This is an educational institution that maintains a regular faculty and curriculum and normally has a regularly enrolled body of students in
attendance at the place where it carries on its educational activities.
Refinanced LoanRefinanced student loans
If you refinanced a student loan with another loan from an eligible educational institution or a tax-exempt organization, that loan may also be
considered as made by a qualified lender. It is considered made by a qualified lender if it meets the requirements of (3)(b) under Qualified
lenders beginning in the previous column.
Loan repayment programs provide student loan repayment assistance to participants on the condition that those participants provide certain
services, generally primary health services, in areas where shortages of these services exist. In tax years beginning before 2004, such amounts given
to participants for the sole purpose of repaying their student loans were taxable to the recipients.
Beginning in 2004, student loan repayment assistance you receive under the following programs is tax free.
National Health Service Corps (NHSC) Loan Repayment Program.
State programs eligible for funds under the Public Health Service Act.
You cannot deduct the interest you paid on a student loan to the extent payments were made through your participation in the above programs. This
is effective for repayment assistance received after December 1, 2003.
Loans:Student loan repayment assistanceStudent loan repayment assistanceTuition and Fees DeductionTuition and fees deduction
You may be able to deduct qualified education expenses paid during the year for yourself, your spouse, or a dependent. You cannot claim this
deduction if your filing status is married filing separately or if another person can claim an exemption for you as a dependent on his or her tax
return. The qualified expenses must be for higher education, as explained later under Qualified Education Expenses.
What is the tax benefit of the tuition and fees deduction.Tuition and fees deduction:Tax benefit of
The tuition and fees deduction can reduce the amount of your income subject to tax by up to $4,000.
This deduction is taken as an adjustment to income. This means you can claim this deduction even if you do not itemize deductions on Schedule A
(Form 1040). This deduction may be beneficial to you if you cannot take either the Hope or lifetime learning credit because your income is too high.
Table 6-1
summarizes the features of the tuition and fees deduction.
You may be able to take the Hope or lifetime learning credit for your education expenses instead of a tuition and fees deduction. You can choose
the one that will give you the lower tax. See chapters 2 and 3 for details about the credits.
Can You Claim the DeductionTuition and fees deduction:Qualifying for deductionCan you claim the deduction
The following rules will help you determine if you can claim the tuition and fees deduction.
Who Can Claim the Deduction
Generally, you can claim the tuition and fees deduction if all three of the following requirements are met.
You pay qualified education expenses of higher education.
You pay the education expenses for an eligible student.
The eligible student is yourself, your spouse, or a dependent for whom you claim an exemption on your tax return.
Qualified education expenses are defined on the next page under What Expenses Qualify. Eligible students are defined
later under Who Is an Eligible Student. A dependent for whom you claim an exemption is defined later under Who Can Claim a
Dependent's Expenses.
Who Cannot Claim the Deduction
You cannot claim the tuition and fees deduction if any of the following apply.
Your filing status is married filing separately.
Another person can claim an exemption for you as a dependent on his or her tax return. You cannot take the deduction even if the other
person does not actually claim that exemption.
Your modified adjusted gross income (MAGI) is more than $80,000 ($160,000 if filing a joint return).
You were a nonresident alien for any part of the year and did not elect to be treated as a resident alien for tax purposes. More information
on nonresident aliens can be found in Publication 519, U.S. Tax Guide for Aliens.
You or anyone else claims a Hope or lifetime learning credit in 2005 with respect to expenses of the student for whom the qualified
education expenses were paid.
Table 6-1.Tuition and Fees Deduction at a Glance
Do not rely on this table alone. Refer to the text for complete details.
QuestionAnswerWhat is the maximum benefit?You can reduce your income subject to tax by up to $4,000. Where is the deduction taken?As an adjustment to income on Form 1040 or 1040A. For whom must the expenses be paid?A student enrolled in an eligible educational institution who is either:
• you,
• your spouse, or
• your dependent for whom you claim an exemption. What tuition and fees are deductible?Tuition and fees required for enrollment or attendance at an eligible postsecondary educational institution, but not including
personal, living, or family expenses, such as room and board.
Tables and figures:Tuition and fees deduction:Overview (Table 6-1)Tuition and fees deduction:Overview (Table 6-1)
What Expenses QualifyTuition and fees deduction:Expenses qualifying forQualified education expenses:Tuition and fees deductionTuition and fees deduction:Qualified education expenses
The tuition and fees deduction is based on qualified education expenses you pay for yourself, your spouse, or a dependent for whom you claim an
exemption on your tax return. Generally, the deduction is allowed for qualified education expenses paid in 2005 in connection with enrollment at an
institution of higher education during 2005 or for an academic period beginning in 2005 or in the first 3 months of 2006.
For example, if you paid $1,500 in December 2005 for qualified tuition for the Spring 2006 semester beginning in January 2006, you may be able to
use that $1,500 in figuring your 2005 deduction.
Academic period.Academic period:Tuition and fees deductionTuition and fees deduction:Academic period
An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by
an educational institution. In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each
payment period can be treated as an academic period.
Paid with borrowed funds.Tuition and fees deduction:Loan used to pay tuition and fees
You can claim a tuition and fees deduction for qualified education expenses paid with the proceeds of a loan. You use the expenses to figure the
deduction for the year in which the expenses are paid, not the year in which the loan is repaid. Treat loan payments sent directly to the educational
institution as paid on the date the institution credits the student's account.
Student withdraws from class(es).
You can claim a tuition and fees deduction for qualified education expenses not refunded when a student withdraws.
Qualified Education Expenses
For purposes of the tuition and fees deduction, qualified education expenses are tuition and certain related expenses required for enrollment or
attendance at an eligible educational institution.
Eligible educational institution.Eligible educational institution:Tuition and fees deductionTuition and fees deduction:Eligible educational institution
An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to
participate in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and
proprietary (privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible
educational institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
Related expenses.
Student-activity fees and expenses for course-related books, supplies, and equipment are included in qualified education expenses only if the fees
and expenses must be paid to the institution as a condition of enrollment or attendance.
In the following examples, assume that each student is an eligible student and each college or university an eligible educational institution.
Example 1.
Jackson is a sophomore in University V's degree program in dentistry. This year, in addition to tuition, he is required to pay a fee to the
university for the rental of the dental equipment he will use in this program. Because the equipment rental fee must be paid to University V for
enrollment and attendance, Jackson's equipment rental fee is a qualified expense.
Example 2.
Donna and Charles, both first-year students at College W, are required to have certain books and other reading materials to use in their mandatory
first-year classes. The college has no policy about how students should obtain these materials, but any student who purchases them from College W's
bookstore will receive a bill directly from the college. Charles bought his books from a friend, so what he paid for them is not a qualified education
expense. Donna bought hers at College W's bookstore. Although Donna paid College W directly for her first-year books and materials, her payment is not
a qualified education expense because the books and materials are not required to be purchased from College W for enrollment or attendance at the
institution.
Example 3.
When Marci enrolled at College X for her freshman year, she had to pay a separate student activity fee in addition to her tuition. This activity
fee is required of all students, and is used solely to fund on-campus organizations and activities run by students, such as the student newspaper and
the student government. No portion of the fee covers personal expenses. Although labeled as a student activity fee, the fee is required for Marci's
enrollment and attendance at College X. Therefore, it is a qualified expense.
No Double Benefit AllowedDouble benefit not allowed:Tuition and fees deductionTuition and fees deduction:Double benefit not allowed
You cannot do any of the following.
Deduct qualified education expenses you deduct under any other provision of the law, for example, as a business expense.
Deduct qualified education expenses for a student on your income tax return if you or anyone else claims a Hope or lifetime learning credit
for that same student in the same year.
Deduct qualified education expenses that have been used to figure the tax-free portion of a distribution from a Coverdell education savings
account (ESA) or a qualified tuition program (QTP). For a QTP, this applies only to the amount of tax-free earnings that were distributed, not to the
recovery of contributions to the program. See Figuring the Taxable Portion of a Distribution in chapter 7 (Coverdell ESA) and in chapter 8
(QTP).
Deduct qualified education expenses that have been paid with tax-free interest on U.S. savings bonds (Form 8815). See Figuring the
Tax-Free Amount in chapter 10.
Deduct qualified education expenses that have been paid with tax-free scholarship, grant, or employer- provided educational assistance. See
the following section on Adjustments to Qualified Education Expenses.
Adjustments to Qualified Education ExpensesQualified education expenses:Adjustments to:Tuition and fees deductionTuition and fees deduction:Adjustments to qualified education expenses
If you pay qualified education expenses with certain tax-free funds, you cannot claim a deduction for those amounts. You must reduce the qualified
education expenses by the amount of any tax-free educational assistance and refund(s) you received.
Tax-free educational assistance.Tax-free educational assistance:Tuition and fees deductionTuition and fees deduction:Tax-free educational assistance
This includes:
The tax-free part of scholarships and fellowships (see chapter 1),
Pell grants (see chapter 1),
Employer-provided educational assistance (see chapter 11),
Veterans' educational assistance (see chapter 1), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Refunds.Refunds:Tuition and fees deductionTuition and fees deduction:Refunds
Qualified education expenses do not include expenses for which you, or someone else who paid qualified education expenses on behalf of a student,
receive a refund. (For information on expenses paid by a dependent student or third party, see Who Can Claim a Dependent's Expenses,
later.)
If a refund of expenses paid in 2005 is received before you file your tax return for 2005, simply reduce the amount of the expenses paid by the
amount of the refund received. If the refund is received after you file your 2005 tax return, see When Must the Deduction Be Repaid
(Recaptured), at the end of this chapter.
You are considered to receive a refund of expenses when an eligible educational institution refunds loan proceeds to the lender on behalf of the
borrower. Follow the above instructions according to when you are considered to receive the refund.
Amounts that do not reduce qualified education expenses.
Do not reduce qualified education expenses by amounts paid with funds the student receives as:
Payment for services, such as wages,
A loan,
A gift,
An inheritance, or
A withdrawal from the student's personal savings.
Do not reduce the qualified education expenses by any scholarship or fellowship reported as income on the student's tax return in the following
situations.
The use of the money is restricted to costs of attendance (such as room and board) other than qualified education expenses.
The use of the money is not restricted and is used to pay education expenses that are not qualified (such as room and board).
Example 1.
In 2005, Jackie paid $3,000 for tuition and $5,000 for room and board at University X. The university did not require her to pay any fees in
addition to her tuition in order to enroll in or attend classes. To help pay these costs, she was awarded a $2,000 scholarship and a $4,000 student
loan.
The terms of the scholarship state that it may be used to pay any of Jackie's college expenses. Because she applied it toward her tuition, the
scholarship is tax free. Therefore, for purposes of figuring the tuition and fees deduction, she must first use the $2,000 scholarship to reduce her
tuition (her only qualified education expense). The student loan is not tax-free educational assistance, so she does not use it to reduce her
qualified expenses. Jackie is treated as having paid $1,000 in qualified education expenses ($3,000 tuition – $2,000 scholarship) in 2005.
Example 2.
The facts are the same as in Example 1, except that Jackie uses the $2,000 scholarship to pay room and board and, therefore, reports her
entire scholarship as income on her tax return. In this case, the scholarship is allocated to expenses other than qualified education expenses. Jackie
is treated as paying the entire $3,000 tuition with other funds, and can figure her tuition and fees deduction on the entire $3,000.
Tuition and fees deduction:Expenses qualifying forQualified education expenses:Tuition and fees deductionTuition and fees deduction:Qualified education expensesExpenses That Do Not QualifyTuition and fees deduction:Expenses not qualifying for
Qualified education expenses:Expenses not qualified:Tuition and fees deductionQualified education expenses do not include amounts paid for:
Insurance,
Medical expenses (including student health fees),
Room and board,
Transportation, or
Similar personal, living, or family expenses.
This is true even if the amount must be paid to the institution as a condition of enrollment or attendance.
Sports, games, hobbies, and noncredit courses.Sports, games, hobbies, and noncredit courses:Tuition and fees deduction
Qualified education expenses generally do not include expenses that relate to any course of instruction or other education that involves sports,
games or hobbies, or any noncredit course. However, if the course of instruction or other education is part of the student's degree program, these
expenses can qualify.
Comprehensive or bundled fees.Comprehensive or bundled fees:Tuition and fees deduction
Some eligible educational institutions combine all of their fees for an academic period into one amount. If you do not receive or do not have
access to an allocation showing how much you paid for qualified education expenses and how much you paid for personal expenses, such as those listed
above, contact the institution. The institution is required to make this allocation and provide you with the amount you paid (or were billed) for
qualified education expenses on Form 1098-T, Tuition Statement. See Figuring the Deduction, later, for more information about Form 1098-T.
Who Is an Eligible Student
Eligible student:Tuition and fees deductionTuition and fees deduction:Eligible studentFor purposes of the tuition and fees deduction, an eligible student is a student who is enrolled in one or
more courses at an eligible educational institution (as defined under Qualified Education Expenses, earlier). The student must have either
a high school diploma or a General Educational Development (GED) credential.
Who Can Claim a
Dependent's Expenses
Tuition and fees deduction:Claiming dependent's expensesGenerally, in order to claim the tuition and fees deduction for qualified education expenses
for a dependent, you must:
Have paid the expenses, and
Claim an exemption for the student as a dependent.
For you to be able to deduct qualified education expenses for your dependent, you must claim an exemption for that individual. You do this by
listing your dependent's name and other required information on Form 1040 (or Form 1040A), line 6c.
IF your dependent is an eligible student and you...AND...THEN...claim an exemption for your dependent you paid all qualified education expenses for your dependentonly you can deduct the qualified education expenses that you paid. Your dependent cannot take a
deduction.claim an exemption for your dependentyour dependent paid all qualified education expensesno one is allowed to take a deduction.do not claim an exemption for your dependent, but are eligible toyou paid all qualified education expensesno one is allowed to take a deduction.do not claim an exemption for your dependent, but are eligible toyour dependent paid all qualified education expensesno one is allowed to take a deduction.are not eligible to claim an exemption for your dependentyou paid all qualified education expensesonly your dependent can deduct the amount you paid. The amount you paid is treated as a gift to your
dependent.are not eligible to claim an exemption for your dependentyour dependent paid all qualified education expensesonly your dependent can take a deduction.
Expenses paid by dependent.
If your dependent pays qualified education expenses and you can claim an exemption for your dependent on your tax return, no one can take a tuition
and fees deduction for those expenses. Neither you nor your dependent can deduct the expenses. For purposes of the tuition and fees deduction, you are
not treated as paying any expenses actually paid by a dependent for whom you or anyone other than the dependent can claim an exemption. This rule
applies even if you do not claim an exemption for your dependent on your tax return.
Expenses paid by you.
If you claim an exemption for a dependent who is an eligible student, only you can include any expenses you paid when figuring your tuition and
fees deduction. If neither you nor anyone else can claim an exemption for a dependent who is an eligible student, the dependent can include any
expenses you paid when figuring the amount of his or her tuition and fees deduction.
Expenses paid under divorce decree.Divorce:Expenses paid under decree:Tuition and fees deduction
Qualified education expenses paid directly to an eligible educational institution for a student under a court-approved divorce decree are treated
as paid by the student. Only the student would be eligible to take a tuition and fees deduction for that payment, and then only if no one else could
claim an exemption for the student.
Expenses paid by others.
Someone other than you, your spouse, or your dependent (such as a relative or former spouse) may make a payment directly to an eligible educational
institution to pay for an eligible student's qualified education expenses. In this case, the student is treated as receiving the payment from the
other person and, in turn, paying the institution. If you claim, or can claim, an exemption on your tax return for the student, you are not considered
to have paid the expenses and you cannot deduct them. If the student is not a dependent, only the student can deduct payments made directly to the
institution for his or her expenses. If the student is your dependent, no one can deduct the payments.
Example.
In 2005, Ms. Baker makes a payment directly to an eligible educational institution for her grandson Dan's qualified education expenses. For
purposes of deducting tuition and fees, Dan is treated as receiving the money as a gift from his grandmother and, in turn, paying his own qualified
education expenses.
If an exemption cannot be claimed for Dan on anyone else's tax return, only Dan can claim a tuition and fees deduction for his grandmother's
payment. If someone else can claim an exemption for Dan, no one will be allowed a deduction for Ms. Baker's payment.
Tuition reduction.Tuition reduction:Tuition and fees deduction
When an eligible educational institution provides a reduction in tuition to an employee of the institution (or spouse or dependent child of an
employee), the amount of the reduction may or may not be taxable. If it is taxable, the employee is treated as receiving a payment of that amount and,
in turn, paying it to the educational institution on behalf of the student. For more information on tuition reductions, see Qualified Tuition
Reduction in chapter 1.
Figuring the Deduction
Tuition and fees deduction:Figuring the deductionThe maximum tuition and fees deduction in 2005 is $4,000, $2,000, or $0, depending on the amount of
your modified adjusted gross income (MAGI). See Effect of the Amount of Your Income on the Amount of Your Deduction, on the next page.
Form 1098-T.Form 1098-T:Tuition and fees deduction
To help you figure your tuition and fees deduction, you should receive Form 1098-T. Generally, an eligible educational institution (such as a
college or university) must send Form 1098-T (or acceptable substitute) to each enrolled student by January 31, 2006. An institution may choose to
report either payments received (box 1), or amounts billed (box 2), for qualified education expenses. In addition, your Form 1098-T should give you
other information for that institution, such as adjustments made for prior years, the amount of scholarships or grants, reimbursements or refunds, and
whether you were enrolled at least half-time or were a graduate student.
Form W-9SThe eligible educational institution may ask for a completed Form W-9S, Request for Student's or Borrower's Taxpayer
Identification Number and Certification, or similar statement to obtain the student's name, address, and taxpayer identification number.
Effect of the Amount of Your Income on the Amount of Your DeductionTuition and fees deduction:Income level, effect on amount of deduction
If your modified adjusted gross income (MAGI) is not more than $65,000 ($130,000 if you are married filing jointly), your maximum tuition and fees
deduction is $4,000. If your MAGI is larger than $65,000 ($130,000), but is not more than $80,000 ($160,000 if you are married filing jointly), your
maximum deduction is $2,000. No tuition and fees deduction is allowed if your MAGI is larger than $80,000 ($160,000).
Modified adjusted gross income (MAGI).Modified adjusted gross income (MAGI):Tuition and fees deductionTuition and fees deduction:Modified adjusted gross income (MAGI)
For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return.
MAGI when using Form 1040A.
If you file Form 1040A, your MAGI is the AGI on line 22 of that form, figured without taking into account any amount on line 19 (Tuition and fees
deduction).
MAGI when using Form 1040.
If you file Form 1040, your MAGI is the AGI on line 38 of that form, figured without taking into account any amount on line 34 (Tuition and fees
deduction) or line 35 (Domestic production activities deduction), and modified by adding back any:
Foreign earned income exclusion,
Foreign housing exclusion,
Foreign housing deduction,
Exclusion of income for bona fide residents of American Samoa, and
Exclusion of income from Puerto Rico.
Table 6-2
shows how the amount of your MAGI can affect your tuition and fees deduction.
Table 6-2.Effect of MAGI on Maximum Tuition and Fees Deduction
IF your filing status is...AND your MAGI is...THEN your maximum tuition and fees deduction is...single,
head of household,
ornot more than $65,000$4,000.more than $65,000
but not more than $80,000$2,000.qualifying widow(er)more than $80,000$0.married filing joint returnnot more than $130,000$4,000.more than $130,000
but not more than $160,000$2,000.more than $160,000$0.
