Publication 970: Tax Benefits for Education; Chapter 3

This is archived information that pertains only to the 2004 Tax Year. If you
are looking for information for the current tax year, go to the Tax Prep Help Area.

Table of Contents

What's New

Income limits increased. The amount of your lifetime learning credit for 2004 is gradually reduced (phased out) if your modified adjusted gross income (MAGI) is between $42,000 and $52,000 ($85,000 and $105,000 if you file a joint return). You cannot claim a credit if your MAGI is $52,000 or more ($105,000 or more if you file a joint return). This is an increase from the 2003 limits of $41,000 and $51,000 ($83,000 and $103,000 if filing a joint return). See Effect of the Amount of Your Income on the Amount of Your Credit, later, for more information.

Introduction

There are two tax credits available to help you offset the costs of higher education by reducing the amount of your income tax. They are the Hope credit and the lifetime learning credit, also referred to as education credits. This chapter discusses the lifetime learning credit. The Hope credit is discussed in chapter 2.

This chapter explains:

Who can claim the lifetime learning credit,
What expenses qualify for the credit,
Who is an eligible student,
Who can claim a dependent's expenses,
How to figure the credit,
How to claim the credit, and
When the credit must be repaid.

What is the tax benefit of the lifetime learning credit. You may be able to claim a lifetime learning credit of up to $2,000 for qualified education expenses paid for all students enrolled in eligible educational institutions. There is no limit on the number of years the lifetime learning credit can be claimed for each student.

A tax credit reduces the amount of income tax you may have to pay. Unlike a deduction, which reduces the amount of income subject to tax, a credit directly reduces the tax itself. The lifetime learning credit is a nonrefundable credit. This means that it can reduce your tax to zero, but if the credit is more than your tax the excess will not be refunded to you.

The lifetime learning credit you are allowed may be limited by the amount of your income and the amount of your tax.

You may be able to take a tuition and fees deduction for your education expenses instead of a lifetime learning credit. You can choose the one that will give you the lower tax. See chapter 6 for details about the deduction.

Can you claim both education credits this year. For each student, you can elect for any year only one of the credits. For example, if you elect to take the lifetime learning credit for a child on your 2004 tax return, you cannot, for that same child, also claim the Hope credit for 2004.

If you are eligible to claim the lifetime learning credit and you are also eligible to claim the Hope credit for the same student in the same year, you can choose to claim either credit, but not both. For 2004, if the total qualified education expenses for a student are more than $7,500, it will generally be to your benefit to claim the lifetime learning credit.

If you pay qualified education expenses for more than one student in the same year, you can choose to take credits on a per-student, per-year basis. This means that, for example, you can claim the Hope credit for one student and the lifetime learning credit for another student in the same year.

Differences between the lifetime learning and Hope credits. There are several differences between these two credits. For example, you can claim the Hope credit based on the same student's expenses for no more than 2 years. However, there is no limit on the number of years for which you can claim a lifetime learning credit based on the same student's expenses. The differences between the two credits are summarized in Table 3-1.

Table 3-1.Comparison of Education Credits

Lifetime Learning Credit	Hope Credit
Up to $2,000 credit per return	Up to $1,500 credit per eligible student
Available for all years of postsecondary education and for courses to acquire or improve job skills	Available ONLY until the first 2 years of post- secondary education are completed
Available for an unlimited number of years	Available ONLY for 2 years per eligible student
Student does not need to be pursuing a degree or other recognized education credential	Student must be pursuing an undergraduate degree or other recognized education credential
Available for one or more courses	Student must be enrolled at least half time for at least one academic period beginning during the year
Felony drug conviction rule does not apply	No felony drug conviction on student's record

Can You Claim the Credit

The following rules will help you determine if you are eligible to claim the lifetime learning credit on your tax return.

Who Can Claim the Credit

Generally, you can claim the lifetime learning credit if all three of the following requirements are met.

