According to the IRS, "qualified tuition and related expenses" include:
Tuition and fees required for enrollment or attendance at an eligible educational institution. They do not include books, room and board, student activities, athletics (unless the course is part of the student's degree program), insurance, equipment, transportation, or other similar personal, living, or family expenses.
The credits are for expenses paid during a given tax year for an academic period in that tax year or for an academic period beginning during the first three months of the following year.
For example, if you pay $2,000 in December 2006 for a semester that begins in January 2007, you can use that $2,000 in figuring your 2006 credit.
If you put off that payment until January of 2007, the payment counts toward your 2007 credit.
For these credits, "modified adjusted gross income" is, for most taxpayers, the same as adjusted gross income from your federal return. However, if you excluded earned income, you must add it to your AGI to arrive at your modified adjusted gross income. This earned income includes:
Foreign earned income of U.S. citizens or residents living abroad.
Housing costs of U.S. citizens or residents living abroad.
Income from sources within: a) Puerto Rico, b) Guam, c) American Samoa, or d) The Northern Mariana Islands.
If the credits exceed your tax, then your tax is reduced to zero, but you will not get a refund for the difference.
According to the IRS:
You, your spouse, or an eligible dependent can be an eligible student. The student must be enrolled at an eligible educational institution for at least one academic period (semester, trimester, quarter) during the year.
An eligible dependent is a person for whom you claim a dependency exemption. It generally includes your unmarried child who is under age 19 or who is a full-time student under age 24 and if the child is not self supporting. (See Publication 501, Exemptions, Standard Deduction, and Filing Information, for details on dependency exemptions.) An eligible educational institution generally includes any accredited public, nonprofit, or proprietary postsecondary institution eligible to participate in the student aid programs administered by the Department of Education.
Congress is against double-dipping. That's why you may not take a credit for higher education expenses that are:
Deducted on your tax return (e.g., as self-employed or employee business expenses) OR
Paid for with a tax-free scholarship, Pell grant, or employer-provided educational assistance.
In the past, a student who received a tax-free distribution from an education savings account (formerly known as an Education IRA) was not eligible for either the Hope credit or the Lifetime Learning credit for that tax year. That restriction is gone. Now you can claim the credit even if you use ESA distributions to pay qualifying costs. (You can't use ESA money to pay for the same expenses for which you claim the credit, though.)
Note that the Hope credit and the lifetime learning credit are mutually exclusive with respect to any given student in a given tax year. For example, if you elect to take the Hope credit for a child on your 2006 tax return, you cannot, for that same child, also claim the lifetime learning credit for 2006. But you can take the Hope credit for one child and the lifetime learning credit for another in the same tax year.
According to the IRS:
Your modified adjusted gross income for the purpose of determining the maximum contribution limit is the adjusted gross income shown on your return, increased by the following exclusions from your income. 1) Foreign earned income of U.S. citizens or residents living abroad. 2) Housing costs of U.S. citizens or residents living abroad. 3) Income from sources within: a) Puerto Rico, b) Guam, c) American Samoa, or d) The Northern Mariana Islands.
For most people, the modified adjusted gross income will be the same as the adjusted gross income that appears on their tax return.
According to the IRS, "qualified higher education expenses" include expenses required for the enrollment or attendance of the designated beneficiary at an eligible educational institution. The term "qualified higher education expenses" means expenses for:
Tuition,
Fees,
Books,
Supplies, and
Equipment.
The term also includes:
Amounts contributed to a qualified state tuition program. (See Publication 525, Taxable and Nontaxable Income.)
Room and board if the designated beneficiary is at least a half-time student at an eligible educational institution. A student is enrolled at least half-time if he or she is enrolled for at least half the full-time academic workload for the course of study the student is pursuing as determined under the standards of the institution where the student is enrolled. Room and board is limited to: a) The school's posted room and board charge for students living on-campus, or b) $2,500 each year for students living off- campus and not at home.
According to the IRS, an "eligible educational institution" is:
. . .any college, university, vocational school, or other postsecondary educational institution eligible to participate in the student aid programs administered by the Department of Education. It includes virtually any accredited public, nonprofit, or proprietary (privately owned profit-making) postsecondary institution.
Your deduction for student loan interest for 2006 is limited to $2,500.
According to the IRS, a "qualified education loan" is:
. . .a loan you took out to pay qualified higher education expenses [see below for a definition of "qualified higher education expenses"]. The expenses must have been: 1) For you, your spouse, or a person who was your dependent when you took out the loan, 2) Paid or incurred within a reasonable time before or after you took out the loan, and 3) For education furnished during a period when the recipient was an eligible student [see below for a definition of "eligible student"].
"Qualified higher education expenses" include:
. . .the costs of attending an eligible educational institution [see below for a definition of "eligible educational institution"], including graduate school. Generally, these costs include tuition, fees, room and board, books, equipment, and other necessary expenses, such as transportation. You must reduce these costs by the following items.
Nontaxable employer-provided educational assistance benefits.
Nontaxable distributions from an education individual retirement account.
U.S. savings bond interest that is nontaxable because you paid qualified higher educational expenses.
