By Ryan Ellis
H.R. 1, the the “Tax Cuts and Jobs Act,” will be considered by the U.S. House of Representatives later this week. There’s been some questions about how the bill deals with education policy in the tax code, so I thought a brief summary might be helpful.
American Opportunity Tax Credit
H.R. 1 consolidates a plethora of confusing and often duplicative education provisions into a simple, unified tax credit. The “American Opportunity Tax Credit” (AOTC) is calculated as 100% of the first $2000 of a student’s tuition, and 25% of the next $2000 of tuition, for a maximum credit of $2500.
The credit phases out for married couples whose adjusted gross income falls between $160,000 and $180,000. Those numbers are cut in half for unmarried taxpayers.
The credit is available for five years, but the fifth year is half the calculated value seen above (that is, 100% of the first $1000 of tuition and 25% of the next $1000 of tuition, for a maximum credit of $1250). The credit is limited to the first five years of college education.
The credit is refundable (that is, can be claimed even if income tax has already been zeroed out) up to $1000 per year. In the fifth year it is $500 refundable.
Tax provisions consolidated into the AOTC include:
Student loan interest deduction (also accounted for by higher standard deduction, etc.)
Tuition and fee deduction
Lifetime Learning credit and HOPE credit
Exclusion for savings bond interest used for education (phased out)
Workplace fringe benefit for $5250 of tuition assistance
Exclusion for free tuition for employees of colleges (more on this below)
Itemized deduction for unreimbursed education expenses related to employment
Taxpayers are already familiar with 529 college savings plans–you save money for college after-tax, but the money grows tax-free for college. There are usually state tax benefits for contributing to one’s resident state 529, as well.
H.R. 1 builds off the success of 529 plans in several important ways:
529 plans can be used for grade school and high school. For the first time, 529 plan dollars can be used not only for college, but for tuition at grade schools and high schools, as well. This is limited to $10,000 per year per student. This is a big step toward universal school vouchers, as the tax-free growth of 529 plans can be used to pay for school at all levels.
529 plans can be opened for unborn children. In a wonderful idea, 529 plans will now be able to be set up for unborn children. This is a marvelous nod toward life beginning at conception in the tax code and by extension U.S. law.
529 plans can be used for apprenticeship programs. College isn’t and doesn’t need to be for everyone, and there are plenty of skilled apprenticeship programs out there for people wanting to get working right after high school. For the first time, 529 savings can be applied toward them.
529 plans can be rolled into ABLE accounts. What happens to a parent who saves for college but then their child is either discovered to be or becomes disabled? For the first time, H.R. 1 allows parents in these heartbreaking situations to roll their college savings into the disability savings products known as ABLE accounts
As a result of all these 529 plan improvements, particularly the use of 529 plans for grade school and high school tuition, the Coverdell Education Savings Account (Coverdell ESA) is phased out. While no new contributions can be made, Coverdell ESA dollars can be used for tuition expenses, rolled into another Coverdell ESA, or rolled into a 529 plan.
Scholarships vs Tuition Reduction Programs
There’s been a lot of confusion about the tax status of scholarships in H.R. 1.
The tax code recognizes two types of free tuition from colleges–scholarships, and tuition reduction programs for employees of colleges. Under current law, both are excluded from taxation.
As noted above, tuition reduction programs for college employees and their families will no longer be excluded from income.
However, H.R. 1 makes absolutely no changes to scholarship tax rules. They remain free of tax. All the rules that students receiving scholarships have been used to over the years remain completely unchanged.
Read more here.