Modified adjusted gross income (MAGI):Tuition and fees deduction:Table 6-2Tuition and fees deduction:Modified adjusted gross income (MAGI):Table 6-2Tables and figures:Tuition and fees deduction:MAGI, effect of (Table 6-2)
You can use Worksheet 6-1
to figure your MAGI.
Claiming the DeductionTuition and fees deduction:Claiming the deductionReporting:Tuition and fees deduction
You claim a tuition and fees deduction by entering the amount you have figured on Form 1040, line 34, or Form 1040A, line 19.
When Must the Deduction Be Repaid (Recaptured)Recapture:Tuition and fees deductionTuition and fees deduction:Repayment of deduction
If, after you file your 2005 tax return, you or someone else receives tax-free educational assistance for, or a refund of, an expense you used to
figure a tuition and fees deduction on that return, you may have to repay all or part of the deduction. This applies to assistance and refunds
received by the individual claiming the deduction, and, in the case of a student who claims the deduction, refunds received by anyone else who paid
such expenses for the student.
You must include the assistance or refund in income in the year you receive it to the extent that the deduction of the refunded amount reduced your
tax in 2005. See Non-Itemized Deduction Recoveries in Publication 525, Taxable and Nontaxable Income, for more information. Your 2005 tax
return does not change.
Worksheets:Tuition and fees deduction, MAGI calculation (Worksheet 6-1)Tuition and fees deduction:Modified adjusted gross income (MAGI):Worksheet 6-1Modified adjusted gross income (MAGI):Tuition and fees deduction:Worksheet 6-1Tuition and fees deduction
Worksheet 6-1.MAGI for the Tuition and Fees Deduction(Keep for Your Records)
Use this worksheet instead of the worksheet in the Form 1040 instructions if you are filing Form 2555, 2555-EZ, or
4563, or you are excluding income from sources within Puerto Rico. Before using this worksheet, you must complete Form 1040,
lines 7 through 33 and figure any amount to be entered on the dotted line next to line 36.
1.Enter the amount from Form 1040, line 22 1. 2.Enter the total from Form 1040, lines 23 through 332. 3.Enter any amount entered on the dotted line next to Form 1040, line 363. 4.Add the amounts on lines 2 and 3 4. 5.Subtract the amount on line 4 from the amount on line 1 5. 6. Enter your foreign earned income exclusion and/or housing
exclusion (Form 2555, line 43, or Form 2555-EZ, line 18) 6. 7.Enter your foreign housing deduction (Form 2555, line 48) 7. 8.Enter the amount of income from Puerto Rico you are excluding 8. 9.Enter the amount of income from American Samoa you are
excluding (Form 4563, line 15) 9.10.Add the amounts on lines 5 through 9. This is your modified adjusted gross
income10.Note.If the amount on line 10 is more than $80,000 ($160,000 if married
filing jointly),
you cannot take the deduction for tuition and fees.
If your modified adjusted gross income (MAGI) is less than $110,000 ($220,000 if filing a joint return), you may be able to establish a Coverdell
ESA to finance the qualified education expenses of a designated beneficiary. For most taxpayers, MAGI is the adjusted gross income as figured on their
federal income tax return.
There is no limit on the number of separate Coverdell ESAs that can be established for a designated beneficiary. However, total contributions for
the beneficiary in any year cannot be more than $2,000, no matter how many accounts have been established. See Contributions, later.
This benefit applies not only to higher education expenses, but also to elementary and secondary education expenses.
What is the tax benefit of the Coverdell ESA.Coverdell education savings account (ESA):Tax benefit of
Contributions to a Coverdell ESA are not deductible, but amounts deposited in the account grow tax free until distributed.
If, for a year, distributions from an account are not more than a designated beneficiary's qualified education expenses at an eligible educational
institution, the beneficiary will not owe tax on the distributions. See Tax-Free Distributions, later.
Table 7-1
Coverdell education savings account (ESA):Overview (Table 7-1)Tables and figures:Coverdell ESAs:Overview (Table 7-1)summarizes the main features of the Coverdell ESA.
What Is a Coverdell ESA
Coverdell education savings account (ESA):DefinedDesignated beneficiary:Coverdell ESAA Coverdell ESA is a trust or custodial account created or organized in the United States only for the purpose
of paying the qualified education expenses of the designated beneficiary of the account.
When the account is established, the designated beneficiary must be under age 18 or a special needs beneficiary.
To be treated as a Coverdell ESA, the account must be designated as a Coverdell ESA when it is created.
The document creating and governing the account must be in writing and must satisfy the following requirements.
The trustee or custodian must be a bank or an entity approved by the IRS.
The document must provide that the trustee or custodian can only accept a contribution that meets all of the following conditions.
The contribution is in cash.
The contribution is made before the beneficiary reaches age 18, unless the beneficiary is a special needs beneficiary.
The contribution would not result in total contributions for the year (not including rollover contributions) being more than
$2,000.
Money in the account cannot be invested in life insurance contracts.
Money in the account cannot be combined with other property except in a common trust fund or common investment fund.
The balance in the account generally must be distributed within 30 days after the earlier of the following events.
The beneficiary reaches age 30, unless the beneficiary is a special needs beneficiary.
The beneficiary's death.
As of this printing, regulations defining a special needs beneficiary have not been released. If available, the definition will be included
in Publication 553, Highlights of 2005 Tax Changes, which will be issued in early 2006.
Table 7-1.Coverdell ESA at a Glance
Do not rely on this table alone. It provides only general highlights. See the text for definitions of terms in bold type and for
more complete explanations.
QuestionAnswerWhat is a Coverdell ESA?A savings account that is set up to pay the qualified education expenses of a designated beneficiary.
Where can it be established?It can be opened in the United States at any bank or other IRS-approved entity that offers Coverdell ESAs. Who can have a Coverdell ESA?Any beneficiary who is under age 18 or is a special needs beneficiary. Who can contribute to a Coverdell ESA?Generally, any individual (including the beneficiary) whose modified adjusted gross income for the year is less than
$110,000 ($220,000 in the case of a joint return). Are distributions tax free?Yes, if the distributions are not more than the beneficiary's adjusted qualified education expenses for the year.
Generally, these are expenses required for the enrollment or attendance of the designated beneficiary at an eligible educational institution. For
purposes of Coverdell ESAs, the expenses can be either qualified higher education expenses or qualified elementary and secondary education expenses.
Designated beneficiary.
This is the individual named in the document creating the trust or custodial account to receive the benefit of the funds in the account.
For purposes of Coverdell ESAs, an eligible educational institution can be either an eligible postsecondary school or an eligible elementary or
secondary school.
Eligible postsecondary school.
This is any college, university, vocational school, or other postsecondary educational institution eligible to participate in a student aid program
administered by the Department of Education. It includes virtually all accredited public, nonprofit, and proprietary (privately owned profit-making)
postsecondary institutions. The educational institution should be able to tell you if it is an eligible educational institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
Eligible elementary or secondary school.Eligible elementary or secondary school:Coverdell ESA
This is any public, private, or religious school that provides elementary or secondary education (kindergarten through grade 12), as determined
under state law.
Qualified Higher Education Expenses
These are expenses related to enrollment or attendance at an eligible postsecondary school. As shown in the following list, to be qualified, some
of the expenses must be required by the school and some must be incurred by students who are enrolled at least half-time. Contributions to qualified
tuition programs can be qualified education expenses (see item (4) in the following list).
The following expenses must be required for enrollment or attendance of a designated beneficiary at an eligible postsecondary school.
Tuition and fees.
Books, supplies, and equipment.
Expenses for special needs services needed by a special needs beneficiary must be incurred in connection with enrollment or attendance at an
eligible postsecondary school. (See Caution in the next column.)
Expenses for room and board must be incurred by students who are enrolled at least half-time (defined in the next column).
The expense for room and board qualifies only to the extent that it is not more than the greater of the following two amounts.
The allowance for room and board, as determined by the school, that was included in the cost of attendance (for federal financial aid
purposes) for a particular academic period and living arrangement of the student.
The actual amount charged if the student is residing in housing owned or operated by the school.
Any contribution to a qualified tuition program (QTP) must be on behalf of the designated beneficiary of the Coverdell ESA or, in the case
of a change in beneficiary, a family member of the designated beneficiary. (See chapter 8, Qualified Tuition Program (QTP).)
Half-time student.Half-time student:Coverdell ESA
A student is enrolled at least half-time if he or she is enrolled for at least half the full-time academic work load for the course of study
the student is pursuing, as determined under the standards of the school where the student is enrolled.
Qualified Elementary and
Secondary Education ExpensesQualified elementary and secondary education expenses:Coverdell ESAs
These are expenses related to enrollment or attendance at an eligible elementary or secondary school. As shown in the following list, to be
qualified, some of the expenses must be required or provided by the school. There are special rules for computer-related expenses.
The following expenses must be incurred by a designated beneficiary in connection with enrollment or attendance at an eligible elementary or
secondary school.
Tuition and fees.
Books, supplies, and equipment.
Academic tutoring.
Special needs services for a special needs beneficiary. (See Caution below.)
The following expenses must be required or provided by an eligible elementary or secondary school in connection with attendance or
enrollment at the school.
Room and board.
Uniforms.
Transportation.
Supplementary items and services (including extended day programs).
The purchase of computer technology, equipment, or Internet access and related services is a qualified elementary and secondary education
expense if it is to be used by the beneficiary and the beneficiary's family during any of the years the beneficiary is in elementary or secondary
school. (This does not include expenses for computer software designed for sports, games, or hobbies unless the software is predominantly educational
in nature.)
As of this printing, regulations defining a special needs beneficiary have not been released. If available, the definition will be included
in Publication 553, Highlights of 2005 Tax Changes, which will be issued in early 2006.
Contributions
Coverdell education savings account (ESA):Contributions toAny individual (including the designated beneficiary) can contribute to a Coverdell ESA if the individual's
modified adjusted gross income (MAGI) (defined later under Contribution Limits) for the year is less than $110,000. For individuals filing
joint returns, that amount is $220,000.
Organizations, such as corporations and trusts, can also contribute to Coverdell ESAs. There is no requirement that an organization's income be
below a certain level.
Contributions must meet all of the following requirements.
They must be in cash.
They cannot be made after the beneficiary reaches age 18, unless the beneficiary is a special needs beneficiary, and
They must be made by the due date of the contributor's tax return (not including extensions).
Contributions can be made to one or several Coverdell ESAs for the same designated beneficiary provided that the total contributions are not more
than the contribution limits (defined later) for a year.
Contributions can be made, without penalty, to both a Coverdell ESA and a QTP in the same year for the same beneficiary.
When contributions considered made.
Contributions made to a Coverdell ESA for the preceding tax year are considered to have been made on the last day of the preceding year. They must
be made by the due date (not including extensions) for filing your return for the preceding year.
For example, if you make a contribution to a Coverdell ESA in February of 2006, and you designate it as a contribution for 2005, you are considered
to have made that contribution on December 31, 2005.
Table 7-2 summarizes many of the features of contributing to a Coverdell ESA.
Coverdell education savings account (ESA):Contributions to:Table 7-2Tables and figures:Coverdell ESAs:Contributions to (Table 7-2)
Table 7-2.Coverdell ESA Contributions at a Glance
Do not rely on this table alone. It provides only general highlights. See the text for more complete
explanations.
QuestionAnswerAre contributions deductible?No. Why should someone contribute to a Coverdell ESA?Earnings on the account grow tax free until distributed. What is the annual contribution limit per designated beneficiary?$2,000 for each designated beneficiary. What if more than one Coverdell ESA has been opened for the same designated beneficiary?The annual contribution limit is $2,000 for each beneficiary, no matter how many Coverdell ESAs are set up for that
beneficiary. What if more than one individual makes contributions for the same designated beneficiary?The annual contribution limit is $2,000 per beneficiary, no matter how many individuals contribute. Can contributions other than cash be made to a Coverdell ESA?No. When must contributions stop?No contributions can be made to a beneficiary's Coverdell ESA after he or she reaches age 18, unless the
beneficiary is a special needs beneficiary.
One on the total amount that can be contributed for each designated beneficiary in any year, and
One on the amount that any individual can contribute for any one designated beneficiary for a year.
Limit for each designated beneficiary.
For 2005, the total of all contributions to all Coverdell ESAs set up for the benefit of any one designated beneficiary cannot be more than $2,000.
This includes contributions (other than rollovers) to all the beneficiary's Coverdell ESAs from all sources. Rollovers are discussed under
Rollovers and Other Transfers, later.
Example.
When Maria Luna was born in 2004, three separate Coverdell ESAs were set up for her, one by her parents, one by her grandfather, and one by her
aunt. In 2005, the total of all contributions to Maria's three Coverdell ESAs cannot be more than $2,000. For example, if her grandfather contributed
$2,000 to one of her Coverdell ESAs, no one else could contribute to any of her three accounts. Or, if her parents contributed $1,000 and her aunt
$600, her grandfather or someone else could contribute no more than $400. These contributions could be put into any of Maria's Coverdell ESA accounts.
Limit for each contributor.
Generally, you can contribute up to $2,000 for each designated beneficiary for 2005. This is the most you can contribute for the benefit of any one
beneficiary for the year, regardless of the number of Coverdell ESAs set up for the beneficiary.
Example.
The facts are the same as in the previous example except that Maria Luna's older brother, Edgar, also has a Coverdell ESA. If their grandfather
contributed $2,000 to Maria's Coverdell ESA in 2005, he could also contribute $2,000 to Edgar's Coverdell ESA.
Reduced limit.
Your contribution limit may be reduced. If your modified adjusted gross income (MAGI) (defined below) is between $95,000 and $110,000 (between
$190,000 and $220,000 if filing a joint return), the $2,000 limit for each designated beneficiary is gradually reduced (see Figuring the
limit, later). If your MAGI is $110,000 or more ($220,000 or more if filing a joint return), you cannot contribute to anyone's Coverdell ESA.
Modified adjusted gross income (MAGI).Coverdell education savings account (ESA):Modified adjusted gross income (MAGI)Modified adjusted gross income (MAGI):Coverdell ESA
For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return.
MAGI when using Form 1040A.
If you file Form 1040A, your MAGI is the AGI on line 22 of that form.
MAGI when using Form 1040.
If you file Form 1040, your MAGI is the AGI on line 38 of that form, modified by adding back any:
Foreign earned income exclusion,
Foreign housing exclusion,
Exclusion of income for bona fide residents of American Samoa, and
Exclusion of income from Puerto Rico.
You can use Worksheet 7-1
to figure your MAGI.
Worksheet 7-1. MAGI for a Coverdell ESA
1.Enter your adjusted gross income
(Form 1040, line 38) 1.2. Enter your foreign earned income exclusion and/or housing exclusion (Form 2555, line 43, or Form
2555-EZ, line 18)2.3.Enter the amount of income from Puerto Rico that you
are excluding3.4.Enter the amount of income from American Samoa that you are excluding (Form 4563, line 15)4.5.Add the amounts on
lines 2, 3, and 45.6.Add the amounts on lines 1 and 5.
This is your modified adjusted
gross income6.
Coverdell education savings account (ESA):Modified adjusted gross income (MAGI):Worksheet 7-1Modified adjusted gross income (MAGI):Coverdell ESA:Worksheet 7-1Worksheets:Coverdell ESA:MAGI, calculation of (Worksheet 7-1)
Figuring the limit.
Coverdell education savings account (ESA):Contribution limits:Figuring the limit (Worksheet 7-2)Worksheets:Coverdell ESA:Contribution limit (Worksheet 7-2)To figure the limit on the amount you can contribute for each designated
beneficiary, multiply $2,000 by a fraction. The numerator (top number) is your MAGI minus $95,000 ($190,000 if filing a joint return). The denominator
(bottom number) is $15,000 ($30,000 if filing a joint return). Subtract the result from $2,000. This is the amount you can contribute for each
beneficiary. You can use Worksheet 7-2
to figure the limit on your contributions.
Worksheet 7-2. Coverdell ESA Contribution Limit
1.Maximum contribution1.$ 2,0002.Enter your modified adjusted gross income (MAGI) for purposes of figuring the
contribution limit to a Coverdell ESA (see definition or Worksheet 7-1 earlier) 2.3. Enter $190,000 if married filing jointly; $95,000 for all other filers3.4. Subtract line 3 from line 2. If zero or less, enter -0- on line 4, skip lines 5
through 7, and enter $2,000 on line 84.5.Enter $30,000 if married filing jointly; $15,000 for all other filers5.Note.If the amount on line 4 is greater than or equal to the amount
on line 5, stop here. You are not allowed to contribute to a Coverdell ESA for 2005.6.Divide line 4 by line 5 and enter the result as a decimal (rounded to at least 3
places)6. .7.Multiply line 1 by line 67.8.Subtract line 7 from line 18.Note:The total Coverdell ESA contributions from all sources for the designated
beneficiary during the tax year may not exceed $2,000.
Example.
Paul, who is single, had MAGI of $96,500 for 2005. Paul can contribute up to $1,800 in 2005 for each beneficiary, as shown in the illustrated
Worksheet 7-2.
Worksheet 7-2.Coverdell ESA Contribution
Limit—Illustrated
1.Maximum contribution1.$ 2,0002.Enter your modified adjusted gross income (MAGI) for purposes of figuring the
contribution limit to a Coverdell ESA (see definition or Worksheet 7-1 earlier) 2.96,5003. Enter $190,000 if married filing jointly; $95,000 for all other filers3.95,0004. Subtract line 3 from line 2. If zero or less, enter -0- on line 4, skip lines 5
through 7, and enter $2,000 on line 84.1,5005.Enter $30,000 if married filing jointly; $15,000 for all other filers5.15,000Note.If the amount on line 4 is greater than or equal to the amount
on line 5,
stop here. You are not allowed to
contribute to a Coverdell ESA for 2005.6.Divide line 4 by line 5 and enter the result as a decimal (rounded to at least 3
places)6. .1007.Multiply line 1 by line 67.2008.Subtract line 7 from line 18.1,800Note: The total Coverdell ESA contributions from all sources for the designated
beneficiary during the tax year may not exceed $2,000.
The beneficiary must pay a 6% excise tax each year on excess contributions that are in a Coverdell ESA at the end of the year. Excess contributions
are the total of the following two amounts.
Contributions to any designated beneficiary's Coverdell ESA for the year that are more than $2,000 (or, if less, the total of each
contributor's limit for the year, as discussed earlier).
Excess contributions for the preceding year, reduced by the total of the following two amounts:
Distributions (other than those rolled over as discussed later) during the year, and
The contribution limit for the current year minus the amount contributed for the current year.
Exceptions.
The excise tax does not apply if excess contributions made during 2005 (and any earnings on them) are distributed before the first day of the sixth
month of the following tax year (June 1, 2006, for a calendar year taxpayer).
However, you must include the distributed earnings in gross income for the year in which the excess contribution was made. You should receive Form
1099-Q, Payments From Qualified Education Programs (Under Sections 529 and 530),
Form 1099-Q:Coverdell ESA from each institution from which excess contributions were distributed. Box 2 of that form will show the
amount of earnings on your excess contributions. Enter the amount of earnings on line 21 of Form 1040. For more information, see Taxable
Distributions, later.
