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Definition: Education Credit
The Internal Revenue Code offers both tax credits and deductions that may be opted to reduce the federal income tax load on students or for those who are paying the costs of a student’s higher education. A deduction reduces one’s taxable income, which may or may not reduce the final tax bill. A credit, however, is directly subtracted from the final tax one owe. This type of credit applies to post-secondary educational institutions and there is some income restrictions to avail this tax credit.
There are essentially two types of education credits, American Opportunity Credit and Lifetime Learning Credit. The American Opportunity credit is applicable to the first four years of the post-secondary education with certain restrictions. If the credit amount exceeds the tax amount one owes, one can get up to $1,000 of the credit as a refund. The Lifetime Learning credit is available for all years of post-secondary education and there is no upper limit on the number of years for which the credit can be availed. It is applicable to all undergraduate, graduate and professional degree courses. But, the lifetime learning credit is non-refundable if it exceeds one’s tax bill for the same year. One cannot claim both the tax credits for the same student in one year.
For example: If a family has two kids, Julian and Julie then the parents have to opt for one of the education credits for each kid, but they can choose different plans for both of them. Suppose, they choose American opportunity credit for Julian, then they can choose lifetime learning credit for Julie, given they are eligible for the education credits. Expenses which are not covered in qualified expenses in both of the education credits are insurance, medical expenses, transportation, personal and family expenses etc.