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Here's how the American opportunity tax credit works.

There are two key education tax benefits that can help families who are paying for college: the Lifetime Learning Credit and the American Opportunity Tax Credit (AOTC). In general, it may be wise to take the American Opportunity Tax Credit if you qualify. It could provide a larger credit, and you may not have to spend as much in order to get it. Here’s how to know if you qualify for the American Opportunity Tax Credit, plus how it works.

The American Opportunity Tax Credit provides a tax credit for eligible students participating in a higher education program after high school. You can get 100% of the credit on your first $2,000 of annual educational expenses and 25% of credit on the next $2,000 in expenses per student. Even if the qualifying educational expenses are more than $4,000 per year, you can only receive a maximum credit of $2,500 per year for each student for a maximum of four years.

The credit is also partially refundable if the credit ultimately brings your total tax bill to $0. In this case, you may be able to receive up to 40% of the credit amount (up to $1,000) refunded to you.

Do You Qualify?

Here's how the American opportunity tax credit works.

A student or taxpayer who claims the student as a dependent can take the American Opportunity Tax Credit on their tax return. However, only one American Opportunity Tax Credit is available per eligible student each tax year. You also cannot claim more than one educational tax credit per year for each student. You can only claim the American Opportunity Tax Credit four times for each student dependent.

To claim the credit, you or your student dependent must be enrolled in an eligible educational program at least part time and for at least one period during the applicable tax year. A period can be a semester, trimester, quarter or other educational session.

Keep in mind that eligible educational institutions don’t have to be colleges or universities. The educational institution can be any post-secondary school that meets the requirements to participate in the U.S. Department of Education financial aid program. The program you’re in is most likely eligible if your school sends you a Form 1098-T Tuition Statement in January.

The American Opportunity Tax Credit no longer applies if the student has already finished four years of college or another higher educational program. Additionally, if the student has been convicted of a felony drug offense during the applicable tax year, they do not qualify for the tax credit. Lastly, both the taxpayer and the student claiming the tax credit must have valid Social Security or other tax identification numbers at the due date of the tax return.

What Counts as Educational Expenses?

Tuition payments, required fees, books, supplies and equipment all qualify as expenses for the American Opportunity Tax Credit. However, room and board, transportation and healthcare costs do not.

If you pay for the educational program with borrowed funds, such as credit cards or student loans, those funds still count as qualified expenses. However, qualified expenses do not include tax-free fellowships or scholarships, tuition grants from an employer, federal Pell grants, refunds from the school and other non-taxable assistance other than gifts and inheritances.

Income Restrictions

In order to claim the maximum $2,500 of the American Opportunity Tax Credit, your modified adjusted gross income (MAGI) cannot exceed:

  • $80,000 if you’re a single filer
  • $160,000 if you’re married filing jointly

You can claim part of the credit if your MAGI is:

  • Above $80,000 but below $90,000 and you’re a single filer
  • Above $160,000 but below $180,000 and you’re married filing jointly

To claim the tax credit, complete the relevant sections of IRS Form 8863 to calculate the amount of tax credit you may receive. Then, attach Form 8863 to your Form 1040.

Claiming the Credit

Here's how the American opportunity tax credit works.

If the college or educational institution is eligible, it should send you a Form 1098-T Tuition Statement by January 31 of the relevant tax year. If you don’t receive it, notify the school. That statement is necessary to receive the American Opportunity Tax credit. It may be smart to keep that form and any other records related to the tax credit, too, just in case the IRS requests them later.

The Bottom Line

Education costs are high. If you qualify for the American Opportunity Tax Credit, it’s probably wise to claim it, especially since it covers student loans as part of the educational expenses. And if you’re exploring other ways to offset the costs of a higher education, research all of the educational tax breaks, as well as student loans and federal aid.

Tips for Lowering Your Tax Bill

  • Consider working with a financial advisor to save the most during tax time. Finding the right financial advisor that fits your needs doesn’t have to be hard. SmartAsset’s free tool matches you with financial advisors in your area in five minutes. If you’re ready to be matched with local advisors that will help you achieve your financial goals, get started now.
  • Be better prepared for tax season by keeping a checklist of what you’ll need in order to file your return. This may include proof of income, expenses, losses and more. A good financial record every year may help reduce stress during tax season.

Photo credit: ©iStock.com/designer491, ©iStock.com/fizkes, ©iStock.com/William_Potter

Sarah Fisher Sarah Fisher has been researching and writing about business and finance for years. She has worked for the Consumer Financial Protection Bureau and her work has appeared on Business Insider and Yahoo Finance. Sarah has a bachelor's degree from Georgetown University and is from New York City. When she isn't writing finance articles, she dabbles in animation and graphic design.
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