The excise tax does not apply to any rollover contribution.
Note.
Contributions made in one year for the preceding taxable year are considered to have been made on the last day of the preceding year.
Example.
In 2004, Greta's parents and grandparents contributed a total of $2,300 to Greta's Coverdell ESA, an excess contribution of $300. Because Greta did
not withdraw the excess before June 1, 2005, she had to pay an additional tax of $18 (6% × $300) when she filed her 2004 tax return.
In 2004, excess contributions to the same account totaled $500, but Greta withdrew $250 to use for qualified education expenses. Using the steps
shown under Additional Tax on Excess Contributions, Greta figures the excess contribution in her account at the end of 2005 as follows.
(1)$500 excess paid in 2005+ (2)$300 excess contributions at end
of 2004− (2a)$250 distribution during 2005$550 excess at end of 2005× 6% = $33
If Greta limits 2006 contributions to $1,450 ($2,000 maximum allowed − $550 excess contributions from 2005), she will not owe any
additional tax in 2006 for excess contributions.
Figuring the additional tax.
You figure this excise tax in Part V, Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts. Report the
additional tax on Form 1040, line 60.
Coverdell education savings account (ESA):Contributions toRollovers and Other Transfers
Assets can be rolled over from one Coverdell ESA to another or the designated beneficiary can be changed. The beneficiary's interest can be
transferred to a spouse or former spouse because of divorce.
RolloversCoverdell education savings account (ESA):RolloversTransfersRollovers:Coverdell ESATransfers:Coverdell ESA
Any amount distributed from a Coverdell ESA is not taxable if it is rolled over to another Coverdell ESA for the benefit of the same beneficiary or
a member of the beneficiary's family (including the beneficiary's spouse) who is under age 30. This age limitation does not apply if the new
beneficiary is a special needs beneficiary.
An amount is rolled over if it is paid to another Coverdell ESA within 60 days after the date of the distribution.
Members of the beneficiary's family.Family members, beneficiary:Coverdell ESARelated persons:Coverdell ESA
For these purposes, the beneficiary's family includes the beneficiary's spouse and the following other relatives of the beneficiary.
Child or descendant of a child.
Brother, sister, stepbrother, or stepsister.
Father or mother or ancestor of either.
Stepfather or stepmother.
Son or daughter of a brother or sister.
Brother or sister of father or mother.
Son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law.
The spouse of any individual listed above.
First cousin.
Example.
When Aaron graduated from college last year he had $5,000 left in his Coverdell ESA. He wanted to give this money to his younger sister, who was
still in high school. In order to avoid paying tax on the distribution of the amount remaining in his account, Aaron contributed the same amount to
his sister's Coverdell ESA within 60 days of the distribution.
Only one rollover per Coverdell ESA is allowed during the 12-month period ending on the date of the payment or distribution.
Changing the Designated BeneficiaryChange of designated beneficiary:Coverdell ESADesignated beneficiary:Coverdell ESA
The designated beneficiary can be changed to a member of the beneficiary's family (defined above). There are no tax consequences if, at the time of
the change, the new beneficiary is under age 30 or a special needs beneficiary.
Example.
Assume the same situation as in the last example. Instead of closing his Coverdell ESA and paying the distribution into his sister's Coverdell ESA,
Aaron could have instructed the trustee of his account to simply change the name of the beneficiary on his account to that of his sister.
Transfer Because of DivorceCoverdell education savings account (ESA):Divorce, transfer due toDivorce:Coverdell ESA transfer due to
If a spouse or former spouse receives a Coverdell ESA under a divorce or separation instrument, it is not a taxable transfer. After the transfer,
the spouse or former spouse treats the Coverdell ESA as his or her own.
Example.
In their divorce settlement, Peg received her ex-husband's Coverdell ESA. In this process, the account was transferred into her name. Peg now
treats the funds in this Coverdell ESA as if she were the original owner.
Distributions
Distributionsspecific benefitCoverdell education savings account (ESA):DistributionsThe designated beneficiary of a Coverdell ESA can take a distribution at any time. Whether the distributions
are tax free depends, in part, on whether the distributions are equal to or less than the amount of adjusted qualified education expenses (defined
next) that the beneficiary has in the same tax year.
See Table 7-3,
on the next page, for highlights.
Adjusted qualified education expenses.Qualified education expenses:Adjustments to:Coverdell ESA
To determine if total distributions for the year are more than the amount of qualified education expenses, reduce total qualified education
expenses by any tax-free educational assistance.
Tax-free educational assistance:Coverdell ESATax-free educational assistance includes:
The tax-free part of scholarships and fellowships (see chapter 1),
Veterans' educational assistance (see chapter 1),
Pell grants (see chapter 1),
Employer-provided educational assistance (see chapter 11), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
The amount you get by subtracting tax-free educational assistance from your total qualified education expenses is your adjusted qualified
education expenses.
A portion of the distributions is generally taxable to the beneficiary if the distributions are more than the beneficiary's adjusted qualified
education expenses for the year.
Excess distribution.
This is the part of the total distribution that is more than the beneficiary's adjusted qualified education expenses for the year.
Earnings and basis.Form 1099-Q:Coverdell ESA
You will receive a Form 1099-Q for each of the Coverdell ESAs from which money was distributed in 2005. The amount of your gross distribution will
be shown in box 1. For 2005, instead of dividing the gross distribution between your earnings (box 2) and your basis (already-taxed amount) (box 3),
the payer or trustee may report the fair market value (account balance) of the Coverdell ESA as of December 31, 2005. This will be shown in the blank
box below boxes 5 and 6.
Table 7-3.Coverdell ESA Distributions at a Glance
Do not rely on this table alone. It provides only general highlights. See the text for definitions of terms in bold type and for
more complete explanations.
QuestionAnswerIs a distribution from a Coverdell ESA to pay for a designated beneficiary's qualified education expenses tax
free?Generally, yes, to the extent the amount of the distribution is not more than the designated beneficiary's adjusted
qualified education expenses. After the designated beneficiary completes his or her education at an eligible educational institution,
can amounts remaining in the Coverdell ESA be distributed?Yes. Amounts must be distributed when the designated beneficiary reaches age 30, unless he or she is a
special needs beneficiary. Also, certain transfers to members of the beneficiary's family are permitted. Does the designated beneficiary need to be enrolled for a minimum number of courses to take a tax-free
distribution?No.
Figuring the Taxable
Portion of a DistributionCoverdell education savings account (ESA):Figuring taxable portion of distribution
The taxable portion is the amount of the excess distribution that represents earnings that have accumulated tax free in the account. Figure the
taxable portion for 2005 as shown in the following steps.
Multiply the amount distributed by a fraction. The numerator is the basis (contributions not previously distributed) at the end of 2004 plus
total contributions for 2005 and the denominator is the value (balance) of the account at the end of 2005 plus the amount distributed during
2005.
Subtract the amount figured in (1) from the total amount distributed during 2005. This is the amount of earnings included in the
distribution(s).
Multiply the amount of earnings figured in (2) by a fraction. The numerator is the adjusted qualified education expenses paid during 2005
and the denominator is the total amount distributed during 2005.
Subtract the amount figured in (3) from the amount figured in (2). This is the amount the beneficiary must include in income.
The taxable amount must be reported on Form 1040, line 21.
Reporting:Coverdell ESA
Example.
You received an $850 distribution from your Coverdell ESA, to which $1,500 had been contributed before 2005. There were no contributions in 2005.
This is your first distribution from the account, so your basis in the account on December 31, 2004, was $1,500. The value (balance) of your account
on December 31, 2005, was $950. You had $700 of adjusted qualified education expenses (AQEE) for the year. Using the steps above, figure the taxable
portion of your distribution as follows.
1.$850 (distribution)×$1,500 basis + $0 contributions$950 value + $850 distribution = $708 (basis portion of distribution)
2.$850 (distribution) − $708 (basis portion of
distribution) = $142 (earnings included in distribution)
3.$142 (earnings)× $700 AQEE $850 distribution = $117 (tax-free earnings)
4.$142 (earnings included in distribution) − $117 (tax-free earnings) = $25 (taxable earnings)
You must include $25 in income as distributed earnings not used for qualified education expenses. Report this amount on Form 1040, line 21,
listing the type and amount of income on the dotted line.
Worksheet 7-3,
later in this chapter, can help you figure your adjusted qualified education expenses, how
much of your distribution must be included in income, and the remaining basis in your Coverdell ESAs.
Coverdell education savings account (ESA):Coordination with Hope and lifetime learning creditsHope credit:Coordination with Coverdell ESA distributionsLifetime learning credit:Coordination with Coverdell ESA distributions
Coordination With Hope and
Lifetime Learning Credits
The Hope or lifetime learning credit can be claimed in the same year the beneficiary takes a tax-free distribution from a Coverdell ESA, as long as
the same expenses are not used for both benefits. This means the beneficiary must reduce qualified higher education expenses by tax-free educational
assistance, and then further reduce them by any expenses taken into account in determining a Hope or lifetime learning credit.
Example.
Derek Green had $4,200 of qualified higher education expenses for 2005, his first year in college. He paid his college expenses from the following
sources.
Partial tuition scholarship (tax free)$1,500Coverdell ESA distribution1,000Gift from parents500Earnings from part-time job1,200
Of his $4,200 of qualified higher education expenses, $2,700 was tuition and related expenses that also qualified for a Hope credit. Derek's
parents claimed a $1,500 Hope credit on their tax return.
Before Derek can determine the taxable portion of his distribution, he must reduce his total qualified higher education expenses.
Total qualified higher education expenses$4,200Minus: Tax-free educational assistance−1,500Minus: Expenses taken into account in
figuring Hope credit−2,000Equals: Adjusted qualified higher education
expenses (AQHEE)$ 700
Since the adjusted qualified higher education expenses ($700) are less than the Coverdell ESA distribution, part of the distribution will be
taxable. The balance in Derek's account was $1,800 on December 31, 2005. Prior to 2005, $2,200 had been contributed to this account. Contributions for
2005 totaled $300. Using the four steps outlined earlier, Derek figures the taxable portion of his distribution as shown below.
1.$1,000 (distribution)×$2,200 basis + $300 contributions$1,800 value + $1,000 distribution = $893 (basis portion of distribution)
2.$1,000 (distribution) − $893 (basis portion of
distribution) = $107 (earnings included in distribution)
3.$107 (earnings)× $700 AQHEE $1,000 distribution = $75 (tax-free earnings)
4.$107 (earnings included in distribution) − $75 (tax-free earnings) = $32 (taxable earnings)
Derek must include $32 in income. This is the amount of distributed earnings not used for adjusted qualified higher education expenses.
Coverdell education savings account (ESA):Coordination with Hope and lifetime learning creditsHope credit:Coordination with Coverdell ESA distributionsLifetime learning credit:Coordination with Coverdell ESA distributionsCoordination With Qualified Tuition
Program (QTP) DistributionsCoverdell education savings account (ESA):Coordination with qualified tuition program (QTP)
If a designated beneficiary receives distributions from both a Coverdell ESA and a QTP in the same year, and the total distribution is more than
the beneficiary's adjusted qualified higher education expenses, those expenses must be allocated between the distribution from the Coverdell ESA and
the distribution from the QTP before figuring how much of each distribution is taxable. The following two examples illustrate possible allocations.
Example 1.
In 2005, Beatrice graduated from high school and began her first semester of college. That year, she had $1,000 of qualified elementary and
secondary education expenses (QESEE) for high school and $3,000 of qualified higher education expenses (QHEE) for college. To pay these expenses,
Beatrice withdrew $800 from her Coverdell ESA and $4,200 from her QTP. No one claimed Beatrice as a dependent, nor was she eligible for an education
credit. She did not receive any tax-free educational assistance in 2005. Beatrice must allocate her total qualified education expenses between the two
distributions.
1.Beatrice knows that tax-free treatment will be avail-
able if she applies her $800 Coverdell ESA distribution toward her $1,000 of qualified education expenses for high school. The qualified expenses
are greater than the distribution, making the $800 Coverdell ESA distribution tax free. 2.Next, Beatrice matches her $4,200 QTP distribution to her $3,000 of QHEE, and finds she has an excess QTP distribution of $1,200
($4,200 QTP − $3,000 QHEE). She cannot use the extra $200 of high school expenses (from (1) above) against the QTP distribution because those
expenses do not qualify a QTP for tax-free treatment. 3.Finally, Beatrice figures the taxable and tax-free portions of her QTP distribution based on her $3,000 of QHEE. (See
Figuring the Taxable Portion of a Distribution, in chapter 8, for more information.)
Example 2.
Assume the same facts as in Example 1, except that Beatrice withdrew $1,800 from her Coverdell ESA and $3,200 from her QTP. In this
case, she allocates her qualified education expenses as follows.
1.Using the same reasoning as in Example 1, Beatrice matches $1,000 of her Coverdell ESA distribution to her $1,000 of
QESEE—she has $800 of her distribution remaining. 2.Because higher education expenses can also qualify a Coverdell ESA distribution for tax-free treatment, Beatrice allocates her
$3,000 of QHEE between the remaining $800 Coverdell ESA and the $3,200 QTP distributions ($4,000 total).
$3,000 QHEE× $800 ESA distribution $4,000 total distribution=$600
QHEE (ESA)
$3,000 QHEE×$3,200 QTP distribution $4,000 total distribution=$2,400
QHEE (QTP)
3.Beatrice then figures the taxable part of her: • Coverdell ESA distribution based on qualified
education expenses of $1,600 ($1,000 QESEE
+ $600 QHEE). See Figuring the Taxable Portion
of a Distribution, earlier in this chapter. • QTP distribution based on her $2,400 of QHEE
(see Figuring the Taxable Portion of a
Distribution, in chapter 8).
The above examples show two types of allocation between distributions from a Coverdell ESA and a QTP. However, you do not have to allocate your
expenses in the same way. You can use any reasonable method.
Losses on Coverdell ESA InvestmentsCoverdell education savings account (ESA):LossesLosses, deducting:Coverdell ESA
If you have a loss on your investment in a Coverdell ESA, you may be able to take the loss on your income tax return. You can take the loss only
when all amounts from that account have been distributed and the total distributions are less than your unrecovered basis. Your basis is the total
amount of contributions to that Coverdell ESA. You claim the loss as a miscellaneous itemized deduction on Schedule A (Form 1040), line 22, subject to
the 2%-of-adjusted-gross-income limit. For more information and examples of the calculation, see Losses on QTP Investments in chapter 8
under Figuring the Taxable Portion of a Distribution.
Generally, if you receive a taxable distribution, you also must pay a 10% additional tax on the amount included in income.
Exceptions.
The 10% additional tax does not apply to distributions:
Paid to a beneficiary (or to the estate of the designated beneficiary) on or after the death of the designated beneficiary.
Made because the designated beneficiary is disabled. A person is considered to be disabled if he or she shows proof that he or she cannot do
any substantial gainful activity because of his or her physical or mental condition. A physician must determine that his or her condition can be
expected to result in death or to be of long-continued and indefinite duration.
Included in income because the designated beneficiary received:
A tax-free scholarship or fellowship (see chapter 1),
Veterans' educational assistance (see chapter 1),
Employer-provided educational assistance (see chapter 11), or
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Made on account of the attendance of the designated beneficiary at a U.S. military academy (such as West Point). This exception applies only
to the extent that the amount of the distribution does not exceed the costs of advanced education (as defined in section 2005(e)(3) of title 10 of the
U.S. Code) attributable to such attendance.
Included in income only because the qualified education expenses were taken into account in determining the Hope or lifetime learning credit
(see chapters 2 and 3).
Made before June 1, 2006, of an excess 2005 contribution (and any earnings on it). The distributed earnings must be included in gross income
for the year in which the excess contribution was made.
Exception (3) applies only to the extent the distribution is not more than the scholarship, allowance, or payment.
Figuring the additional tax.
Form 5329:Coverdell ESAUse Part II of Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Favored Accounts,
to figure any additional tax. Report the amount on Form 1040, line 60.
Worksheet 7-3. Coverdell ESA—Taxable Distributions and Basis (Keep for Your Records)
How to complete this worksheet.Coverdell education savings account (ESA):Taxable distributions:Worksheet 7-3 to figureCoverdell education savings account (ESA):Figuring taxable portion of distribution:Worksheet 7-3Worksheets:Coverdell ESA:Taxable distributions and basis (Worksheet 7-3) •
•
•Complete Part I, lines A through H, on only one worksheet.
Complete a separate Part II, lines 1 through 15, for each of your Coverdell ESAs.
Complete Part III, the Summary (line 16), on only one worksheet.Part I. Qualified Education Expenses (Complete for total expenses) A.Enter your total qualified education expenses for 2005 A. B.Enter those qualified education expenses paid for with tax-free educational assistance (for example,
tax-free scholarships, veterans' educational benefits, Pell grants, employer-provided educational assistance) B. C.Enter those qualified higher education expenses deducted on
Schedule C or C-EZ (Form 1040), Schedule F (Form 1040), or as
a miscellaneous itemized deduction on Schedule A (Form 1040) C. D.Enter those qualified higher education expenses on which
a Hope or lifetime learning credit was based D. E.Add lines B, C, and D E. F.Subtract line E from line A. This is your adjusted qualified education expense for 2005
F. G.Enter your total distributions from all Coverdell ESAs during 2005. Do not include
rollovers
or the return of excess contributions (see instructions) G. H.Divide line F by line G. Enter the result as a decimal (rounded to at least 3 places). If the
result is 1.000 or more, enter 1.000 H.. Part II. Taxable Distributions and Basis(Complete separately for
each account) 1.Enter the amount contributed to this Coverdell ESA for 2005, including
contributions made for 2005 from January 1, 2006, through April 15, 2006. Do not include rollovers or the return of excess contributions
1. 2.Enter your basis in this Coverdell ESA as of December 31, 2004 (see
instructions) 2. 3.Add lines 1 and 2 3. 4.Enter the total distributions from this Coverdell ESA during 2005. Do
not include rollovers
or the return of excess contributions (see instructions) 4. 5.Multiply line 4 by line H. This is the amount of adjusted qualified
education expense attributable to this Coverdell ESA 5. 6.Subtract line 5 from line 4 6. 7.Enter the total value of this Coverdell ESA as of December 31, 2005,
plus any outstanding rollovers (see instructions) 7. 8.Add lines 4 and 7 8. 9.Divide line 3 by line 8. Enter the result as a decimal (rounded to
at least 3 places). If the result is 1.000 or more, enter 1.000 9.. 10.Multiply line 4 by line 9. This is the amount of basis allocated to your
distributions, and is tax free 10.Note:If line 6 is zero, skip lines 11 through 13, enter -0- on line 14, and
go to line 15.11.Subtract line 10 from line 4 11.12.Divide line 5 by line 4. Enter the result as a decimal (rounded to
at least 3 places). If the result is 1.000 or more, enter 1.00012.. 13.Multiply line 11 by line 12. This is the amount of qualified education
expenses allocated to your distributions, and is tax free13.14.Subtract line 13 from line 11. This is the portion of the distributions from this
Coverdell ESA in 2005 that you must include in income14.15.Subtract line 10 from line 3. This is your basis in this Coverdell ESA as of December
31, 200515.Part III. Summary(Complete only once)16.Taxable amount. Add together all amounts on line 14 for all your Coverdell ESAs.
