High school graduations have not happened in the traditional way this year and people have found creative ways to celebrate during this chaotic time. As you are waiting to find out when schools are going to open, what will the learning environment look like, and how will it change the college experience, you should also be thinking about how your taxes can change when a child enters college.
For every dependent on your tax return, you receive the Child Tax Credit or the Dependent Credit. The Child Tax Credit is up to $2,000 per child under the age of 17 and the Dependent Credit is up to $500 for any dependent over the age of 16. Many parents believe they are not entitled to this when kids enter college, especially if not living at home. This is generally not the case. The parents are still entitled to these credits when the child is in college if you are providing over one-half of the support. Support includes food, utilities, repairs, clothing, education, medical, travel, and recreation expenses. It is generally more advantageous for the parent to claim these credits since they are in a higher tax bracket if they meet the support test. The IRS has a support test worksheet to assist with determining who provided one-half of the support. You can visit IRS.gov to utilize the support test worksheet.
As a student enters college, you may now be eligible for the Education Credit or the Tuition Deduction. The Education Credit is up to $2,500. The Tuition Deduction reduces your income by up to $4,000. Divorced parents need to understand the Education Credit goes with the student. For example, John and Sue are divorced and have one child, Mike. John and Sue agreed to alternate years claiming Mike as a dependent. Mike’s primary residence is with John. The years that Sue claims Mike as a dependent Sue would claim the Education Credit. If neither John nor Sue can claim Mike as a dependent because he is providing more than one-half of his support, Mike is entitled to the Education Credit.
When you begin claiming the Education Credit or Tuition Deduction, most people have a larger refund than normal. For some, this means a smaller balance due. If you normally have a refund before the Education Credit or Tuition Deduction, consider lowering your withholding at work in any year you are entitled to the Education Credit or Tuition Deduction. This puts more money in your pocket during the year and with a student in college who does not need more money! You change your withholding at work by submitting an updated W4 form. You can get this form from your employer or at IRS.gov. You will also find IRS has a calculator tool to help you fill out the W4 on their website.
Students who will be working part-time or full-time while attending college will also need to fill out a W4 with their employer. Make sure to have enough taxes withheld from your wages to ensure you do not have a large balance due at tax time.
Who is providing one-half of the student’s support? The standard deduction is much lower for a student being claimed by their parents as a dependent than when the student is able to claim themselves. Visit IRS.gov to use their calculator tool to see how much you should have withheld in taxes based on your income.
Many students and parents find themselves taking out student loans to cover tuition expenses. Did you know that you could be paying the interest on the loans while the student is in school? By paying the interest now, you will pay less over the course of the loan as interest is not accruing.
This would mean when the student graduates and the 6-month grace period is over, the loan payment required would be less. Since many college graduates do not get their ideal job right out of college, the lower student loan payment can help reduce the future budget burden.
Contact your tax preparer for help filling out your W4 form or to help understand better if the Education Credit or Tuition Deduction is available to you based on your situation. A little planning now can save you from penalties and interest later.