You pay qualified education expenses of higher education.
You pay the education expenses for an eligible student.
The eligible student is either yourself, your spouse, or a dependent for whom you claim an exemption on your tax return.

“Qualified education expenses” are defined below under What Expenses Qualify. “Eligible students” are defined later under Who Is an Eligible Student. A “dependent for whom you claim an exemption” is defined later under Who Can Claim a Dependent's Expenses.

You may find Figure 3-1, later in this chapter, helpful in determining if you can claim a lifetime learning credit on your tax return.

Who Cannot Claim the Credit

You cannot claim the lifetime learning credit for 2004 if any of the following apply.

Your filing status is married filing separately.
You are listed as a dependent in the Exemptions section on another person's tax return (such as your parents'). See Who Can Claim a Dependent's Expenses, later.
Your modified adjusted gross income (MAGI) is $52,000 or more ($105,000 or more in the case of a joint return). MAGI is explained later under Effect of the Amount of Your Income on the Amount of Your Credit.
You (or your spouse) were a nonresident alien for any part of 2004 and the nonresident alien did not elect to be treated as a resident alien for tax purposes. More information on nonresident aliens can be found in Publication 519, U.S. Tax Guide for Aliens.
You claim the Hope credit or a tuition and fees deduction for the same student in 2004.

What Expenses Qualify

The lifetime learning credit is based on qualified education expenses you pay for yourself, your spouse, or a dependent for whom you claim an exemption on your tax return. Generally, the credit is allowed for qualified education expenses paid in 2004 for an academic period beginning in 2004 or in the first 3 months of 2005.

For example, if you paid $1,500 in December 2004 for qualified tuition for the Spring 2005 semester beginning in January 2005, you may be able to use that $1,500 in figuring your 2004 credit.

Academic period. An academic period includes a semester, trimester, quarter, or other period of study (such as a summer school session) as reasonably determined by an educational institution. In the case of an educational institution that uses credit hours or clock hours and does not have academic terms, each payment period can be treated as an academic period.

Paid with borrowed funds. You can claim a lifetime learning credit for qualified education expenses paid with the proceeds of a loan. You use the expenses to figure the lifetime learning credit for the year in which the expenses are paid, not the year in which the loan is repaid. Treat loan payments sent directly to the educational institution as paid on the date the institution credits the student's account.

Student withdraws from class(es). You can claim a lifetime learning credit for qualified education expenses not refunded when a student withdraws.

Qualified Education Expenses

For purposes of the lifetime learning credit, qualified education expenses are tuition and certain related expenses required for enrollment in a course at an eligible educational institution. The course must be either part of a postsecondary degree program or taken by the student to acquire or improve job skills.

Eligible educational institution. An eligible educational institution is any college, university, vocational school, or other postsecondary educational institution eligible to participate in a student aid program administered by the Department of Education. It includes virtually all accredited, public, nonprofit, and proprietary (privately owned profit-making) postsecondary institutions. The educational institution should be able to tell you if it is an eligible educational institution.

Certain educational institutions located outside the United States also participate in the U.S. Department of Education's Federal Student Aid (FSA) programs. You can find a list of these foreign schools on the Department of Education's website at www.fafsa.ed.gov/index.htm. Click on “Find my school codes.” Complete the two items on the first page and click “Next.” Follow the instructions to search for a foreign school.

Related expenses. Student-activity fees and expenses for course-related books, supplies, and equipment are included in qualified education expenses only if the fees and expenses must be paid to the institution as a condition of enrollment or attendance. For examples, see Related expenses in chapter 2 under Qualified Education Expenses.

No Double Benefit Allowed

You cannot do any of the following:

Deduct higher education expenses on your income tax return (as, for example, a business expense) and also claim a lifetime learning credit based on those same expenses.
Claim a lifetime learning credit in the same year that you are claiming a tuition and fees deduction for the same student.
Claim a lifetime learning credit and a Hope credit based on the same qualified education expenses.
Claim a lifetime learning credit based on the same expenses used to figure the tax-free portion of a distribution from a Coverdell education savings account (ESA) or qualified tuition program (QTP). See Coordination With Hope and Lifetime Learning Credits in chapter 7 (Coverdell ESA) and chapter 8 (QTP).
Claim a credit based on qualified education expenses paid with a tax-free scholarship, grant, or employer-provided educational assistance. See Adjustments to Qualified Education Expenses, next.