Enter here
and include on Form 1040, line 21, listing the type and amount of income on the dotted line16.
Worksheet 7-3 Instructions. Coverdell ESA—Taxable Distributions and Basis
Line G.Enter the total distributions received from all Coverdell ESAs during 2005. Do not include amounts rolled over to
another ESA within 60 days (only one rollover is allowed during any 12-month period). Also, do not include excess contributions that were distributed
with the related earnings (or less any loss) before the first day of the sixth month of the tax year following the year for which the contributions
were made.Line 2.Your basis (amount already taxed) in this Coverdell ESA as of December 31, 2004, is the total of: • All contributions to this Coverdell ESA before 2005
• Minus the tax-free portion of any distributions from this Coverdell ESA before 2005.If your last distribution from this Coverdell ESA was before 2003, you must start with the basis in your account as of the end of the last year
in which you took a distribution. For years before 2002, you can find that amount on the last line of the worksheet in the Instructions for Form 8606,
Nondeductible IRAs, that you completed for that year. For years after 2001, you can find that amount by using the ending basis from Worksheet 7-3 in
Publication 970 for that year. You can determine your basis in this Coverdell ESA as of December 31, 2004, by adding to the basis as of the end of
that year any contributions made to that account after the year of the distribution and before 2005. Line 4.Enter the total distributions received from this Coverdell ESA in 2005. Do not include amounts rolled over to
another Coverdell ESA within 60 days (only one rollover is allowed during any 12-month period). Also, do not include excess contributions that were distributed with the related earnings (or less any loss) before the first day of the sixth
month of the tax year following the year of the contributions.Line 7.Enter the total value of this Coverdell ESA as of December 31, 2005, plus any outstanding rollovers contributed
to the account after 2004, but before the end of the 60-day rollover period. A statement should be sent to you by January 31, 2006, for this Coverdell
ESA showing the value on December 31, 2005.A rollover is a tax-free withdrawal from one Coverdell ESA that is contributed to another Coverdell ESA. An outstanding
rollover is any amount withdrawn within 60 days before the end of 2005 (November 2 through December 31) that was rolled over after December 31,
2005, but within the 60-day rollover period.
When Assets Must Be DistributedCoverdell education savings account (ESA):Assets to be distributed at age 30 or death of beneficiary
Any assets remaining in a Coverdell ESA must be distributed when either one of the following two events occurs.
The designated beneficiary reaches age 30. In this case, the remaining assets must be distributed within 30 days after the beneficiary
reaches age 30. However, this rule does not apply if the beneficiary is a special needs beneficiary.
The designated beneficiary dies before reaching age 30. In this case, the remaining assets must generally be distributed within 30 days
after the date of death.
Exception for Transfer to
Surviving Spouse or Family MemberSurviving spouse:Coverdell ESA transfer to
If a Coverdell ESA is transferred to a surviving spouse or other family member as the result of the death of the designated beneficiary, the
Coverdell ESA retains its status. (Family member was defined earlier under Rollovers.) This means the spouse or other family member
can treat the Coverdell ESA as his or her own and does not need to withdraw the assets until he or she reaches age 30. This age limitation does not
apply if the new beneficiary is a special needs beneficiary. There are no tax consequences as a result of the transfer.
How To Figure the Taxable EarningsCoverdell education savings account (ESA):Figuring the taxable earnings in required distribution
When a total distribution is made because the designated beneficiary either reached age 30 or died, the earnings that accumulated tax free in the
account must be included in taxable income. You determine these earnings as shown in the following two steps.
Multiply the amount distributed by a fraction. The numerator is the basis (contributions not previously distributed) at the end of 2004 plus
total contributions for 2005 and the denominator is the balance in the account at the end of 2005 plus the amount distributed during 2005.
Subtract the amount figured in (1) from the total amount distributed during 2005. The result is the amount of earnings included in the
distribution.
For an example, see steps (1) and (2) of the Example under Figuring the Taxable Portion of a Distribution, earlier.
Coverdell education savings account (ESA)Coverdell education savings account (ESA):DistributionsThe beneficiary or other person receiving the distribution must report this amount on Form 1040, line 21,
listing the type and amount of income on the dotted line.
Qualified Tuition Program (QTP)529 programQualified tuition program (QTP)Section 529 programQualified tuition program (QTP)State prepaid education accountsQualified tuition program (QTP)Qualified tuition program (QTP)ReminderDistributions from eligible educational institution QTPs may be tax free.
You may not have to include in income a distribution from a QTP established and maintained by an eligible educational institution.
States may establish and maintain programs that allow you to either prepay or contribute to an account for paying a student's qualified education
expenses (defined later). Eligible educational institutions may establish and maintain programs that allow you to prepay a student's qualified
education expenses. If you prepay tuition, the student (designated beneficiary) will be entitled to a waiver or a payment of qualified education
expenses. You cannot deduct either payments or contributions to a QTP. For information on a specific QTP, you will need to contact the state agency or
eligible educational institution that established and maintains it.
What is the tax benefit of a QTP.Qualified tuition program (QTP):Tax benefit of
No tax is due on a distribution from a QTP unless the amount distributed is greater than the beneficiary's adjusted qualified education expenses.
See Are Distributions Taxable, later, for more information.
Even if a QTP is used to finance a student's education, the student or the student's parents still may be eligible to claim either the Hope credit
or the lifetime learning credit.
What Is a Qualified
Tuition Program
Qualified tuition program (QTP):DefinedA qualified tuition program (also known as a 529 plan or program) is a program set up to allow you to either prepay,
or contribute to an account established for paying, a student's qualified education expenses at an eligible educational institution. QTPs can be
established and maintained by states (or agencies or instrumentalities of a state) and eligible educational institutions. The program must meet
certain requirements. Your state government or the eligible educational institution in which you are interested can tell you whether or not they
participate in a QTP.
Qualified education expenses.Qualified education expenses:Qualified tuition program (QTP)Qualified tuition program (QTP):Qualified education expenses
These expenses are the tuition, fees, books, supplies, and equipment required for enrollment or attendance at an eligible educational institution
(defined in the next column).
They also include the reasonable costs of room and board for a designated beneficiary who is at least a half-time student. The cost of room and
board qualifies only to the extent that it is not more than the greater of the following two amounts.
The allowance for room and board, as determined by the eligible educational institution, that was included in the cost of attendance (for
federal financial aid purposes) for a particular academic period and living arrangement of the student.
The actual amount charged if the student is residing in housing owned or operated by the eligible educational institution.
You will need to contact the eligible educational institution for qualified room and board costs.
The definition of qualified education expenses was expanded in 2002 to include expenses of a special needs beneficiary that are necessary for that
person's enrollment or attendance at an eligible educational institution.
As of this printing, regulations defining a special needs beneficiary have not been released. If available, the definition will be included
in Publication 553, Highlights of 2005 Tax Changes, which will be issued in early 2006.
Designated beneficiary.Designated beneficiary:Qualified tuition program (QTP)
The designated beneficiary is generally the student (or future student) for whom the QTP is intended to provide benefits. The designated
beneficiary can be changed after participation in the QTP begins. If a state or local government or certain tax-exempt organizations purchase an
interest in a QTP as part of a scholarship program, the designated beneficiary is the person who receives the interest as a scholarship.
Eligible educational institution.Eligible educational institution:Qualified tuition program (QTP)Qualified tuition program (QTP):Eligible educational institution
For purposes of a QTP, this is any college, university, vocational school, or other postsecondary educational institution eligible to participate
in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and proprietary
(privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible educational
institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
How Much Can You Contribute
Qualified tuition program (QTP):Contributions toContributions to a QTP on behalf of any beneficiary cannot be more than the amount necessary to provide for
the qualified education expenses of the beneficiary. There are no income restrictions on the individual contributors.
You can contribute to both a QTP and a Coverdell ESA in the same year for the same designated beneficiary.
Are Distributions Taxable
Qualified tuition program (QTP):Taxability of distributionsThe part of a distribution representing the amount paid or contributed to a QTP does not have to
be included in income. This is a return of the investment in the plan.
The designated beneficiary generally does not have to include in income any earnings distributed from a QTP if the total distribution is less than
or equal to adjusted qualified education expenses (defined under Figuring the Taxable Portion of a Distribution, below).
Note.
Before 2004, the beneficiary had to include in income any earnings distributed from a QTP established and maintained by an eligible educational
institution.
Earnings and return of investment.
Form 1099-Q:Qualified tuition program (QTP)You will receive a Form 1099-Q, Payments From Qualified Education Programs (Under Sections
529 and 530), from each of the programs from which you received a QTP distribution in 2005. The amount of your gross distribution (box 1) shown on
each form will be divided between your earnings (box 2) and your basis, or return of investment, (box 3). Form 1099-Q should be sent to you by January
31, 2006.
Figuring the Taxable
Portion of a DistributionQualified tuition program (QTP):Figuring taxable portion of distribution
To determine if total distributions for the year are more or less than the amount of qualified education expenses, you must compare the total of
all QTP distributions for the tax year to the adjusted qualified education expenses.
Adjusted qualified education expenses.Qualified education expenses:Adjustments to:Qualified tuition program (QTP)
This amount is the total qualified education expenses reduced by any tax-free educational assistance.
Tax-free educational assistance:Qualified tuition program (QTP)Tax-free educational assistance includes:
The tax-free part of scholarships and fellowships (see chapter 1),
Veterans' educational assistance (see chapter 1),
Pell grants (see chapter 1),
Employer-provided educational assistance (see chapter 11), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Taxable earnings.Qualified tuition program (QTP):Taxable earnings
Use the following steps to figure the taxable part.
Multiply the total distributed earnings shown on Form 1099-Q (box 2) by a fraction. The numerator is the adjusted qualified education
expenses paid during the year and the denominator is the total amount distributed during the year.
Subtract the amount figured in (1) from the total distributed earnings. This is the amount the beneficiary must include in income. Report it
on Form 1040, line 21.
Reporting:Qualified tuition program (QTP)
Example.
In 1999, Sara Clarke's parents opened a savings account for her with a QTP maintained by their state government. Over the years they contributed
$18,000 to the account. The total balance in the account was $27,000 on the date the distribution was made. In the summer of 2005, Sara enrolled in
college and had $6,500 of qualified education expenses for the rest of the year. She paid her college expenses from the following sources.
Before Sara can determine the taxable part of her QTP distribution, she must reduce her total qualified education expenses by any tax-free
educational assistance.
Sara must include $33 in income as distributed QTP earnings not used for adjusted qualified education expenses.
Coordination With Hope and
Lifetime Learning CreditsHope credit:Coordination with qualified tuition program (QTP) distributionsLifetime learning credit:Coordination with qualified tuition program (QTP) distributionsQualified tuition program (QTP):Coordination with Hope and lifetime learning credits
A Hope or lifetime learning credit (education credit) can be claimed in the same year the beneficiary takes a tax-free distribution from a QTP, as
long as the same expenses are not used for both benefits. This means that after the beneficiary reduces qualified education expenses by tax-free
educational assistance, he or she must further reduce them by the expenses taken into account in determining the credit.
Example.
Assume the same facts for Sara Clarke as in the previous example, except that Sara's parents claimed a Hope credit of $1,500.
Total qualified education expenses$6,500Minus: Tax-free educational assistance−3,000Minus: Expenses taken into account
in figuring Hope credit−2,000Equals: Adjusted qualified
education expenses (AQEE)$1,500
The taxable part of the distribution is figured as follows.
1.$1,200 (earnings)× $1,500 AQEE $3,600 distribution = $500 (tax-free earnings)
Sara must include $700 in income. This represents distributed earnings not used for adjusted qualified education expenses.
Coordination With Coverdell
ESA DistributionsQualified tuition program (QTP):Coordination with Coverdell ESA distributions
If a designated beneficiary receives distributions from both a QTP and a Coverdell ESA in the same year, and the total of these distributions is
more than the beneficiary's adjusted qualified higher education expenses, the expenses must be allocated between the distributions. For purposes of
this allocation, disregard any qualified elementary and secondary education expenses.
Example.
Assume the same facts as in the last example for Sara Clarke, except that instead of receiving a $3,600 distribution from her QTP, Sara received
$3,000 from that account and $600 from her Coverdell ESA. In this case, Sara must allocate her $1,500 of adjusted qualified higher education expenses
(AQHEE) between the two distributions.
$1,500 AQHEE× $600 ESA distribution $3,600 total distribution=$250
AQHEE (ESA)
$1,500 AQHEE×$3,000 QTP distribution $3,600 total distribution=$1,250
AQHEE (QTP)
Sara then figures the taxable portion of her Coverdell ESA distribution based on qualified higher education expenses of $250, and the taxable
portion of her QTP distribution based on the other $1,250.
Note.
If you are required to allocate your expenses between Coverdell ESA and QTP distributions, and you have adjusted qualified elementary and secondary
education expenses, see the examples in chapter 7 under Coordination With Qualified Tuition Program (QTP) Distributions.
Losses on QTP InvestmentsLosses, deducting:Qualified tuition program (QTP)Qualified tuition program (QTP):Losses
If you have a loss on your investment in a QTP account, you may be able to take the loss on your income tax return. You can take the loss only when
all amounts from that account have been distributed and the total distributions are less than your unrecovered basis. Your basis is the total amount
of contributions to that QTP account. You claim the loss as a miscellaneous itemized deduction on Schedule A (Form 1040), line 22, subject to the
2%-of-adjusted-gross-income limit.
If you have distributions from more than one QTP account during a year, you must combine the information (amount of distribution, basis, etc.) from
all such accounts in order to determine your taxable earnings for the year. By doing this, the loss from one QTP account reduces the distributed
earnings (if any) from any other QTP accounts.
Example 1.
In 2005, Taylor received a final distribution of $1,000 from QTP #1. His unrecovered basis in that account before the distribution was $3,000. If
Taylor itemizes his deductions, he can claim the $2,000 loss on Schedule A.
Example 2.
Assume the same facts as in Example 1, except that Taylor also had a distribution of $9,000 from QTP #2, giving him total distributions
for 2005 of $10,000. His total basis in these distributions was $4,500—$3,000 for QTP #1 and $1,500 for QTP #2. Taylor's adjusted qualified
education expenses for 2005 totaled $6,000. In order to figure his taxable earnings, Taylor combines the two accounts and determines his taxable
earnings as follows.
1.$10,000 (total distribution) − $4,500 (basis portion of
distribution) = $5,500 (earnings included in distribution)
2.$5,500 (earnings)× $6,000 AQEE $10,000 distribution = $3,300 (tax-free earnings)
Taylor must include $2,200 in income on Form 1040, line 21. Because Taylor's accounts must be combined, he cannot deduct his $2,000 loss (QTP
#1) on Schedule A. Instead, the $2,000 loss reduces the total earnings that were distributed, thereby reducing his taxable earnings.
Additional Tax on
Taxable DistributionsAdditional tax:Qualified tuition program (QTP), on taxable distributionsQualified tuition program (QTP):Additional tax on taxable distributions
Generally, if you receive a taxable distribution, you also must pay a 10% additional tax on the amount included in income.
Exceptions.
The 10% additional tax does not apply to distributions:
Paid to a beneficiary (or to the estate of the designated beneficiary) on or after the death of the designated beneficiary.
Made because the designated beneficiary is disabled. A person is considered to be disabled if he or she shows proof that he or she cannot do
any substantial gainful activity because of his or her physical or mental condition. A physician must determine that his or her condition can be
expected to result in death or to be of long-continued and indefinite duration.
Included in income because the designated beneficiary received:
A tax-free scholarship or fellowship (see chapter 1),
Veterans' educational assistance (see chapter 1),
Employer-provided educational assistance (see chapter 11), or
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Made on account of the attendance of the designated beneficiary at a U.S. military academy (such as West Point). This exception applies only
to the extent that the amount of the distribution does not exceed the costs of advanced education (as defined in section 2005(e)(3) of title 10 of the
U.S. Code) attributable to such attendance.
Included in income only because the qualified education expenses were taken into account in determining the Hope or lifetime learning
credit.
Made before 2004 and used for qualified education expenses, but included in income because it was paid from a QTP established and maintained
by an eligible educational institution.
Exception (3) applies only to the extent the distribution is not more than the scholarship, allowance, or payment.
Figuring the additional tax.
Qualified tuition program (QTP):Taxability of distributionsForm 5329:Qualified tuition program (QTP)Use Part II of Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and Other
Tax-Favored Accounts, to figure any additional tax. Report the amount on Form 1040, line 60.
Rollovers and Other TransfersQualified tuition program (QTP):TransfersTransfers:Qualified tuition program (QTP)
Assets can be rolled over or transferred from one QTP to another. In addition, the designated beneficiary can be changed without transferring
accounts.
RolloversQualified tuition program (QTP):RolloversRollovers:Qualified tuition program (QTP)
Any amount distributed from a QTP is not taxable if it is rolled over to another QTP for the benefit of the same beneficiary or for the benefit of
a member of the beneficiary's family (including the beneficiary's spouse). An amount is rolled over if it is paid to another QTP within 60 days after
the date of the distribution.
Members of the beneficiary's family.Family members, beneficiary:Qualified tuition program (QTP)Related persons:Qualified tuition program (QTP)
For these purposes, the beneficiary's family includes the beneficiary's spouse and the following other relatives of the beneficiary.
Child or descendant of a child.
Brother, sister, stepbrother, or stepsister.
Father or mother or ancestor of either.
Stepfather or stepmother.
Son or daughter of a brother or sister.
Brother or sister of father or mother.
Son-in-law, daughter-in-law, father-in-law, mother-in-law, brother-in-law, or sister-in-law.
The spouse of any individual listed above.
First cousin.
Example.
When Aaron graduated from college last year he had $5,000 left in his QTP. He wanted to give this money to his younger brother, who was in junior
high school. In order to avoid paying tax on the distribution of the amount remaining in his account, Aaron contributed the same amount to his
brother's QTP within 60 days of the distribution.
If the rollover is to another QTP for the same beneficiary, only one rollover is allowed within 12 months of a previous transfer to any QTP for
that designated beneficiary.
Changing the Designated BeneficiaryChange of designated beneficiary:Qualified tuition programDesignated beneficiary:Qualified tuition program (QTP)Qualified tuition program (QTP):Change of designated beneficiary
There are no income tax consequences if the designated beneficiary of an account is changed to a member of the beneficiary's family (defined
above).
Example.
Qualified tuition program (QTP)Assume the same situation as in the last example. Instead of closing his QTP and
paying the distribution into his brother's QTP, Aaron could have instructed the trustee of his account to simply change the name of the beneficiary on
his account to that of his brother.
Education Exception to Additional Tax on Early IRA DistributionsIndividual retirement arrangements (IRAs)Early distributionsEarly distributions from IRAsEarly distributions from IRAs
Generally, if you take a distribution from your IRA before you reach age 59, you must pay a 10% additional tax on the early
distribution. This applies to any IRA you own, whether it is a traditional IRA (including a SEP-IRA), a Roth IRA, or a SIMPLE IRA. The additional tax
on an early distribution from a SIMPLE IRA may be as high as 25%. See Publication 560, Retirement Plans for Small Business, for information on
SEP-IRAs, and Publication 590, Individual Retirement Arrangements (IRAs), for information about all other IRAs.
