Most 4-year college programs extend over 5 tax years, which can help you maximize the tax credits available to you. One thing to remember — you can use the Hope Credit for the first 2 years of tuition only, and then the Lifetime Learning Credit is available.
How it works: Let’s assume that your child starts school in the fall of 2007. If you pay for the semester in September, you can claim the Hope Credit for 2007. By paying for the spring semester of freshman year and the fall semester of sophomore year in 2008, you can claim the Hope Credit again. Now, if you pay for the spring semester of sophomore year and the fall semester of junior year in 2009, you can claim the Lifetime Learning Credit. You can claim the Lifetime Learning Credit again in 2010 if you pay for both the spring semester of junior year and the fall semester of senior year. Finally, to claim the Lifetime Learning Credit in the fifth year, you must delay paying for your child’s last semester until January 2011. If you pay for the final semester before the end of 2010, you won’t be eligible to claim the credit in 2011.
To learn more about these credits, see Tax Credits for Higher Education.
The Hope and Lifetime Learning Credits have income phaseouts. If you can’t take the credits because of the income limits, you might want to let your child take the credit. Before you decide to do this, there are a few things to consider. If you let your child take the credit, you can’t claim your child as a dependent. This only has a tax benefit if your child has some tax liability. It’s important to note, too, that if you’re eligible to claim your child as a dependent but choose not to do so, your child can’t claim a personal exemption.
If you have money left in a Coverdell ESA after a child graduates or reaches age 30, it can be rolled over to another family member’s ESA. The amount rolled over is tax-free if the family member is under age 30 and you complete the transaction within 60 days. The age limitation doesn’t apply, however, if the new beneficiary is a special-needs beneficiary. Also, for each Coverdell ESA that you have, you can roll over money only once in a 12-month period. To learn more about ESAs, see Coverdell Education Savings Accounts.
If you plan on contributing to a Coverdell ESA, you must make your contribution by the time your tax return is due (usually April 15). You should make your contribution as early as possible, though, to take advantage of the tax-free interest the account will earn.
Just think — you can pay educational expenses with tax-free ESA earnings and also be eligible for 1 of the other educational tax benefits. Of course, you can’t claim the same expenses for both tax breaks.
For more information, see Publication 970: Tax Benefits for Education.