Adjustments to Qualified Education Expenses

If you pay qualified education expenses with certain tax-free funds, you cannot claim a credit for those amounts. You must reduce the qualified education expenses by the amount of any tax-free educational assistance and refund(s) you received.

Tax-free educational assistance. This includes:

The tax-free part of scholarships and fellowships (see chapter 1),
Pell grants (see chapter 1),
Employer-provided educational assistance (see chapter 11),
Veterans' educational assistance (see chapter 1), and
Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.

Refunds. Qualified education expenses do not include expenses for which you, or someone else who paid qualified education expenses on behalf of a student, receive a refund. (For information on expenses paid by a dependent student or third party, see Who Can Claim a Dependent's Expenses, later in this chapter.)

If a refund of expenses paid in 2004 is received before you file your tax return for 2004, simply reduce the amount of the expenses paid by the amount of the refund received. If the refund is received after you file your 2004 tax return, see When Must the Credit Be Repaid (Recaptured), later.

You are considered to receive a refund of expenses when an eligible educational institution refunds loan proceeds to the lender on behalf of the borrower. Depending on when you are considered to receive the refund, follow the above instructions or see When Must the Credit Be Repaid (Recaptured), later.

Amounts that do not reduce qualified education expenses. Do not reduce qualified education expenses by amounts paid with funds the student receives as:

Payment for services, such as wages,
A loan,
A gift,
An inheritance, or
A withdrawal from the student's personal savings.

Do not reduce the qualified education expenses by any scholarship or fellowship reported as income on the student's tax return in the following situations.

The use of the money is restricted to costs of attendance (such as room and board) other than qualified education expenses.
The use of the money is not restricted and is used to pay education expenses that are not qualified (such as room and board).

For examples, see Adjustments to Qualified Education Expenses in chapter 2.

Expenses That Do Not Qualify

Qualified education expenses do not include amounts paid for:

Insurance,
Medical expenses (including student health fees),
Room and board,
Transportation, or
Similar personal, living, or family expenses.

This is true even if the amount must be paid to the institution as a condition of enrollment or attendance.

Sports, games, hobbies, and noncredit courses. Qualified education expenses generally do not include expenses that relate to any course of instruction or other education that involves sports, games or hobbies, or any noncredit course. However, if the course of instruction or other education is part of the student's degree program or is taken by the student to acquire or improve job skills, these expenses can qualify.

Comprehensive or bundled fees. Some eligible educational institutions combine all of their fees for an academic period into one amount. If you do not receive or do not have access to an allocation showing how much you paid for qualified education expenses and how much you paid for personal expenses, such as those listed above, contact the institution. The institution is required to make this allocation and provide you with the amount you paid (or were billed) for qualified education expenses on Form 1098-T, Tuition Statement. See Figuring the Credit, later, for more information about Form 1098-T.

Who Is an Eligible Student

For purposes of the lifetime learning credit, an eligible student is a student who is enrolled in one or more courses at an eligible educational institution (as defined under Qualified Education Expenses, earlier).

Can You Claim the Hope Credit for 2004?

Who Can Claim a Dependent's Expenses

If there are qualified education expenses for your dependent for a year, either you or your dependent, but not both of you, can claim a lifetime learning credit for your dependent's expenses for that year.

For you to claim a lifetime learning credit for your dependent's expenses, you must also claim an exemption for your dependent. You do this by listing your dependent's name and other required information on Form 1040 (or Form 1040A), line 6c.

IF you...	THEN only...
claim an exemption on your tax return for a dependent who is an eligible student	you can claim the lifetime learning credit based on that dependent's expenses. The dependent cannot claim the credit.
do not claim an exemption on your tax return for a dependent who is an eligible student (even if entitled to the exemption)	the dependent can claim the lifetime learning credit. You cannot claim the credit based on this dependent's expenses.