However, you can take distributions from your IRAs for qualified education expenses without having to pay the 10% additional tax. You may owe
income tax on at least part of the amount distributed, but you may not have to pay the 10% additional tax.
The part not subject to the additional tax is generally the amount of the distribution that is not more than the adjusted qualified education
expenses for the year.
Who Is Eligible
You can take a distribution from your IRA before you reach age 59 and not have to pay the 10% additional tax if, for the year of
the distribution, you pay qualified education expenses for:
yourself,
your spouse, or
your or your spouse's children or grandchildren.
Qualified education expenses.Qualified education expenses:Early distributions from IRAsEarly distributions from IRAs:Qualified education expenses
For purposes of the 10% additional tax, these expenses are tuition, fees, books, supplies, and equipment required for enrollment or attendance at
an eligible educational institution. They also include expenses for special needs services incurred by or for special needs students in connection
with their enrollment or attendance.
As of this printing, regulations defining a special needs beneficiary have not been released. If available, the definition will be included
in Publication 553, Highlights of 2005 Tax Changes, which will be issued in early 2006.
In addition, if the student is at least a half-time student, room and board are qualified education expenses.
The expense for room and board qualifies only to the extent that it is not more than the greater of the following two amounts.
The allowance for room and board, as determined by the eligible educational institution, that was included in the cost of attendance (for
federal financial aid purposes) for a particular academic period and living arrangement of the student.
The actual amount charged if the student is residing in housing owned or operated by the eligible educational institution.
Eligible educational institution.Eligible educational institution:Early distributions from IRAsEarly distributions from IRAs:Eligible educational institution
An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to
participate in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and
proprietary (privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible
educational institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
Half-time student.Half-time student:Early distributions from IRAs
A student is enrolled at least half-time if he or she is enrolled for at least half the full-time academic work load for the course of
study the student is pursuing as determined under the standards of the school where the student is enrolled.
Figuring the Amount Not Subject to the 10% Tax
Early distributions from IRAs:Figuring amount not subject to 10% taxTo determine the amount of your distribution that is not subject to the 10%
additional tax, first find your adjusted qualified education expenses. You do this by reducing your total qualified education expenses by any
Tax-free educational assistance:Early distributions from IRAstax-free educational assistance, which includes:
Distributions from a Coverdell education savings account (ESA) (see chapter 7),
The tax-free part of scholarships and fellowships (see chapter 1),
Pell grants (see chapter 1),
Veterans' educational assistance (see chapter 1),
Employer-provided educational assistance (see chapter 11), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Do not reduce the qualified education expenses by amounts paid with funds the student receives as:
Payment for services, such as wages,
A loan,
A gift,
An inheritance given to either the student or the individual making the withdrawal, or
A withdrawal from personal savings (including savings from a qualified tuition program (QTP)).
If your IRA distribution is equal to or less than your adjusted qualified education expenses, you are not subject to the 10% additional tax.
Example 1.
In 2005, Erin (age 32) took a year off from teaching to attend graduate school full time. She paid $5,800 of qualified education expenses from the
following sources.
Employer-provided educational assistance
(tax free)$1,500Early distribution from IRA
(includes $500 taxable earnings)3,200Savings account1,100
Before Erin can determine if she must pay the 10% additional tax on her IRA distribution, she must reduce her total qualified education expenses.
Because Erin's AQEE ($4,300) are more than her IRA distribution ($3,200), she does not have to pay the 10% additional tax on any part of this
distribution. However, she must include the $500 taxable earnings in her gross income subject to income tax.
Example 2.
Assume the same facts as in Example 1, except that the assistance from Erin's employer was delayed (not received until July 2005), so
she withdrew $4,500 from her IRA instead of the smaller amount. This included $700 of taxable earnings, which must be included in her income subject
to income tax.
Erin's IRA distribution ($4,500) is larger than her AQEE ($4,300). Therefore, she must pay the 10% additional tax on $200, the amount of her
distribution ($4,500) that is more than her qualified education expenses ($4,300), but not more than the taxable amount of her distribution ($700).
She does not have to pay the 10% additional tax on the remaining $500 of her taxable distribution.
Example 3.
Assume the same facts as in Example 1 and Example 2, except that Erin's early distribution from her IRA was $5,500 (including
$850 of taxable earnings). The excess of her distribution ($5,500) over her qualified education expenses ($4,300) is $1,200. Because the excess
distribution ($1,200) is greater than the taxable earnings ($850), Erin must pay the 10% additional tax on the entire $850 of taxable earnings.
Early distributions from IRAs:Figuring amount not subject to 10% taxReporting Early Distributions
Early distributions from IRAs:ReportingReporting:Early distributions from IRAsForm 1099-R:Early distributions from IRAsBy January 31, 2006, the payer of your IRA distribution should send you Form 1099-R,
Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. The information on this form will help you
determine how much of your distribution is taxable for income tax purposes and how much is subject to the 10% additional tax.
Form 5329:Early distributions from IRAsIf you received an early distribution from your IRA, you must report the taxable earnings on
Form 1040, line 15b. Then, in order to show how much, if any, of your early distribution is subject to the 10% additional tax, you generally must file
Form 5329. See the instructions for Form 5329, Part I, for help in completing the form and entering the results on Form 1040.
However, you do not have to file Form 5329 for this distribution if box 7 of Form 1099-R correctly shows code 1. In this case, multiply the taxable
amount of your distribution (from Form 1040, line 15b) by 10% (.10) and enter the result on line 60. Also, put No under the heading Other
Taxes to the left of line 60 to indicate that you do not have to file Form 5329.
There are many other situations in which Form 5329 is required. If, during 2005, you had other distributions from IRAs or qualified retirement
plans, or have made excess contributions to certain tax-favored accounts, see the instructions for line 60 (Form 1040) to determine if you must file
Form 5329.
Early distributions from IRAsEducation Savings Bond ProgramBonds, education savingsEducation savings bond programEducation savings bond programWhat's NewIncome limits for exclusion reduction increased. Education savings bond program:Income limits for exclusion reduction
For 2005, the amount of your interest exclusion is phased out (gradually reduced) if your filing status is married filing jointly or qualifying
widow(er) and your MAGI is between $91,850 and $121,850. You cannot take the deduction if your MAGI is $121,850 or more. For 2004, the limits that
applied to you were $89,750 and $119,750.
For all other filing statuses, your interest exclusion is phased out if your MAGI is between $61,200 and $76,200. You cannot take the deduction if
your MAGI is $76,200 or more. For 2004, the limits that applied to you were $59,850 and $74,850. See Effect of the Amount of Your Income on the
Amount of Your Exclusion, later.
Generally, you must pay tax on the interest earned on U.S. savings bonds. If you do not include the interest in income in the years it is earned,
you must include it in your income in the year in which you cash in the bonds.
However, when you cash in certain savings bonds under an education savings bond program, you may be able to exclude interest from income.
Who Can Cash In Bonds
Tax Free
Education savings bond program:Cashing in bonds tax freeYou may be able to cash in qualified U.S. savings bonds without having to include in your income
some or all of the interest earned on the bonds if you meet the following conditions.
You pay qualified education expenses for yourself, your spouse, or a dependent for whom you claim an exemption on your return.
Your modified adjusted gross income (MAGI) is less than $76,200 ($121,850 if filing a joint return).
Your filing status is not married filing separately.
Qualified U.S. savings bonds.Qualified U.S. savings bondsU.S. savings bonds
A qualified U.S. savings bond is a series EE bond issued after 1989 or a series I bond. The bond must be issued either in your name (as the sole
owner) or in the name of both you and your spouse (as co-owners).
The owner must be at least 24 years old before the bond's issue date. The issue date is printed on the front of the savings bond.
The issue date is not necessarily the date of purchase—it will be the first day of the month in which the bond is purchased.
Qualified education expenses.Education savings bond program:Qualified education expensesQualified education expenses:Education savings bond program
These include the following items you pay for either yourself, your spouse, or a dependent for whom you claim an exemption.
Tuition and fees required to enroll at or attend an eligible educational institution. Qualified education expenses do not include expenses
for room and board or for courses involving sports, games, or hobbies that are not part of a degree or certificate granting program. Sports, games, hobbies, and noncredit courses:Education savings bond program
Contributions to a qualified tuition program (QTP) (see chapter 8).
Contributions to a Coverdell education savings account (ESA) (see chapter 7).
Adjusted qualified education expenses.Adjusted qualified education expensesQualified education expensesQualified education expenses:Adjustments to:Education savings bond programTax-free educational assistance:Education savings bond program
You must reduce your qualified education expenses by all of the following tax-free benefits.
Tax-free part of scholarships and fellowships (see chapter 1).
Expenses used to figure the tax-free portion of distributions from a Coverdell ESA (see chapter 7).
Expenses used to figure the tax-free portion of distributions from a QTP (see chapter 8).
Any tax-free payments (other than gifts or inheritances) received as educational assistance, such as:
Veterans' educational assistance benefits (see chapter 1),
Qualified tuition reductions (see chapter 1), or
Employer-provided educational assistance (see chapter 11).
Any expenses used in figuring the Hope and lifetime learning credits (see chapters 2 and 3).
Eligible educational institution.Education savings bond program:Eligible educational institutionEligible educational institution:Education savings bond program
An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to
participate in a student aid program administered by the Department of Education. It includes virtually all accredited public, nonprofit, and
proprietary (privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible
educational institution.
Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.
Dependent for whom you claim an exemption.Education savings bond program:Claiming dependent's exemption
You claim an exemption for a person if you list his or her name and other required information on Form 1040 (or Form 1040A), line 6c.
Modified adjusted gross income (MAGI).Education savings bond program:Modified adjusted gross income (MAGI)Modified adjusted gross income (MAGI):Education savings bond program
For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return without taking into account this interest
exclusion.
MAGI when using Form 1040A.
If you file Form 1040A, MAGI is the AGI on line 22 of that form figured without taking into account any savings bond interest exclusion and
modified by adding back any:
Exclusion for adoption benefits received under an employer's adoption assistance program,
Deduction for student loan interest, and
Deduction for tuition and fees.
MAGI when using Form 1040.
If you file Form 1040, your MAGI is the AGI on line 38 of that form figured without taking into account any savings bond interest exclusion and
modified by adding back any:
Foreign earned income exclusion,
Foreign housing exclusion,
Foreign housing deduction,
Exclusion of income for bona fide residents of American Samoa,
Exclusion of income from Puerto Rico,
Exclusion for adoption benefits received under an employer's adoption assistance program,
Deduction for student loan interest,
Deduction for tuition and fees, and
Deduction for domestic production activities.
Form 8815Use the worksheet in the instructions for Form 8815, line 9, to figure your MAGI. If you claim any of the exclusion or
deduction items (1)–(6) listed above, add the amount of the exclusion or deduction to the amount on line 5 of the worksheet. Do not add in the
deduction for (7) student loan interest, (8) tuition and fees, or (9) domestic production activities. Enter the total on Form 8815, line 9, as your
modified AGI.
Because the deduction for interest expenses attributable to royalties and other investments is limited to your net investment income, you cannot
figure the deduction until you have figured this interest exclusion. Therefore, if you had interest expenses attributable to royalties and deductible
on Schedule E (Form 1040), Supplemental Income and Loss, you must make a special computation of your deductible interest without regard to this
exclusion to figure the net royalty income included in your modified AGI. See Royalties included in modified AGI under Education
Savings Bond Program in chapter 1 of Publication 550.
Education savings bond program:Modified adjusted gross income (MAGI)Modified adjusted gross income (MAGI):Education savings bond programFiguring the Tax-Free Amount
Education savings bond program:Figuring tax-free amountIf the total you receive when you cash in the bonds is not more than the adjusted qualified
education expenses for the year, all of the interest on the bonds may be tax free. However, if the total you receive when you cash in the bonds is
more than the adjusted expenses, only part of the interest may be tax free.
To determine the tax-free amount, multiply the interest part of the proceeds by a fraction. The numerator (top part) of the fraction is the
adjusted qualified education expenses you paid during the year. The denominator (bottom part) of the fraction is the total proceeds you received
during the year.
Example.
In February 2005, Mark and Joan Washington, a married couple, cashed a qualified series EE U.S. savings bond. They received proceeds of $9,000,
representing principal of $6,000 and interest of $3,000. In 2005, they paid $7,650 of their daughter's college tuition. They are not claiming a Hope
or lifetime learning credit for that amount, and their daughter does not have any tax-free educational assistance. Their MAGI for 2005 was $80,000.
They can exclude $2,550 of interest in 2005. They must pay tax on the remaining $450 ($3,000 − $2,550) interest.
Effect of the Amount of Your Income on the Amount of Your ExclusionEducation savings bond program:Income level, effect on amount of exclusion
The amount of your interest exclusion is gradually reduced (phased out) if your modified adjusted gross income is between $61,200 and $76,200
(between $91,850 and $121,850 if your filing status is married filing jointly or qualifying widow(er)). You cannot exclude any of the interest if your
modified adjusted gross income is equal to or more than the upper limit.
The phaseout, if any, is figured for you when you fill out Form 8815.
Education savings bond program:PhaseoutPhaseout:Education savings bond program
Claiming the ExclusionEducation savings bond program:Claiming exclusionForm 8815Reporting:Education savings bond program
Use Form 8815 to figure your education savings bond interest exclusion. Enter your exclusion on line 3 of Schedule B (Form 1040), Interest and
Ordinary Dividends, or Schedule 1 (Form 1040A), Interest and Ordinary Dividends for Form 1040A Filers. Attach Form 8815 to your tax return.
Illustrated Example
The information is the same as in the previous example for Mark and Joan Washington, except they have a modified adjusted gross income of $108,500.
In this example, they can exclude $1,135 (line 14 of Form 8815 shown on the next page) of interest in 2005.
They must pay tax on the remaining $1,865 interest ($3,000 total interest minus $1,135 excluded interest).
Education savings bond programForm 8815:Filled-in exampleForm 8815 Exclusion of Interest From Series E.E. and I. U.S. Savings Bonds Issued After 1989 2005Summary: This is an example of Form 8815 (2005) as pertains to the description in the text. The line items completed are:Name(s) shown on return field contains Mark & Joan WashingtonYour social security number field contains 000-00-45671a. Name of person (you, your spouse, or your dependent) who was enrolled at or attended an eligible educational institution field
contains Anna Washington1b. Name and address of eligible educational institution field containsJamestown UniversityNormal, Virginia 201002. Enter the total qualified higher education expenses you paid in 2005 for the person(s) listed in column (a) of line 1. See the instructions
to find out which expenses qualify field contains 7,6503. Enter the total of any nontaxable educational benefits (such as nontaxable scholarship or fellowship grants) received for 2005 for the
person(s) listed in column (a) of line 1 (see instructions) field contains 04. Subtract line 3 from line 2. If zero or less, stop. You cannot take the exclusion field contains 7,6505. Enter the total proceeds (principal and interest) from all series E.E. and I. U.S. savings bonds issued after 1989 that you cashed during
2005 field contains 9,0006. Enter the interest included on line 5 (see instructions) field contains 3,0007. If line 4 is equal to or more than line 5, enter 1.000. If line 4 is less than line 5, divide line 4 by line 5. Enter the result as a
decimal (rounded to at least three places) field contains .8508. Multiply line 6 by line 7 field contains 25509. Enter your modified adjusted gross income (see instructions) field contains 108,50010. Enter: $61,200 if single or head of household; $91,850 if married filing jointly or qualifying widow(er) field
contains91,85011. Subtract line 10 from line 9. If zero or less, skip line 12, enter 0 on line 13, and go to line 14 field contains
16,65012. Divide line 11 by: $15,000 if single or head of household; $30,000 if married filing jointly or qualifying widow(er). Enter the result as
a decimal (rounded to at least three places) field contains .55513. Multiply line 8 by line 12 field contains 1,41514. Excludable savings bond interest. Subtract line 13 from line 8. Enter the result here and on Schedule B (Form 1040), line 3, or Schedule 1
(Form 1040A), line 3, whichever applies field contains 1,135
If you receive educational assistance benefits from your employer under an educational assistance program, you can exclude up to $5,250 of those
benefits each year. This means your employer should not include the benefits with your wages, tips, and other compensation shown in box 1 of your Form
W-2. This also means that you do not have to include the benefits on your income tax return.
You cannot use any of the tax-free education expenses paid for by your employer as the basis for any other deduction or credit, including the Hope
credit and the lifetime learning credit.
Educational assistance program.
To qualify as an educational assistance program, the plan must be written and must meet certain other requirements. Your employer can tell you
whether there is a qualified program where you work.
Educational assistance benefits.
Tax-free educational assistance benefits include payments for tuition, fees and similar expenses, books, supplies, and equipment. For courses
beginning on or after January 1, 2002, the payments may be for either undergraduate- or graduate-level courses. The payments do not have to be for
work-related courses.
Educational assistance benefits do not include payments for the following items.
Meals, lodging, or transportation.
Tools or supplies (other than textbooks) that you can keep after completing the course of instruction.
Courses involving sports, games, or hobbies unless they:
Have a reasonable relationship to the business of your employer, or
Are required as part of a degree program.
Benefits over $5,250.
If your employer pays more than $5,250 for educational benefits for you during the year, you must generally pay tax on the amount over $5,250. Your
employer should include in your wages (Form W-2, box 1) the amount that you must include in income.
Working condition fringe benefit.Working condition fringe benefit
Employer-provided educational assistanceHowever, if the benefits over $5,250 also qualify as a working condition
fringe benefit, your employer does not have to include them in your wages. A working condition fringe benefit is a benefit which, had you paid for it,
you could deduct as an employee business expense. For more information on working condition fringe benefits, see Working Condition Benefits
in chapter 2 of Publication 15-B, Employer's Tax Guide to Fringe Benefits.
Business Deduction for Work-Related EducationDeductionsBusiness deduction for work-related educationWork-related educationBusiness deduction for work-related educationBusiness deduction for work-related educationWhat's NewStandard mileage rate.Mileage deduction for work-related educationStandard mileage rate:Work-related education
Generally, if you claim a business deduction for work-related education and you drive your car to and from school, the amount you can deduct for
miles driven from January 1, 2005, through August 31, 2005, is 40 cents a mile. You can deduct 48 cents a mile for
miles driven from September 1, 2005, through December 31, 2005. This is up from 37 cents a mile in 2004. See Transportation
Expenses under What Expenses Can Be Deducted, for more information.
Limit on itemized deductions.
If your adjusted gross income for 2005 is more than $145,950 ($72,975 if you are married filing separately), your itemized deductions may be
limited. See Employees under Deducting Business Expenses, and the instructions for Schedule A (Form 1040), line 28.
This chapter discusses work-related education expenses that you may be able to deduct as business expenses.
To claim such a deduction, you must:
Be working,
Itemize your deductions on Schedule A (Form 1040) if you are an employee,
File Schedule C (Form 1040) or Schedule F (Form 1040) if you are self-employed, and
Have expenses for education that meet the requirements discussed under Qualifying Work-Related
Education.
What is the tax benefit of taking a business deduction for work-related education.Business deduction for work-related education:Tax benefit of
If you are an employee and able to itemize your deductions, you may be able to claim a deduction for the expenses you pay for your work-related
education. Your deduction will be the amount by which your qualifying work-related education expenses plus other job and certain miscellaneous
expenses is greater than 2% of your adjusted gross income. An itemized deduction reduces the amount of your income subject to tax.
