The Short Answer

Paying for College? 2 Ways to Lower Your Taxes

Karen Wallace, CFP®

Question: Which is better, the American Opportunity Tax Credit or the Lifetime Learning Credit? They are both on the same IRS form, and I'm not sure which one I should take.

Answer: Because you can't take both of them for the same dependent student in the same tax year, you'll need to choose. (A third education-related tax benefit, the above-the-line tuition and fees deduction, was not renewed for the 2018 tax year.) 

If you are eligible for the American Opportunity Tax Credit, take that one. It offers the greatest benefit, but it's only available for four years of undergraduate tuition for each eligible student (subject to income thresholds). 

Here are the salient points of each credit. (If you prefer a visual breakdown, the IRS has a helpful comparison chart.)

American Opportunity Tax Credit
Type: Partially refundable credit
Used for: First four years of qualified education expenses for an undergraduate degree or other recognized education credential 

You can get a maximum annual credit of $2,500 per eligible student. It works like this: Carve out $4,000 of tuition and textbook expenses each year that will be paid for with cash or loans (money withdrawn from tax-advantaged college savings accounts is not eligible). The AOTC yields a dollar-for-dollar tax credit based on the first $2,000 of tuition and textbook expenses, then $0.25 on the dollar for the next $2,000.

If the credit brings the amount of tax you owe to zero, you can receive 40% of any remaining amount of the credit (up to $1,000) as a refund.

The credit isn't available to everyone: Qualified taxpayers with modified adjusted gross incomes of $80,000 or less (or $160,000 or less for joint filers) qualify for the full credit. Taxpayers earning more than this may qualify for a partial credit, but a taxpayer whose modified adjusted gross income is greater than $90,000 ($180,000 for joint filers) cannot claim the credit.

The American Opportunity Tax Credit includes expenses for course-related books, supplies, and equipment, but room and board is not a qualified expense. Payments made in 2018 for academic periods beginning in 2018 or during the first three months of 2019 are eligible. 

Each eligible student can claim this tax credit only four times (for each of the four years of postsecondary education). It cannot be taken by the same student in the same year that the Lifetime Learning Credit is taken. 

For more information, click here.

Lifetime Learning Credit
Type: Nonrefundable Credit
Used for: Qualified education expenses of undergraduates who do not qualify for the American Opportunity Tax Credit; graduate programs; courses taken to maintain or improve job skills

If you are enrolled in school at least part time, you may be able to claim a Lifetime Learning Credit of up to $2,000 for qualified education expenses paid. It works like this: the maximum amount of covered expenses is 20% of up to $10,000 of qualified education expenses (no matter how many eligible students are in your household). As with the American Opportunity Tax Credit, expenses paid from a 529 account withdrawal are not eligible, as you can't use the same qualified higher-education expenses to justify two education tax benefits.

Your modified adjusted gross income must be lower than $130,000 if married filling jointly; $65,000 for other taxpayers. 

Qualified expenses are tuition and fees required for enrollment or attendance (including amounts required to be paid to the institution for course-related books, supplies, and equipment). Payments made in 2018 for academic periods beginning in 2018 or during the first three months of 2019 are eligible. 

This credit is available for a unlimited number of tax years, but it cannot be taken by the same student in the same year that the American Opportunity Credit is taken.

For more information, click here.