Expenses paid by dependent. If you claim an exemption on your tax return for an eligible student who is your dependent, treat any expenses paid (or deemed paid) by your dependent as if you had paid them. Include these expenses when figuring the amount of your lifetime learning credit.

Qualified education expenses paid directly to an eligible educational institution for your dependent under a court-approved divorce decree are treated as paid by your dependent.

Expenses paid by you. If you claim an exemption for a dependent who is an eligible student, only you can include any expenses you paid when figuring the amount of the lifetime learning credit. If neither you nor anyone else claims an exemption for the dependent, the dependent can include any expenses you paid when figuring the lifetime learning credit.

Expenses paid by others. Someone other than you, your spouse, or your dependent (such as a relative or former spouse) may make a payment directly to an eligible educational institution to pay for an eligible student's qualified education expenses. In this case, the student is treated as receiving the payment from the other person and, in turn, paying the institution. If you claim an exemption on your tax return for the student, you are considered to have paid the expenses.

Example.

In 2004, Ms. Allen makes a payment directly to an eligible educational institution for her grandson Todd's qualified education expenses. For purposes of claiming a lifetime learning credit, Todd is treated as receiving the money as a gift from his grandmother and, in turn, paying his qualified education expenses himself.

Unless an exemption for Todd is claimed on someone else's return, only Todd can use the payment to claim a lifetime learning credit.

If anyone, such as Todd's parents, claims an exemption for Todd on his or her tax return, whoever claims the exemption may be able to use the expenses to claim a lifetime learning credit. If anyone else claims an exemption for Todd, Todd cannot claim a lifetime learning credit.

Tuition reduction. When an eligible educational institution provides a reduction in tuition to an employee of the institution (or spouse or dependent child of an employee), the amount of the reduction may or may not be taxable. If it is taxable, the employee is treated as receiving a payment of that amount and, in turn, paying it to the educational institution on behalf of the student. For more information on tuition reductions, see Qualified Tuition Reduction in chapter 1.

Figuring the Credit

The amount of the lifetime learning credit is 20% of the first $10,000 of qualified education expenses you paid for all eligible students. The maximum amount of lifetime learning credit you can claim for 2004 is $2,000 (20% × $10,000). However, that amount may be reduced based on your modified adjusted gross income (MAGI). See Effect of the Amount of Your Income on the Amount of Your Credit below.

Example.

Bruce and Toni Harper are married and file a joint tax return. For 2004, their MAGI is $75,000. Toni is attending a local college (an eligible educational institution) to earn credits toward a degree in nursing. She already has a bachelor's degree in history and wants to become a nurse. In August 2004, Toni paid $6,000 of qualified education expenses for her Fall 2004 semester. Bruce and Toni can claim a $1,200 (20% × $6,000) lifetime learning credit on their 2004 joint tax return.

Form 1098-T. To help you figure your lifetime learning credit, you should receive Form 1098-T. Generally, an eligible educational institution (such as a college or university) must send Form 1098-T (or acceptable substitute) to each enrolled student by January 31, 2005. An institution may choose to report either payments received (box 1), or amounts billed (box 2), for qualified education expenses. In addition, your Form 1098-T should give you other information for that institution, such as adjustments made for prior years, the amount of scholarships or grants, reimbursements or refunds, and whether you were enrolled at least half-time or were a graduate student.

The eligible educational institution may ask for a completed Form W-9S, Request for Student's or Borrower's Taxpayer Identification Number and Certification, or similar statement to obtain the student's name, address, and taxpayer identification number.

Effect of the Amount of Your Income on the Amount of Your Credit

The amount of your lifetime learning credit is phased out (gradually reduced) if your modified adjusted gross income (MAGI) is between $42,000 and $52,000 ($85,000 and $105,000 if you file a joint return). You cannot claim a lifetime learning credit if your MAGI is $52,000 or more ($105,000 or more if you file a joint return).