If you are self-employed, you deduct your expenses for qualifying work-related education directly from your self-employment income. This reduces
the amount of your income subject to both income tax and self-employment tax.
Your work-related education expenses may also qualify you for other tax benefits, such as the tuition and fees deduction and the Hope and lifetime
learning credits. You may qualify for these other benefits even if you do not meet the requirements listed above.
Also, keep in mind that your work-related education expenses may qualify you to claim more than one tax benefit. Generally, you may claim any
number of benefits as long as you use different expenses to figure each one.
When you figure your taxes, you may want to compare these tax benefits so you can choose the method(s) that give you the lowest tax liability.
First, figure your taxes using the expenses as business deductions. Then, figure your taxes again using any of the other deductions and credits for
which you qualify. You may find that a combination of credit(s) and deduction(s) gives you the lowest tax.
Qualifying Work-Related Education
Qualifying work-related educationYou can deduct the costs of qualifying work-related education as business
expenses. This is education that meets at least one of the following two tests.
The education is required by your employer or the law to keep your present salary, status, or job. The required education must serve a bona
fide business purpose of your employer.
The education maintains or improves skills needed in your present work.
However, even if the education meets one or both of the above tests, it is not qualifying work-related education if it:
Is needed to meet the minimum educational requirements of your present trade or business, or
Is part of a program of study that will qualify you for a new trade or business.
You can deduct the costs of qualifying work-related education as a business expense even if the education could lead to a degree.
Use Figure 12-1 (see next page) as a quick check to see if your education qualifies.
Education Required by
Employer or by LawBusiness deduction for work-related education:Education required by employer or by law
Once you have met the minimum educational requirements for your job, your employer or the law may require you to get more education. This
additional education is qualifying work-related education if all three of the following requirements are met.
It is required for you to keep your present salary, status, or job,
The requirement serves a business purpose of your employer, and
The education is not part of a program that will qualify you for a new trade or business.
When you get more education than your employer or the law requires, the additional education can be qualifying work-related education only if it
maintains or improves skills required in your present work. See Education To Maintain or Improve Skills, on the next page.
Example.
You are a teacher who has satisfied the minimum requirements for teaching. Your employer requires you to take an additional college course each
year to keep your teaching job. If the courses will not qualify you for a new trade or business, they are qualifying work-related education even if
you eventually receive a master's degree and an increase in salary because of this extra education.
Qualifying work-related education:Determining if qualified (Figure 12-1)Tables and figures: Work-related education, qualifying (Figure 12-1)Figure 12–1. Does Your Work-Related Education Qualify?Summary: This flowchart is used to determine if expenses incurred for work-related education qualify for deduction.StartThis is the starting of the flowchart.Decision (1)Is the education required by your employer or the law to keep your present salary, status, or job?IF Yes Continue To Decision (2)IF No Continue To Decision (3)Decision (2)Does the requirement serve a bona fide business requirement of your employer?IF Yes Continue To Decision (4)IF No Continue To Decision (3)Decision (3)Does the education maintain or improve skills needed in your present work?IF Yes Continue To Decision (4)IF No Continue To Process (a)Decision (4)Is the education needed to meet the minimum educational requirements of your present trade or business?IF Yes Continue To Process (a)IF No Continue To Decision (5)Process (a)Your education is not qualifying work-related education.Continue To EndDecision (5)Is the education part of a program of study that will qualify you for a new trade or business?IF Yes Continue To Process (a)IF No Continue To Process (b)Process (b)Your education is qualifying work-related education.Continue To EndEndThis is the ending of the flowchart.
Education To Maintain or
Improve SkillsBusiness deduction for work-related education:Education to maintain or improve skills
If your education is not required by your employer or the law, it can be qualifying work-related education only if it maintains or improves skills
needed in your present work. This could include refresher courses, courses on current developments, and academic or vocational courses.
Example.
You repair televisions, radios, and stereo systems for XYZ Store. To keep up with the latest changes, you take special courses in radio and stereo
service. These courses maintain and improve skills required in your work.
Maintaining skills vs. qualifying for new job.Business deduction for work-related education:Maintaining skills vs. qualifying for new job
Education to maintain or improve skills needed in your present work is not qualifying education if it will also qualify you for a new trade or
business.
Temporary absence.Business deduction for work-related education:Temporary absence to acquire education
If you stop working for a year or less in order to get education to maintain or improve skills needed in your present work and then return to the
same general type of work, your absence is considered temporary. Education that you get during a temporary absence is qualifying work-related
education if it maintains or improves skills needed in your present work.
Example.
You quit your biology research job to become a full-time biology graduate student for one year. If you return to work in biology research after
completing the courses, the education is related to your present work even if you do not go back to work with the same employer.
Indefinite absence.Business deduction for work-related education:Indefinite absence
If you stop work for more than a year, your absence from your job is considered indefinite. Education during an indefinite absence, even if it
maintains or improves skills needed in the work from which you are absent, is considered to qualify you for a new trade or business. Therefore, it is
not qualifying work-related education.
Education To Meet
Minimum RequirementsBusiness deduction for work-related education:Education to meet minimum requirements
Education you need to meet the minimum educational requirements for your present trade or business is not qualifying work-related education. The
minimum educational requirements are determined by:
Laws and regulations,
Standards of your profession, trade, or business, and
Your employer.
Once you have met the minimum educational requirements that were in effect when you were hired, you do not have to meet any new minimum educational
requirements. This means that if the minimum requirements change after you were hired, any education you need to meet the new requirements can be
qualifying education.
You have not necessarily met the minimum educational requirements of your trade or business simply because you are already doing the work.
Example 1.
You are a full-time engineering student. Although you have not received your degree or certification, you work part time as an engineer for a firm
that will employ you as a full-time engineer after you finish college. Although your college engineering courses improve your skills in your present
job, they are also needed to meet the minimum job requirements for a full-time engineer. The education is not qualifying work-related education.
Example 2.
You are an accountant and you have met the minimum educational requirements of your employer. Your employer later changes the minimum educational
requirements and requires you to take college courses to keep your job. These additional courses can be qualifying work-related education because you
have already satisfied the minimum requirements that were in effect when you were hired.
Requirements for TeachersBusiness deduction for work-related education:TeachersTeachers
States or school districts usually set the minimum educational requirements for teachers. The requirement is the college degree or the minimum
number of college hours usually required of a person hired for that position.
If there are no requirements, you will have met the minimum educational requirements when you become a faculty member. You generally will be
considered a faculty member when one or more of the following occurs.
You have tenure.
Your years of service count toward obtaining tenure.
You have a vote in faculty decisions.
Your school makes contributions for you to a retirement plan other than social security or a similar program.
Example 1.
The law in your state requires beginning secondary school teachers to have a bachelor's degree, including 10 professional education courses. In
addition, to keep the job a teacher must complete a fifth year of training within 10 years from the date of hire. If the employing school certifies to
the state Department of Education that qualified teachers cannot be found, the school can hire persons with only 3 years of college. However, to keep
their jobs, these teachers must get a bachelor's degree and the required professional education courses within 3 years.
Under these facts, the bachelor's degree, whether or not it includes the 10 professional education courses, is considered the minimum educational
requirement for qualification as a teacher in your state.
If you have all the required education except the fifth year, you have met the minimum educational requirements. The fifth year of training is
qualifying work-related education unless it is part of a program of study that will qualify you for a new trade or business.
Example 2.
Assume the same facts as in Example 1 except that you have a bachelor's degree and only six professional education courses. The
additional four education courses can be qualifying work-related education. Although you do not have all the required courses, you have already met
the minimum educational requirements.
Example 3.
Assume the same facts as in Example 1 except that you are hired with only 3 years of college. The courses you take that lead to a
bachelor's degree (including those in education) are not qualifying work-related education. They are needed to meet the minimum educational
requirements for employment as a teacher.
Example 4.
You have a bachelor's degree and you work as a temporary instructor at a university. At the same time, you take graduate courses toward an advanced
degree. The rules of the university state that you can become a faculty member only if you get a graduate degree. Also, you can keep your job as an
instructor only as long as you show satisfactory progress toward getting this degree. You have not met the minimum educational requirements to qualify
you as a faculty member. The graduate courses are not qualifying work-related education.
Certification in a new state.
Once you have met the minimum educational requirements for teachers for your state, you are considered to have met the minimum educational
requirements in all states. This is true even if you must get additional education to be certified in another state. Any additional education you need
is qualifying work-related education. You have already met the minimum requirements for teaching. Teaching in another state is not a new trade or
business.
Example.
You hold a permanent teaching certificate in State A and are employed as a teacher in that state for several years. You move to State B and are
promptly hired as a teacher. You are required, however, to complete certain prescribed courses to get a permanent teaching certificate in State B.
These additional courses are qualifying work-related education because the teaching position in State B involves the same general kind of work for
which you were qualified in State A.
Education That Qualifies You for a New Trade or BusinessBusiness deduction for work-related education:Education to qualify for new trade or business
Education that is part of a program of study that will qualify you for a new trade or business is not qualifying work- related education. This is
true even if you do not plan to enter that trade or business.
If you are an employee, a change of duties that involves the same general kind of work is not a new trade or business.
Example 1.
You are an accountant. Your employer requires you to get a law degree at your own expense. You register at a law school for the regular curriculum
that leads to a law degree. Even if you do not intend to become a lawyer, the education is not qualifying because the law degree will qualify you for
a new trade or business.
Example 2.
You are a general practitioner of medicine. You take a 2-week course to review developments in several specialized fields of medicine. The course
does not qualify you for a new profession. It is qualifying work- related education because it maintains or improves skills required in your present
profession.
Example 3.
While working in the private practice of psychiatry, you enter a program to study and train at an accredited psychoanalytic institute. The program
will lead to qualifying you to practice psychoanalysis. The psychoanalytic training does not qualify you for a new profession. It is qualifying
work-related education because it maintains or improves skills required in your present profession.
Bar or CPA Review CourseBar review courseCPA review course
Review courses to prepare for the bar examination or the certified public accountant (CPA) examination are not qualifying work-related education.
They are part of a program of study that can qualify you for a new profession.
Teaching and Related DutiesBusiness deduction for work-related education:TeachersTeachers
All teaching and related duties are considered the same general kind of work. A change in duties in any of the following ways is not considered a
change to a new business.
Elementary school teacher to secondary school teacher.
Teacher of one subject, such as biology, to teacher of another subject, such as art.
Classroom teacher to guidance counselor.
Classroom teacher to school administrator.
Qualifying work-related educationWhat Expenses
Can Be DeductedBusiness deduction for work-related education:Deductible education expensesQualified education expensesQualified education expenses:Work-related education
If your education meets the requirements described earlier under Qualifying Work-Related Education, you can generally deduct your
education expenses as business expenses. If you are not self-employed, you can deduct business expenses only if you itemize your deductions.
You cannot deduct expenses related to tax-exempt and excluded income.
Deductible expenses.
The following education expenses can be deducted.
Tuition, books, supplies, lab fees, and similar items.
Certain transportation and travel costs.
Other education expenses, such as costs of research and typing when writing a paper as part of an educational program.
Nondeductible expenses.Business deduction for work-related education:Nondeductible expenses
You cannot deduct personal or capital expenses. For example, you cannot deduct the dollar value of vacation time or annual leave you take to attend
classes. This amount is a personal expense.
If you do not claim reimbursement that you are entitled to receive from your employer, you cannot deduct the expenses that apply to the
reimbursement.
Example.
Your employer agrees to pay your education expenses if you file a voucher showing your expenses. You do not file a voucher and you do not get
reimbursed. Because you did not file a voucher, you cannot deduct the expenses on your tax return.
Transportation ExpensesBusiness deduction for work-related education:Transportation expensesTransportation expenses:Work-related education
If your education qualifies, you can deduct local transportation costs of going directly from work to school. If you are regularly employed and go
to school on a temporary basis, you can also deduct the costs of returning from school to home.
Temporary basis.Temporary-basis student, transportation expenses of
You go to school on a temporary basis if either of the following situations applies to you.
Your attendance at school is realistically expected to last 1 year or less and does indeed last for 1 year or less.
Initially, your attendance at school is realistically expected to last 1 year or less, but at a later date your attendance is reasonably
expected to last more than 1 year. Your attendance is temporary up to the date you determine it will last more than 1 year.
If you are in either situation (1) or (2) above, your attendance is not temporary if facts and circumstances indicate otherwise.
Attendance not on a temporary basis.
You do not go to school on a temporary basis if any of the following situations apply to you.
Your attendance at school is realistically expected to last more than 1 year. It does not matter how long you actually attend.
Initially, your attendance at school is realistically expected to last 1 year or less, but at a later date your attendance is reasonably
expected to last more than 1 year. Your attendance is not temporary after the date you determine it will last more than 1 year.
Deductible Transportation Expenses
If you are regularly employed and go directly from home to school on a temporary basis, you can deduct the round-trip costs of transportation
between your home and school. This is true regardless of the location of the school, the distance traveled, or whether you attend school on nonwork
days.
Transportation expenses include the actual costs of bus, subway, cab, or other fares, as well as the costs of using your car. Transportation
expenses do not include amounts spent for travel, meals, or lodging while you are away from home overnight.
Example 1.
You regularly work in a nearby town, and go directly from work to home. You also attend school every work night for 3 months to take a course that
improves your job skills. Since you are attending school on a temporary basis, you can deduct your daily round-trip transportation expenses in going
between home and school. This is true regardless of the distance traveled.
Example 2.
Assume the same facts as in Example 1 except that on certain nights you go directly from work to school and then home. You can deduct
your transportation expenses from your regular work site to school and then home.
Example 3.
Assume the same facts as in Example 1 except that you attend the school for 9 months on Saturdays, nonwork days. Since you are attending
school on a temporary basis, you can deduct your round-trip transportation expenses in going between home and school.
Example 4.
Assume the same facts as in Example 1 except that you attend classes twice a week for 15 months. Since your attendance in school is not
considered temporary, you cannot deduct your transportation expenses in going between home and school. If you go directly from work to school, you can
deduct the one-way transportation expenses of going from work to school. If you go from work to home to school and return home, your transportation
expenses cannot be more than if you had gone directly from work to school.
Using your car.
Business deduction for work-related education:Transportation expensesTransportation expenses:Work-related educationMileage deduction for work-related educationStandard mileage rate:Work-related educationIf you use your car (whether you own or lease it) for transportation to school, you can deduct your
actual expenses or use the standard mileage rate to figure the amount you can deduct. The standard mileage rate for miles driven from January 1, 2005,
through August 31, 2005, is 40 cents a mile. The rate for miles driven from September 1, 2005, through December 31, 2005 is 48 cents a mile. Whichever method you use, you can also deduct parking fees and tolls. See Publication 463 for information on deducting your
actual expenses of using a car.
Travel ExpensesBusiness deduction for work-related education:Travel expensesTravel expenses:Work-related education
You can deduct expenses for travel, meals (see 50% limit on meals, later), and lodging if:
You travel overnight to obtain qualifying work-related education, and
The main purpose of the trip is to attend a work- related course or seminar.
Travel expenses for qualifying work-related education are treated the same as travel expenses for other employee business purposes. For more
information, see Publication 463.
You cannot deduct expenses for personal activities such as sightseeing, visiting, or entertaining.
Mainly personal travel.
If your travel away from home is mainly personal, you cannot deduct all of your expenses for travel, meals, and lodging. You can deduct only your
expenses for lodging and 50% of your expenses for meals during the time you attend the qualified educational activities.
Whether a trip's purpose is mainly personal or educational depends upon the facts and circumstances. An important factor is the comparison of time
spent on personal activities with time spent on educational activities. If you spend more time on personal activities, the trip is considered mainly
educational only if you can show a substantial nonpersonal reason for traveling to a particular location.
Example 1.
John works in Newark, New Jersey. He traveled to Chicago to take a deductible 1-week course at the request of his employer. His main reason for
going to Chicago was to take the course.
While there, he took a sightseeing trip, entertained some friends, and took a side trip to Pleasantville for a day.
Since the trip was mainly for business, John can deduct his round-trip airfare to Chicago. He cannot deduct his transportation expenses of going to
Pleasantville. He can deduct only the meals (subject to the 50% limit) and lodging connected with his educational activities.
Example 2.
Sue works in Boston. She went to a university in Michigan to take a course for work. The course is qualifying work-related education.
She took one course, which is one-fourth of a full course load of study. She spent the rest of the time on personal activities. Her reasons for
taking the course in Michigan were all personal.
Sue's trip is mainly personal because three-fourths of her time is considered personal time. She cannot deduct the cost of her round-trip train
ticket to Michigan. She can deduct one-fourth of the meals (subject to the 50% limit) and lodging costs for the time she attended the university.
Example 3.
Dave works in Nashville and recently traveled to California to take a 2-week seminar. The seminar is qualifying work-related education.
While there, he spent an extra 8 weeks on personal activities. The facts, including the extra 8-week stay, show that his main purpose was to take a
vacation.
Dave cannot deduct his round-trip airfare or his meals and lodging for the 8 weeks. He can deduct only his expenses for meals (subject to the 50%
limit) and lodging for the 2 weeks he attended the seminar.
Cruises and conventions.Conventions outside U.S.Cruises, educationalLuxury water transportation
Certain cruises and conventions offer seminars or courses as part of their itinerary. Even if the seminars or courses are work related, your
deduction for travel may be limited. This applies to:
Travel by ocean liner, cruise ship, or other form of luxury water transportation, and
Conventions outside the North American area.
For a discussion of the limits on travel expense deductions that apply to cruises and conventions, see Luxury Water Travel and
Conventions in Publication 463.
50% limit on meals.Travel expenses:50% limit on meals
You can deduct only 50% of the cost of your meals while traveling away from home to obtain qualifying work-related education. You cannot have been
reimbursed for the meals.
Employees must use Form 2106 or Form 2106-EZ to apply the 50% limit.
Form 2106Form 2106-EZ
Travel as EducationTravel expenses:Not deductible as form of education
You cannot deduct the cost of travel as a form of education even if it is directly related to your duties in your work or business.
Example.
You are a French language teacher. While on sabbatical leave granted for travel, you traveled through France to improve your knowledge of the
French language. You chose your itinerary and most of your activities to improve your French language skills. You cannot deduct your travel expenses
as education expenses. This is true even if you spent most of your time learning French by visiting French schools and families, attending movies or
plays, and engaging in similar activities.
Business deduction for work-related education:Travel expensesTravel expenses:Work-related educationNo Double Benefit AllowedBusiness deduction for work-related education:Double benefit not allowedDouble benefit not allowed:Work-related education
You cannot do any of the following.
Deduct work-related education expenses as business expenses if you deduct these expenses under any other provision of the law, for example,
as a tuition and fees deduction.
Deduct work-related education expenses paid with tax-free scholarship, grant, or employer-provided
educational assistance. See Adjustments to Qualifying Work-Related Education Expenses, next.
Adjustments to Qualifying Work-Related Education ExpensesBusiness deduction for work-related education:Adjustments to qualifying work-related education expensesQualified education expenses:Adjustments to:Work-related education
If you pay qualifying work-related education expenses with certain tax-free funds, you cannot claim a deduction for those amounts. You must reduce
the qualifying expenses by the amount of any tax-free educational assistance you received.
