Millions of borrowers’ student loan payments resumed this month, prompting many borrowers to reevaluate repayment plans – particularly income-driven options which increase payments as your earnings increase over a 10-year period.
There are tax breaks – credit and deduction — available to help ease the burden of paying for college. We’ll explore two of them here.
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As students embark on another year of paying off debt, it would behoove them to review how tax rules apply. At minimum, they should know about the federal student loan interest deduction which can save up to $2,500 annually and doesn’t require itemizing in order to claim it.
For loan applicants to qualify, several requirements must be fulfilled. First and foremost is being an eligible borrower, meaning the loan was taken out with their own or legal responsibility and interest paid during the year; lenders are then required to report those payments via Form 1098-E form. Furthermore, loan borrowers must also meet taxation eligibility standards by not being married filing separately or claimed as another’s dependents.
How much can I deduct?
With student loan payments beginning again this October, millions of Americans are facing increased financial strain. However, at tax time they may receive some relief through credits and deductions.
This year, you can deduct up to $2,500 of student loan interest as an above-the-line deduction that does not require itemizing your return. This deduction applies to both federal and private loans taken out to cover higher education expenses by you or your spouse as well as Parent PLUS loans taken out for their education.
For your loan to meet eligibility criteria, it must have been used on qualifying education expenses such as tuition fees, books, supplies and room and board fees – but you cannot claim these for room and board or student health costs. At the end of every year, your loan servicer should send you a Form 1098-E detailing how much interest was paid; for more information if necessary on whether your loan meets those criteria please consult either the IRS website or an accountant for more details.
Is it worth it?
Millions of people are feeling the strain of student loan payments that resumed this month under Revised Pay As You Earn (REPAYE), following three-year deferments under REPAYE; however, federal and state tax breaks could help ease some of this financial strain.
Both the American Opportunity Credit and Lifetime Learning Credit can reduce taxable income, meaning less in taxes to pay. Plus, itemizing allows you to deduct interest on student loan payments on Schedule A.
Tax credits reduce your tax bill dollar-for-dollar, and if they surpass what is owed to the government, up to 40% of it may be returned back as refund. Financial experts consider credits preferable over deductions as they provide greater certainty regarding tax obligations and refund amounts.
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How do I know if I’m eligible?
Keep a few things in mind when filing your taxes with this deduction: first, that you legally obligate yourself to make the loan payments that you’re deducting – otherwise you must contact your lender to adjust. Second, your lender should report interest paid via Form 1098-E that is sent out before tax season each year – if in doubt reach out and inquire!
Always bear in mind that while any tax deduction will reduce your bill, credits reduce it dollar for dollar. A partially refundable credit (such as the American Opportunity Credit) reduces it further while returning up to 40% of what remains back into a refund; making them often more valuable than deductions.