Modified adjusted gross income (MAGI). For most taxpayers, MAGI is adjusted gross income (AGI) as figured on their federal income tax return.

MAGI when using Form 1040A. If you file Form 1040A, your MAGI is the AGI on line 22 of that form.

MAGI when using Form 1040. If you file Form 1040, your MAGI is the AGI on line 37 of that form, modified by adding back any:

Foreign earned income exclusion,
Foreign housing exclusion,
Exclusion of income for bona fide residents of American Samoa, and
Exclusion of income from Puerto Rico.

You can use Worksheet 3-1 to figure your MAGI.

Worksheet 3-1.

MAGI for the Lifetime
Learning Credit

1.	Enter your adjusted gross income (Form 1040, line 37)		1.
2.	Enter your foreign earned income exclusion and/or housing exclusion (Form 2555, line 43, or Form 2555-EZ, line 18)	2.
3.	Enter the amount of income from Puerto Rico that you are excluding	3.
4.	Enter the amount of income from American Samoa that you are excluding (Form 4563, line 15)	4.
5.	Add the amounts on lines 2, 3, and 4		5.
6.	Add the amounts on lines 1 and 5. This is your modified adjusted gross income. Enter this amount on Form 8863, line 10		6.

Phaseout. If your MAGI is within the range of incomes where the credit must be reduced, you will figure your reduced credit using lines 8–14 of Form 8863. The same method is shown in the following example.

Example.

The information is the same as in the Harper example (previous page), except that Bruce and Toni have a MAGI of $97,000.

They figure the tentative lifetime learning credit (20% of the first $10,000 of qualified education expenses they paid for all eligible students). As shown in the previous example, the result is a $1,200 (20% x $6,000) tentative credit.

Because the Harpers' MAGI is within the range of incomes where the credit must be reduced, they must multiply their tentative credit ($1,200) by a fraction. The numerator of the fraction is $105,000 (the upper limit for those filing a joint return) minus their MAGI. The denominator is $20,000, the range of incomes for the phaseout ($85,000 to $105,000). The result is the amount of their phased out (reduced) lifetime learning credit ($480).

$1,200

$105,000 - $97,000
$20,000

$480

Claiming the Credit

You claim the lifetime learning credit by completing Parts II and III of Form 8863 and submitting it with your Form 1040 or 1040A. Enter the credit on Form 1040, line 49, or Form 1040A, line 31. A filled-in Form 8863 is shown at the end of this chapter.

When Must the Credit Be Repaid (Recaptured)

If, after you file your 2004 tax return, you or someone else receives tax-free educational assistance for, or a refund of, an expense you used to figure a lifetime learning credit on that return, you may have to repay all or part of the credit. You must refigure your lifetime learning credit for 2004 as if the assistance or refund was received in 2004. Subtract the amount of the refigured credit from the amount of the credit you claimed. The result is the amount you must repay. You add the repayment (recapture) to your tax liability for the year in which you receive the assistance or refund (see the instructions for your tax return for that year). Your original 2004 tax return does not change.

Illustrated Example

Judy Green, a single taxpayer, is taking courses at a community college to be recertified to teach in public schools. Her MAGI is $23,000. Her tax, before credits, is $1,904. In July 2004 she pays $700 for the Summer 2004 semester; in August 2004 she pays $1,900 for the Fall 2004 semester; and in December 2004 she pays another $1,900 for the Spring semester beginning January 2005. Judy and the college meet all the requirements for the lifetime learning credit. She can use all of the $4,500 tuition she paid in 2004 when figuring her credit for her 2004 tax return. She figures her credit as shown on the filled-in Form 8863 on the next page.

Note.

In Appendix A at the end of this publication, there is an example illustrating the use of Form 8863 when both the Hope credit and the lifetime learning credit are claimed on the same tax return.

Form 8863 for Judy Green

Chapter 3 - Lifetime Learning Credit