The tax-free part of scholarships and fellowships (see chapter 1),
Pell grants (see chapter 1),
Employer-provided educational assistance (see chapter 11),
Veterans' educational assistance (see chapter 1), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.
Amounts that do not reduce qualifying work-related education expenses.
Do not reduce the qualifying work-related education expenses by amounts paid with funds the student receives as:
Payment for services, such as wages,
A loan,
A gift,
An inheritance, or
A withdrawal from the student's personal savings.
Also, do not reduce the qualifying work-related education expenses by any scholarship or fellowship reported as income on the student's return or
any scholarship which, by its terms, cannot be applied to qualifying work-related education expenses.
Business deduction for work-related education:Deductible education expensesBusiness deduction for work-related education:Qualified education expensesQualified education expenses:Work-related educationHow To Treat ReimbursementsBusiness deduction for work-related education:Reimbursements, treatment ofReimbursements:Work-related education
How you treat reimbursements depends on the arrangement you have with your employer.
There are two basic types of reimbursement arrangements—accountable plans and nonaccountable plans. You can tell the type of plan you are
reimbursed under by the way the reimbursement is reported on your Form W-2.
Note.
The following rules about reimbursement arrangements also apply to expense allowances received from your employer.
Accountable PlansAccountable plansBusiness deduction for work-related education:Accountable plans
To be an accountable plan, your employer's reimbursement arrangement must require you to meet all three of the following rules.
Your expenses must have a business connection—that is, your expenses must be deductible under the rules for qualifying work-related
education explained earlier.
You must adequately account to your employer for your expenses within a reasonable period of time.
You must return any reimbursement or allowance in excess of the expenses accounted for within a reasonable period of time.
If you are reimbursed under an accountable plan, your employer should not include any reimbursement in your income in box 1 of your Form W-2.
If your employer included reimbursements in box 1 of your Form W-2 and you meet all three rules for accountable plans, ask your employer for a
corrected Form W-2.
Accountable plan rules not met.
Even though you are reimbursed under an accountable plan, some of your expenses may not meet all three rules for accountable plans. Those expenses
that fail to meet the three rules are treated as having been reimbursed under a nonaccountable plan (discussed later).
Expenses equal reimbursement.
Under an accountable plan, if your expenses equal your reimbursement, you do not complete Form 2106 or 2106-EZ. Because your expenses and
reimbursements are equal, you do not have a deduction.
Excess expenses.Business deduction for work-related education:Excess expenses, accountable planExcess expenses, accountable plan
If your expenses are more than your reimbursement, you can deduct your excess expenses. This is discussed later under Deducting Business
Expenses.
Allocating your reimbursements for meals.Business deduction for work-related education:Allocating meal reimbursements
Because your excess meal expenses are subject to the 50% limit, you must figure them separately from your other expenses. If your employer paid you
a single amount to cover both meals and other expenses, you must allocate the reimbursement so that you can figure your excess meal expenses
separately. You make the allocation as follows.
Divide your meal expenses by your total expenses.
Multiply your total reimbursement by the result from (1). This is the allocated reimbursement for your meal expenses.
Subtract the amount figured in (2) from your total reimbursement. The difference is the allocated reimbursement for your other expenses of
qualifying work-related education.
Example.
Your employer paid you an expense allowance of $2,000 under an accountable plan. The allowance was to cover all of your expenses of traveling away
from home to take a 2-week training course for work. There was no indication of how much of the reimbursement was for each type of expense. Your
actual expenses equal $2,500 ($425 for meals + $700 lodging + $150 transportation expenses + $1,225 for books and tuition).
Using the steps listed above, allocate the reimbursement between the $425 meal expenses and the $2,075 other expenses.
3.$2,000 (reimbursement) − $340 (meals) =$1,660 (allocated reimbursement for other qualifying work-related education
expenses)
Your excess meal expenses are $85 ($425 − $340) and your excess other expenses are $415 ($2,075 − $1,660). After you apply the 50%
limit to your meals, you have a deduction for work-related education expenses of $457.50 (($85 × 50%) + $415).
Nonaccountable PlansBusiness deduction for work-related education:Nonaccountable plansNonaccountable plans:Work-related education
Your employer will combine the amount of any reimbursement or other expense allowance paid to you under a nonaccountable plan with your wages,
salary, or other pay and report the total in box 1 of your Form W-2.
You can deduct your expenses regardless of whether they are more than, less than, or equal to your reimbursement. This is discussed later under
Deducting Business Expenses. An illustrated example of a nonaccountable plan, using Form 2106-EZ, is shown at the end of this chapter.
Reimbursements for nondeductible expenses.Reimbursements:Nondeductible expenses
Reimbursements you received for nondeductible expenses are treated as paid under a nonaccountable plan. You must include them in your income. For
example, you must include in your income reimbursements your employer gave you for expenses of education that:
You need to meet the minimum educational requirements for your job, or
Is part of a program of study that can qualify you for a new trade or business.
For more information on accountable and nonaccountable plans, see Publication 463.
Reimbursements:Work-related educationDeducting Business ExpensesBusiness deduction for work-related education:Deducting business expensesReporting:Work-related education expenses
Self-employed persons and employees report their business expenses differently.
The following information explains what forms you must use to deduct the cost of your qualifying work-related education as a business expense.
If you are self-employed, you must report the cost of your qualifying work-related education on the appropriate form used to report your business
income and expenses (generally Schedule C, C-EZ, or F). If your educational expenses include expenses for a car or truck, travel, or meals, report
those expenses the same way you report other business expenses for those items. See the instructions for the form you file for information on how to
complete it.
If you are an employee, you can deduct the cost of qualifying work-related education only if you:
Did not receive any reimbursement from your employer,
Were reimbursed under a nonaccountable plan (amount is included in box 1 of Form W-2), or
Received reimbursement under an accountable plan, but the amount received was less than your expenses.
If either (1) or (2) applies, you can deduct the total qualifying cost. If (3) applies, you can deduct only the qualifying costs that were more
than your reimbursement.
In order to deduct the cost of your qualifying work- related education as a business expense, include the amount with your deduction for any other
employee business expenses on Schedule A (Form 1040), line 20. (Special rules for expenses of certain performing artists and fee-basis officials and
for impairment-related work expenses are explained later.)
This deduction is subject to the 2%-of-adjusted- gross-income limit that applies to most miscellaneous itemized deductions. A separate limit may
apply to your itemized deductions if your adjusted gross income is more than $145,950 ($72,975 if you are married filing separately). See the
instructions for Schedule A (Form 1040), line 28.
Form 2106 or 2106-EZ.Form 2106Form 2106-EZ
To figure your deduction for employee business expenses, including qualifying work- related education, you generally must complete Form 2106 or
2106-EZ.
Form not required.
Do not complete either Form 2106 or 2106-EZ if:
All reimbursements, if there were any, are included in box 1 of your Form W-2, and
You are not claiming travel, transportation, meal, or entertainment expenses.
If you meet both of these requirements, enter the expenses directly on Schedule A (Form 1040), line 20. (Special rules for expenses of certain
performing artists and fee-basis officials and for impairment-related work expenses are explained later.)
Using Form 2106-EZ.Form 2106-EZ
This form is shorter and easier to use than Form 2106. Generally, you can use this form if:
All reimbursements, if there were any, are included in box 1 of your Form W-2, and
You are using the standard mileage rate if you are claiming vehicle expenses.
If you do not meet both of these requirements, use Form 2106.
If you are a qualified performing artist, or a state (or local) government official who is paid in whole or in part on a fee basis, you can deduct
the cost of your qualifying work- related education as an adjustment to gross income rather than as an itemized deduction.
Include the cost of your qualifying work-related education with any other employee business expenses on Form 1040, line 24. You do not have to
itemize your deductions on Schedule A (Form 1040), and, therefore, the deduction is not subject to the 2%-of-adjusted-gross-income limit. You must
complete Form 2106 or 2106-EZ to figure your deduction even if you meet the requirements described earlier under Form not required.
For more information on qualified performing artists, see Publication 463.
Impairment-Related Work ExpensesDisabilities, persons with:Impairment-related work expensesImpairment-related work expenses:Work-related education deduction
If you are disabled and have impairment-related work expenses that are necessary for you to be able to get qualifying work-related education, you
can deduct these expenses on Schedule A (Form 1040), line 27. They are not subject to the 2%-of-adjusted-gross-income limit. To deduct these expenses,
you must complete Form 2106 or 2106-EZ even if you meet the requirements described earlier under Form not required.
For more information on impairment-related work expenses, see Publication 463.
Business deduction for work-related education:Deducting business expensesReporting:Work-related education expensesRecordkeepingBusiness deduction for work-related education:Recordkeeping requirementsRecordkeeping requirements:Work-related education
You must keep records as proof of any deduction claimed on your tax return. Generally, you should keep your records for 3 years from the date of
filing the tax return and claiming the deduction.
If you are an employee who is reimbursed for expenses and you give your records and documentation to your employer, you do not have to keep
duplicate copies of this information. However, you should keep your records for a 3-year period if:
You claim deductions for expenses that are more than your reimbursement,
Your employer does not use adequate accounting procedures to verify expense accounts,
You are related to your employer, or
Your expenses are reimbursed under a nonaccountable plan.
Examples of records to keep.
If any of the above cases apply to you, you must be able to prove that your expenses are deductible. You should keep adequate records or have
sufficient evidence that will support your expenses. Estimates or approximations do not qualify as proof of an expense. Some examples of what can be
used to help prove your expenses are:
Documents, such as transcripts, course descriptions, catalogs, etc., showing periods of enrollment in educational institutions, principal
subjects studied, and descriptions of educational activity.
Canceled checks and receipts to verify amounts you spent for:
Tuition and books,
Meals and lodging while away from home overnight for educational purposes,
Travel and transportation, and
Other educational expenses.
Statements from your employer explaining whether the education was necessary for you to keep your job, salary, or status; how the education
helped maintain or improve skills needed in your job; how much reimbursement you received; and the type of certificate and subjects taught, if you are
a teacher.
Complete information about any scholarship or fellowship grants, including amounts you received during the year.
Business deduction for work-related education:Recordkeeping requirementsRecordkeeping requirements:Work-related education
Illustrated Example
Victor Jones teaches math at a private high school in North Carolina. He was selected to attend a 3-week math seminar at a university in
California. The seminar will improve his skills in his current job and is qualifying work-related education. He was reimbursed for his expenses under
his employer's nonaccountable plan, so his reimbursement of $2,100 is included in the wages shown in box 1 of his Form W-2. Victor will file Form
1040.
His actual expenses for the seminar are as follows:
Lodging$1,050Meals526Airfare550Taxi fares50Tuition and books400Total Expenses$2,576
Victor files Form 2106-EZ with his tax return. He shows his expenses for the seminar in Part I of the form. He enters $1,650 ($1,050 + $550 + $50)
on line 3 to account for his lodging, airfare, and taxi fares. He enters $400 on line 4 for his tuition and books. On the line for meals and
entertainment expenses to the left of line 5, Victor enters $526 for meal expenses. He multiplies that amount by 50% and enters the result, $263, on
line 5. On line 6, Victor totals the amounts from lines 3 through 5. He carries the total, $2,313, to Schedule A (Form 1040), line 20.
Since he does not claim any vehicle expenses, Victor leaves Part II blank. His filled-in form is shown on the next page.
Form 2106-EZ:Filled-in exampleBusiness deduction for work-related educationForm 2106-EZ Unreimbursed Employee Business Expenses 2005Summary: This is an example of Form 2106-EZ (2005) with items included as described in the text. Additionally, these line items are
completed:Your name field contains Victor JonesOccupation in which you incurred expenses field contains TeachingSocial security number field contains 123-00-4321
How To Get Tax HelpMore informationTax helpFree tax servicesTax helpHelpTax helpAssistanceTax helpPublicationsTax helpTTY/TDD information
You can get help with unresolved tax issues, order free publications and forms, ask tax questions, and get information from the IRS in several
ways. By selecting the method that is best for you, you will have quick and easy access to tax help.
Contacting your Taxpayer Advocate.Taxpayer Advocate
If you have attempted to deal with an IRS problem unsuccessfully, you should contact your Taxpayer Advocate.
The Taxpayer Advocate independently represents your interests and concerns within the IRS by protecting your rights and resolving problems that
have not been fixed through normal channels. While Taxpayer Advocates cannot change the tax law or make a technical tax decision, they can clear up
problems that resulted from previous contacts and ensure that your case is given a complete and impartial review.
To contact your Taxpayer Advocate:
Call the Taxpayer Advocate toll free at
1-877-777-4778.
Call, write, or fax the Taxpayer Advocate office in your area.
For more information, see Publication 1546, How To Get Help With Unresolved Tax Problems (now available in Chinese, Korean, Russian, and
Vietnamese, in addition to English and Spanish).
Free tax services.
To find out what services are available, get Publication 910, IRS Guide to Free Tax Services. It contains a list of free tax publications and an
index of tax topics. It also describes other free tax information services, including tax education and assistance programs and a list of TeleTax
topics.
Internet. You can access the IRS website 24 hours a day, 7 days a week, at
www.irs.gov to:
E-file your return. Find out about commercial tax preparation and e-file services available free to eligible
taxpayers.
Check the status of your 2005 refund. Click on Where's My Refund. Be sure to wait at least 6 weeks from the date you filed your
return (3 weeks if you filed electronically). Have your 2005 tax return available because you will need to know your social security number, your
filing status, and the exact whole dollar amount of your refund.
Download forms, instructions, and publications.
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Search publications online by topic or keyword.
View Internal Revenue Bulletins (IRBs) published in the last few years.
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and prior-year forms and instructions. You should receive your order within 10 days.
Asking tax questions. Call the IRS with your tax questions at 1-800-829-1040.
Solving problems. You can get face-to-face help solving tax problems every business day in IRS Taxpayer Assistance Centers. An
employee can explain IRS letters, request adjustments to your account, or help you set up a payment plan. Call your local Taxpayer Assistance Center
for an appointment. To find the number, go to
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look in the phone book under United States Government, Internal Revenue Service.
TTY/TDD equipment. If you have access to TTY/TDD equipment, call 1-800-829-4059 to ask tax questions or to order forms and
publications.
TeleTax topics. Call 1-800-829-4477 and press 2 to listen to pre-recorded messages covering various tax topics.
Refund information. If you would like to check the status of your 2005 refund, call 1-800-829-4477 and press 1 for automated
refund information or call 1-800-829-1954. Be sure to wait at least 6 weeks from the date you filed your return (3 weeks if you filed electronically).
Have your 2005 tax return available because you will need to know your social security number, your filing status, and the exact whole dollar amount
of your refund.
Evaluating the quality of our telephone services. To ensure that IRS representatives give accurate, courteous, and professional answers,
we use several methods to evaluate the quality of our telephone services. One method is for a second IRS representative to sometimes listen in on or
record telephone calls. Another is to ask some callers to complete a short survey at the end of the call.
Walk-in. Many products and services are available on a walk-in basis.
Products. You can walk in to many post offices, libraries, and IRS offices to pick up certain forms, instructions, and
publications. Some IRS offices, libraries, grocery stores, copy centers, city and county government offices, credit unions, and office supply stores
have a collection of products available to print from a CD-ROM or photocopy from reproducible proofs. Also, some IRS offices and libraries have the
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employee can explain IRS letters, request adjustments to your tax account, or help you set up a payment plan. If you need to resolve a tax problem,
have questions about how the tax law applies to your individual tax return, or you're more comfortable talking with someone in person, visit your
local Taxpayer Assistance Center where you can spread out your records and talk with an IRS representative face-to-face. No appointment is necessary,
but if you prefer, you can call your local Center and leave a message requesting an appointment to resolve a tax account issue. A representative will
call you back within 2 business days to schedule an in-person appointment at your convenience. To find the number, go to
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February.
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features. This year's CD includes:
Helpful information, such as how to prepare a business plan, find financing for your business, and much more.
All the business tax forms, instructions, and publications needed to successfully manage a business.
Tax law changes for 2005.
IRS Tax Map to help you find forms, instructions, and publications by searching on a keyword or topic.
Web links to various government agencies, business associations, and IRS organizations.
Rate the Product survey—your opportunity to suggest changes for future editions.
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www.irs.gov/smallbiz.
Appendices
The following appendices include an illustrated example of how to use the Form 8863 when claiming both the Hope and lifetime learning (education)
credits at the same time and a chart reflecting some of the major differences between the many tax benefits for education that are outlined in this
publication.
Appendix A—An Illustrated Example of Education Credits including a filled-in Form 8863 showing how to claim both
the Hope credit and lifetime learning credit for 2005.
Appendix B—A chart summarizing some of the differences between the education tax benefits discussed in this publication. It
is intended only as a guide. Look in this publication for more complete information.
Appendix A. Illustrated Example of Education CreditsIllustrated example of education credits (Appendix A)
Dave and Valerie Jones are married and file a joint tax return. For 2005, they claim exemptions for their two dependent children on their tax
return. Their modified adjusted gross income is $90,000. Their tax, before credits, is $9,956. Their son, Sean, will receive his bachelor's degree in
psychology from the state college in May 2006. Their daughter, Corey, enrolled full-time at that same college in August 2004 to begin working on her
bachelor's degree in physical education. In July 2005, Dave and Valerie paid $2,200 in tuition costs for each child for the Fall 2005 semester. In
December 2005, they also paid $2,600 of tuition for each child for the Spring 2006 semester that begins in January.
Dave and Valerie, their children, and the college meet all of the require-ments for the education credits. Because Sean is beyond the second
(sophomore) year of his postsec- ondary education, his expenses do not qualify for the Hope credit. But, amounts paid for Sean's expenses in 2005 for
academic periods beginning in 2005 and the first 3 months of 2006 qualify for the lifetime learning credit. Corey is in her first two (freshman and
sophomore) years of postsecondary education and expenses paid for her in 2005, for academic periods beginning in 2005 and January 2006, qualify for
the Hope credit.
Dave and Valerie figure their tentative education credits for 2005, $2,460, as shown in the completed Form 8863.
They cannot claim the full amount because their modified
adjusted gross income is more than $87,000. They carry the amount from line 17 of Form 8863 to line 50 of Form 1040, and they attach the Form 8863 to
their return.