Qualified scholarships that are nontaxable.
Veterans' educational assistance benefits.
Any other nontaxable payments (other than gifts, bequests, or inheritances) received for educational expenses.
An "eligible educational institution" is generally either of the following:
A college, university, vocational school, or other postsecondary educational institution eligible to participate in Department of Education student aid programs. This category includes virtually all accredited public, nonprofit, and proprietary postsecondary institutions.
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 "eligible student" is one who:
Is enrolled in a degree, certificate, or other program (including a program of study abroad that is approved for credit by the institution at which the student is enrolled) leading to a recognized educational credential at an eligible educational institution, and
Is carrying at least one-half the normal full-time work load for the course of study the student is pursuing.
"Modified adjusted gross income" for purposes of the deduction of interest on education loans is:
AGI figured before this deduction for student loan interest and modified by adding back any of the following items.
U.S. savings bond interest that is nontaxable because you paid qualified higher educational expenses.
Nontaxable employer-provided adoption assistance benefits.
Foreign earned income exclusion.
Foreign housing exclusion or deduction.
Income from sources within Puerto Rico, American Samoa, Guam, or the Northern Mariana Islands.
"Related persons" for this purpose include your brothers and sisters, half-brothers and half-sisters, spouse, ancestors (parents, grandparents, etc.), and lineal descendants (children, grandchildren, etc.). Related persons also include certain corporations, partnerships, trusts, and exempt organizations.
For a traditional IRA, distributions taken from your IRA before you reach age 59 1/2 are usually subject to a 10% penalty. However, that penalty is waived if the IRA money is used to pay qualified higher education expenses for yourself, your husband or wife, or a child or grandchild.
"Qualified higher education expenses" are tuition, fees, books, supplies and equipment required for the enrollment or attendance of a student at an eligible education institution. In addition, if the individual is at least a half-time student, room and board are considered qualified higher education expenses.
According to the IRS, an "eligible education institution" is any college, university, vocational school, or other postsecondary educational institution eligible to participate in the student aid programs administered by the Department of Education. It includes virtually all accredited, public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. The education institution should be able to tell you if it qualifies under that law.
Eligible family members are:
You,
Your spouse,
Your or your spouse's children, or
Your or your spouse's grandchildren.
To be spared the penalty, the IRA distribution
. . . must be used to pay qualified higher education expenses remaining after the following reductions.
Tax-free distributions from an education savings account.
Any qualified scholarships, such as a Pell Grant, that are excludable from income.
Certain educational assistance allowances, such as employer-provided educational assistance, provided under federal laws.
Any payment (other than a gift, bequest, or devise) due to enrollment at an eligible education institution that is excludable under federal law.
By whatever name they may be known in your state, state tuition programs or state prepaid-tuition plans allow people to save for education at certain institutions, often state schools. Not all states offer these programs.
The programs may be structured around the purchase of credits or certificates or may involve the establishment of a special savings account.
The definition of an eligible education institution is expanded to include accredited postsecondary educational institutions offering credit toward any postsecondary degree or credential. The institution must be eligible to participate in Department of Education student aid programs.
The IRS definition of "family member" includes the following:
Parent
Grandparent
Brother
Sister
Stepbrother
Stepsister
Stepmother
Stepfather
Stepdaughter
Stepson
Mother-in-law
Father-in-law
Brother-in-law
Sister-in-law
Son-in-law
Daughter-in-law
Brother of a parent
Sister of a parent
Son of a sibling
Daughter of a sibling
Half brother
Half sister
The definition of "family member" also includes the spouse of any person listed above.
An educational institution is an organization with a regular faculty and curriculum and a regularly enrolled body of students in attendance at the place where the educational activities are carried on.
A section 501(c)(3) organization 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).
The prevention of cruelty to children or animals.
According to the IRS, "qualified higher education expenses" are
. . . tuition and fees required for you, your spouse, or your dependent for whom you claim an exemption to attend an eligible educational institution [see below for see below for a definition of "eligible educational institution"]. Qualified expenses do not include expenses for room and board or for courses involving sports, games, or hobbies that are not part of a degree program.
An "eligible educational institution" is . . . generally any public or nonprofit university, college, or vocational school that is eligible for federal funding.
If the education involving sports, games, or hobbies meets one of the following two conditions, then its payments qualify for the exclusion:
The education must have a reasonable relationship to the business of your employer, or
The education must be required as part of a degree program.
The IRS defines "ordinary" as "common and accepted in your trade or business;" "necessary" is defined as "helpful and appropriate for your trade or business."
Here is what the IRS has to say about "qualifying education":
You can deduct educational expenses only if they are for qualifying education. This is education that meets at least one of the following tests:
The education is required by your employer or the law to keep your present salary, status, or job (and serve a business purpose of your employer), or
The education maintains or improves skills needed in your present work.
The IRS points out that certain education does not qualify even if it meets one of the two tests listed above. Education that does not qualify is education that:
Is needed to meet the minimum educational requirements of your present trade or
Is part of a program of study that can qualify you for a new trade or business, even if you do not plan to enter that trade or business.