By: A.J. Cook


The government continues to pour out educational tax incentives. They are helpful, but remarkably tricky. The following attempts to find order in the chaos.

Two incentives give you credits for education now while another allows you to stash money away for future education. Also, now you can bypass the 10% early withdrawal penalty for funds taken out of your individual retirement accounts and used for higher education.

The new incentives are not available to higher-income earners. The credits and the Education IRA phase out as your adjusted income goes up. Adjusted income usually indicates Adjusted Gross Income on the return. In the following list, the phase out starts at the amounts shown:

ADJUSTED INCOME OF $40,000 FOR SINGLES AND $80,000 FOR JOINT FILERS.

Hope Credit:

• Tax Advantage: You get a credit for part or all of your payments for qualified education costs. These are limited to costs for the first two years of college tuition and fees.
  
• Maximum Credit Annually: $1,500 per student.
  
• For What: Education for you or your spouse or claimed dependents.
  

Lifetime Learning Credit:

• Tax Advantage: You get a credit for part or all of your payment of qualified education costs. These are costs for an unlimited number of years and does not have a degree or other certificate requirement. It can cover even the cost of improving job skills.
  
• Maximum Credit Annually: $1,000 per tax return.
• For What: Education for you or your spouse or claimed dependents.
  

ADJUSTED INCOME OF $95,000 FOR SINGLES AND $150,000 FOR JOINT FILERS.

Education IRA:

• Tax Advantage: Earnings grow tax-free and are never taxed if used to pay qualified higher education expenses of the beneficiary. Like the Roth IRA, contributions are non deductible.
  
• Maximum Contribution Annually: $500 per named beneficiary under 18.
  
• For Whom: Anyone. The beneficiary need not be your dependent or family member. But, other donors cannot make contributions to an Education IRA for this beneficiary; i.e. A beneficiary can have only one Education IRA. You can set up additional Education IRAs for other beneficiaries and contribute $500 to each.
  
• Distributions: Payments can be made until beneficiary reaches age 30. Amounts remaining may be rolled over into another Education IRA for someone else as long as that person is under age 30.
  

In any year you may choose for a student only one of the three: the Hope credit, the Lifetime credit or a tax-free distribution from the Education IRA.

OTHER SOURCES OF TAX ADVANTAGED FUNDS

Traditional IRA:

The 10 percent penalty is waived for payments of qualified higher education expenses. However, withdrawal of earnings and contributions that were deducted will be subject to income tax.

• For What: Education for you or your spouse, child or grandchild.
  

Roth IRA:

Contribution withdrawals from a Roth are penalty-free and tax-free for any purpose. As to the withdrawal of earnings, the 10 percent penalty is waived for payment of qualified higher education expenses. But the withdrawal of earnings, if held for less than five years and made before age 59½ will be subject to income tax.

• For What: Education for you or your spouse, child or grandchild.

A.J. Cook is a lawyer and CPA. His tax column appears weekly in numerous newspapers. Why isn't it published in your hometown newspaper? Ask its Business Editor to subscribe.

Copyright © 1987-2001 A.J. Cook All Rights Reserved
This information is not intended for use without professional advise.
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Released 5-31-99