Form 8863:Filled-in examplesAppendix A (Continued)--Form 8863 Education Credits (Hope and Lifetime Learning Credits) 2005Summary: This is an example of Form 8863 (2005) as pertains to the description in the text. The line items completed are:Name(s) shown on return field contains Dave and Valerie JonesYour social security number field contains 987-00-6543Under
Part I: Hope Credit:1a. Student's name (as shown on page 1 of your tax return:First name field contains CoreyLast name field contains Jones1b. Student's social security number (as shown on page 1 of your tax return) field contains 137-00-96421c. Qualified expenses (see instructions). Do not enter more than $2,000 for each student. field contains 2,0001d. Enter the smaller of the amount in column (c) or $1,000 field contains 1,0001e. Add column (c) and column (d) field contains 3,0001f. Enter one-half of the amount in column (e) field contains 1,5002. Tentative Hope credit. Add the amounts on line 1, column (f). If you are taking the lifetime learning credit for another student, go to
Part II; otherwise, go to Part III field contains 1,500Under
Part II: Lifetime Learning Credit:3a. Student's name (as shown on page 1 of your tax return)First name field contains SeanLast name field contains Jones3b. Student's social security number (as shown on page 1 of your tax return) field contains 246-00-97313c. Qualified expenses (see instructions) field contains 4,8004. Add the amounts on line 3, column (c), and enter the total field contains 4,8005. Enter the smaller of line 4or $10,000 field contains 4,8006. Tentative lifetime learning credit. Multiply line 5by 20% (.20) and go to Part III field contains
960Under
Part III: Allowable Education Credits:7. Tentative education credits. Add lines 2 and 6 field contains 2,4608. Enter: $107,000 if married filing jointly; $53,000 if single, head of household, or qualifying widow(er) field contains
107,0009. Enter the amount from Form 1040, line 38, or Form 1040A, line 22 (Footnote: See Publication 970 for the amount to enter if you are filing
Form 2555, 2555-EZ, or 4563 or you are excluding income from Puerto Rico) field contains 90,00012. Subtract line 9 from line 8. If zero or less, stop; you cannot take any education credits field contains 17,00011. Enter: $20,000 if married filing jointly; $10,000 if single, head of household, or qualifying widow(er) field contains
20,00012. If line 10 is equal to or more than line 11, enter the amount from line 7 on line 13 and go to line 14. If line 10 is less than line 11,
divide line 10 by line 11. Enter the result as a decimal (rounded to at least three places) field contains .85013. Multiply line 7 by line 12 field contains 2,09114. Enter the amount from Form 1040, line 46, or Form 1040A, line 28 field contains 9,95615. Enter the total, if any, of your credits from Form 1040, lines 47 through 49, or Form 1040A, lines 29 and 30 field contains
016. Subtract line 15 from line 14. If zero or less, stop; you cannot take any education credits field contains 9,95617. Education credits. Enter the smaller of line 13 or line 16 here and on Form 1040, line 50, or Form 1040A, line 31 field contains
2,091Tables and figures:Comparison of education tax benefits (Appendix B)Tables and figures:Summary chart of differences between education tax benefits (Appendix B)
Appendix B.
<IMARK>Highlights of Tax Benefits for Education for Tax Year 2005This chart highlights some differences among the benefits discussed in this publication. See the text for definitions and
details.Do not rely on this chart alone.Caution:You generally cannot claim more than one benefit for the same education expense.Scholarships,
Fellowships,
Grants, and Tuition ReductionsHope CreditLifetime Learning CreditStudent Loan Interest DeductionTuition and Fees DeductionWhat is your
benefit?Amounts received may not be taxable
Credits can reduce amount of tax you must payCan deduct interest paidCan deduct expensesWhat is the annual limit?None$1,500 credit per
student$2,000 credit per
family
$2,500 deduction$4,000 deductionWhat expenses
qualify besides
tuition and required
enrollment fees?Course-related expenses such as fees, books, supplies, and equipmentNoneNoneBooks
Supplies
Equipment
Room & board
Transportation
Other necessary expenses
NoneWhat education qualifies?Undergraduate & graduate
K–121st 2 years of undergraduate (postsecondary)Undergraduate & graduate
Courses to acquire or improve job skills
Undergraduate & graduateUndergraduate & graduateWhat are some of
the other
conditions that
apply?Must be in degree or vocational program
Payment of tuition and required fees must be allowed under the grantCan be claimed for only 2 tax years
Must be enrolled at least half-time in degree program
No felony drug conviction(s)
Must have been at least half-time
student in degree programCannot claim both deduction & education credit for same student in
same yearIn what income
range do benefits
phase out?No phaseout$43,000 – $53,000
$87,000 – $107,000 for joint returns$50,000 – $65,000
$105,000 –
$135,000 for
joint returns
$65,000 – $80,000
$130,000 –
$160,000 for
joint returns
(Continued)
Appendix B.
<IMARK><ROM><ITL>(Continued)</ITL></ROM>This chart highlights some differences among the benefits discussed in this publication. See the text for definitions and
details.Do not rely on this chart alone.Caution:You generally cannot claim more than one benefit for the same education expense.Coverdell ESA
*Qualified Tuition Program (QTP)
*Educational Exception to Additional Tax on Early IRA Distributions
*Education Savings Bond Program
*Employer-
Provided Educational Assistance
*Business Deduction for Work-Related EducationWhat is your benefit?Earnings not
taxedEarnings not taxedNo 10%
additional tax on early distributionInterest not taxedEmployer benefits not taxedCan deduct expensesWhat is the annual limit?$2,000 contribution per beneficiaryNoneAmount of qualified
education expensesAmount of qualified
education expenses$5,250 exclusionAmount of qualifying work-related education expensesWhat expenses qualify besides tuition and required enrollment fees?Books
Supplies
Equipment
Expenses for special needs services
Payments to QTP
Higher education:
Room & board if
at least half-time
student
Elem/sec (K–12) education:
Tutoring
Room & board
Uniforms
Transportation
Computer
access
Supplementary
expensesBooks
Supplies
Equipment
Room & board if
at least half-time student
Expenses for special needs servicesBooks
Supplies
Equipment
Room & board if
at least half-time student
Expenses for special needs servicesPayments to Coverdell ESA
Payments to QTPBooks
Supplies
EquipmentTransportation
Travel
Other necessary expensesWhat education qualifies?Undergraduate & graduate
K–12Undergraduate & graduateUndergraduate & graduateUndergraduate & graduateUndergraduate & graduateRequired by employer or law to keep present job, salary, status
Maintain or improve job skillsWhat are some of the other conditions that apply?Assets must be distributed at age 30 unless special
needs beneficiaryApplies only to qualified series
EE bonds issued after 1989 or series I bondsCannot be to
meet minimum educational requirements of present trade/business
Cannot qualify
you for new trade/businessIn what income range do benefits phase out?$95,000 – $110,000
$190,000 – $220,000 for
joint returnsNo phaseoutNo phaseout$61,200 – $76,200
$91,850 – $121,850 for
joint returnsNo phaseoutMay be subject to limit on itemized deductions
*Any nontaxable distribution is limited to the amount that does not exceed qualified education
expenses.
Tables and figures:Summary chart of differences between education tax benefits (Appendix B)Tables and figures:Comparison of education tax benefits (Appendix B)GlossaryGlossary
The education benefits included in this publication were enacted over many years, leading to a number of common terms being defined differently
from one benefit to the next. For example, an eligible educational institution means one thing when determining if earnings from a Coverdell education
savings account are not taxable and something else when determining if a scholarship or fellowship is not taxable.
For each term listed below that has more than one definition, the definition for each education benefit is listed.
Academic period:
A semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by an educational institution.
If an educational institution uses credit hours or clock hours and does not have academic terms, each payment period can be treated as an academic
period.
Adjusted qualified education expenses (AQEE):
Qualified education expenses (defined later) reduced by any tax-free educational assistance, such as a tax-free scholarship or employer-provided
educational assistance. They must also be reduced by any qualified education expenses deducted elsewhere on your return, used to determine an
education credit or other benefit, or used to determine a tax-free distribution. For information on a specific benefit, see the appropriate chapter in
this publication.
Candidate for a degree:
A student who meets either of the following requirements.
Attends a primary or secondary school or pursues a degree at a college or university, or
Attends an accredited educational institution that is authorized to provide:
A program that is acceptable for full credit toward a bachelor's or higher degree, or
A program of training to prepare students for gainful employment in a recognized occupation.
Designated beneficiary:
The individual named in the document creating the account/plan who is to receive the benefit of the funds in the account/plan.
Eligible educational institution:
•Coverdell education savings account (ESA). Any college, university, vocational school, or other
postsecondary educational institution eligible to participate in a student aid program administered by the Department of Education. It includes
virtually all accredited public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. Also included is any public,
private, or religious school that provides elementary or secondary education (kindergarten through grade 12), as determined under state law.
•Education savings bond program. Any college, university, vocational school, or other postsecondary
educational institution eligible to participate in a student aid program administered by the Department of Education. It includes virtually all
accredited public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. •Hope credit. See Education savings bond program in this category.•IRA, early distributions from. See Education savings bond program in this
category.•Lifetime learning credit. See Education savings bond program in this category.•Qualified tuition program (QTP). See Education savings bond program in this
category.•Scholarships and fellowships. An institution that maintains a regular faculty and curriculum and
normally has a regularly enrolled body of students in attendance at the place where it carries on its educational activities.•Student loan, cancellation of. See Scholarships and fellowships in this category.
•Student loan interest deduction. Any college, university, vocational school, or other postsecondary
educational institution eligible to participate in a student aid program administered by the Department of Education. It includes virtually all
accredited public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. Also included is an institution that
conducts an internship or residency program leading to a degree or certificate from an institution of higher education, a hospital, or a health care
facility that offers postgraduate training.•Tuition and fees deduction. See Education savings bond program in this
category.
Eligible student:
•Hope credit. A student who meets all of the following requirements for the tax year for which the
credit is being determined.1.Did not have expenses that were used to figure a Hope credit in any 2 earlier tax years.2.Had not completed the first 2 years of postsecondary education.3.For at least one academic period beginning in the tax year, was enrolled at least half-time in a program leading to a degree, certificate, or
other recognized educational credential.4.Was free of any federal or state felony conviction for possessing or distributing a controlled substance as of the end of the tax year.
•Lifetime learning credit. A student who is enrolled in one or more courses at an eligible educational
institution. •Student loan interest deduction. A student who was enrolled at least half-time in a program leading to
a postsecondary degree, certificate, or other recognized educational credential.
•Tuition and fees deduction. A student who has either a high school diploma or a General Educational
Development (GED) credential, and who is enrolled in one or more courses at an eligible educational institution.
Half-time student:
A student who is enrolled for at least half the full-time academic work load for the course of study the student is pursuing, as determined under
the standards of the school where the student is enrolled.
Modified adjusted gross income (MAGI):
•Coverdell education savings account (ESA). Adjusted gross income (AGI) as figured on the federal income
tax return, modified by adding back any: 1.Foreign earned income exclusion, 2.Foreign housing exclusion, 3.Exclusion of income for bona fide residents of American Samoa, and 4.Exclusion of income from Puerto Rico. •Education savings bond program. Adjusted gross income (AGI) as figured on the federal income tax return
without taking into account any savings bond interest exclusion and modified by adding back any:1.Foreign earned income exclusion,2.Foreign housing exclusion,3.Foreign housing deduction,4.Exclusion of income for bona fide residents of American Samoa,5.Exclusion of income from Puerto Rico,6.Exclusion for adoption benefits received under an employer's adoption assistance program,7.Deduction for student loan interest, and8.Deduction for tuition and fees. •Hope credit. See Coverdell education savings account (ESA) in this section.•Lifetime learning credit. See Coverdell education savings account (ESA) in this
section.
•Student loan interest deduction. Adjusted gross income (AGI) as figured on the federal income tax
return without taking into account any student loan interest deduction or tuition and fees deduction, modified by adding back any:1.Foreign earned income exclusion,2.Foreign housing exclusion,3.Foreign housing deduction,4.Exclusion of income for bona fide residents of American Samoa, and5.Exclusion of income from Puerto Rico. •Tuition and fees deduction. Adjusted gross income (AGI) as figured on the federal income tax return
without taking into account any tuition and fees deduction, modified by adding back any:1.Foreign earned income exclusion,2.Foreign housing exclusion,3.Foreign housing deduction,4.Exclusion of income for bona fide residents of American Samoa, and5.Exclusion of income from Puerto Rico.
Phaseout:
The amount of credit or deduction allowed is reduced when modified adjusted gross income (MAGI) is within a certain range of incomes.
Qualified education expenses:
See pertinent chapter for specific items.
•Coverdell education savings account (ESA). Expenses related to or required for enrollment or attendance
of the designated beneficiary at an eligible elementary, secondary, or postsecondary school. Also includes contribution to qualified tuition program
(QTP).•Education savings bond program. Tuition and fees required to enroll at or attend an eligible
educational institution. Also includes contributions to a qualified tuition program (QTP) or
Coverdell education savings account (ESA). Does not include expenses for room and board. Does not include expenses
for courses involving sports, games, or hobbies that are not part of a degree or certificate granting program. •Hope credit. Tuition and certain related expenses required for enrollment or attendance at an eligible
educational institution. Student-activity fees and expenses for course-related books, supplies, and equipment are included only if the fees and
expenses must be paid to the institution as a condition of enrollment or attendance. Does not include expenses for room and board. Does not include
expenses for courses involving sports, games, or hobbies (including noncredit courses) that are not part of the student's postsecondary degree
program.•IRA, early distributions from. Tuition, fees, books, supplies, and equipment required for enrollment or
attendance at an eligible educational institution, plus certain limited costs of room and board for students who are enrolled at least half time. Also
includes expenses for special needs services incurred by or for special needs students in connection with their enrollment or
attendance.•Lifetime learning credit. Same as for Hope credit, except that courses may be taken either
as part of a postsecondary degree program or taken by the student to acquire or improve job skills.•Qualified tuition program (QTP). Tuition, fees, books, supplies, and equipment required for enrollment
or attendance at an eligible educational institution, plus certain limited costs of room and board for students who are enrolled at least half
time.•Scholarships and fellowships. Expenses for tuition and fees required to enroll at or attend an eligible
educational institution, and course-related expenses, such as fees, books, supplies, and equipment that are required for the courses at the eligible
educational institution. Course- related items must be required of all students in the course of instruction.•Student loan interest deduction. Total costs of attending an eligible educational institution,
including graduate school (however, limitations may apply to the cost of room and board allowed).•Tuition and fees deduction. See Hope credit in this category.
Recapture:
To include as income on your return an amount allowed as a credit or deduction in a prior year.
Rollover:
A tax-free distribution to you of cash or other assets from a tax-favored plan that you contribute to another tax-favored plan.
Transfer:
A movement of funds in a tax-favored plan from one trustee directly to another, either at your request or at the trustee's request.
GlossaryTax Publications for Individual Taxpayers
<IMARK><ROM>See <ITL>How To Get Tax Help</ITL> for a variety of ways to get publications, including by computer, phone, and mail.</ROM>
General Guides1Your Rights as a Taxpayer17Your Federal Income Tax (For Individuals)334Tax Guide for Small Business (For Individuals Who Use Schedule C or C-EZ509Tax Calendars for 2006553Highlights of 2005 Tax Changes910Guide to Free Tax ServicesSpecialized Publication3Armed Forces' Tax Guide54Tax Guide for United States Citizens and Residents Aliens Abroa225Farmer's Tax Guide463Travel, Entertainment, Gift, and Car Expenses501Exemptions, Standard Deduction, and Filing Information502Medical and Dental Expenses503Child and Dependent Care Expenses504Divorced or Separated Individuals505Tax Withholding and Estimated Tax508Tax Benefits for Work-Related Education514Foreign Tax Credit for Individuals516 United States Government Civilian Employees Stationed Abroad517Social Security and Other Information for Members of the Clergy and Religious Workers519United States Tax Guide for Aliens520Scholarships and Fellowships521Moving Expenses523Selling Your Home524Credit for the Elderly or the Disabled525Taxable and Nontaxable Income526Charitable Contributions527Residential Rental Property529Miscellaneous Deductions530Tax Information for First-Time Homeowners531Reporting Tip Income534Depreciating Property Placed in Service Before 1987536Net Operating Losses for Individuals, Estates, and Trusts537Installment Sales541Partnerships544Sales and Other Dispositions of Assets547Casualties, Disasters, and Thefts550Investment Income and Expenses551Basis of Assets552Recordkeeping for Individuals554Older Americans' Tax Guide555Community Property556Examination of Returns, Appeal Rights, and Claims for Refund559Survivors, Executors, and Administrators561Determining the Value of Donated Property564Mutual Fund Distributions570Tax Guide for Individuals With Income From United States Possessions571Tax-Sheltered Annuity Plans (403(b) Plans)575Pension and Annuity Income584Casualty, Disaster, and Theft Loss Workbook (Personal-Use Property)587Business Use of Your Home (Including Use by Day-care Providers)590Individual Retirement Arrangements593Tax Highlights for United States Citizens and Residents Going Abroad594The Internal Revenue Service Collection Process596Earned Income Credit721Tax Guide to United States Civil Service Retirement Benefits901United States Tax Treaties907Tax Highlights for Persons with Disabilities908Bankruptcy Tax Guide915Social Security and Equivalent Railroad Retirement Benefits919How Do I Adjust My Tax Withholding?925Passive Activity and At-Risk Rules926Household Employer's Tax Guide929Tax Rules for Children and Dependents936Home Mortgage Interest Deduction946How To Depreciate Property947Practice Before the Internal Revenue Service and Power of Attorney950Introduction to Estate and Gift Taxes967Internal Revenue Service Will Figure Your Tax969Medical Savings Accounts970Tax Benefits for Education971Innocent Spouse Relief972Child Tax Credit (For Individuals Sent Here From the Form 1040 or 1040A Instructions)1542Per Diem Rates1544Reporting Cash Payments of Over $10,000 1546The Taxpayer Advocate Service of the Internal Revenue ServiceSpanish Language Publications1SPDerechos del Contribuyente579SPCómo Preparar la Declaración de Impuesto Federal594SPQué es lo que Debemos Saber sobre el Proceso de Cobro del IRS596SPCrédito por Ingreso del Trabajo850English-Spanish Glossary of Words and Phrases Used in Publications Issued by the Internal Revenue Service1544SPInforme de Pagos en Efectivo en Exceso de $10,000 (Recibidos en una Ocupación o
Negocio)
Commonly Used Tax Forms
<IMARK><ROM>See <ITL>How To Get Tax Help</ITL> for a variety of ways to get forms, including by computer, phone, and mail.</ROM>
Form Number and Form Title1040United States Individual Income Tax Return Schedule A & B Itemized Deductions & Interest and Ordinary Dividends Schedule C Profit or Loss From Business Schedule C-EZ Net Profit From Business Schedule D Capital Gains and Losses Schedule D-1 Continuation Sheet for Schedule D Schedule E Supplemental Income and Loss Schedule EIC Earned Income Credit Schedule F Profit or Loss From Farming Schedule H Household Employment Taxes Schedule J Income Averaging For Farmers and Fishermen Schedule R Credit for the Elderly or the Disabled Schedule SE Self-Employment Tax 1040AUnited States Individual Income Tax Return Schedule 1 Interest and Ordinary Dividends for Form 1040A Filers Schedule 2 Child and Dependent Care Expenses for Form 1040A Filers Schedule 3 Credit for the Elderly or the Disabled for Form 1040A Filers1040EZIncome Tax Return for Single and Joint Filers With No Dependents1040-ESEstimated Tax for Individuals
Form Number and Form Title1040XAmended United States Individual Income Tax Return2106Employee Business Expenses2106-EZUnreimbursed Employee Business Expenses2210Underpayment of Estimated Tax by Individuals, Estates, and Trusts2441Child and Dependent Care Expenses2848Power of Attorney and Declaration of Representative 3903Moving Expenses4562Depreciation and Amortization4868Application for Automatic Extension of Time To File United States Individual Income Tax Return4952Investment Interest Expense Deduction5329Additional Taxes on Qualified Plans (including Individual Retirement Arrangements) and Other Tax-Favored
Accounts6251Alternative Minimum Tax--Individuals8283Non-cash Charitable Contributions8582Passive Activity Loss Limitations8606Nondeductible Individual Retirement Arrangements8812Additional Child Tax Credit8822Change of Address8829Expenses for Business Use of Your Home8863Education Credits9465Installment Agreement Request
