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22 August 2015

Taxpayers can deduct up to $2,500 of student loan interest from their federal taxes each year by taking an above the line adjustment. Essentially, that means you can take the student loan interest deduction even if you use the standard deduction when you file. Lenders are required to report student loan interest to taxpayers on form 1098-E. If you have mulitple student loans you will receive multiple forms 1098-E. If your total interest payments for the year exceed $2,500 you are out of luck. $2,500 is the cap, and there is no carryover to subsequent tax years.

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While form 1098-E is quite handy, it may also be misleading. It may not include everything you can deduct as student loan interest. The law allows some expenses to be deducted as student loan interest by the taxpayer, but does not require the lender to report them on the 1098-E.

Deductible Student Loan Interest NOT Reported On Form 1098-E:

Loan Origination Fees were not required to be reported as interest on 1098-E for loans taken out prior to Sept 1, 2004.  Loan origination fees are typically withheld from the loan when it is secured by the borrower. For example, Tammy takes a $10,000 student loan with a 3% origination fee. The lender only delivers $9,700 to Tammy, and keeps the $300 (3%) loan origination fee. That fee is interest, and can be deducted from your taxes using (according to the IRS) any reasonable method that allocates the loan origination fee over the term of the loan. If the term on Tammy's loan is 10 years, she can deduct $30/year from her taxes as student loan interest due to the loan origination fees. If you are still paying on student loans originating in 2003 or earlier find out if there were origination fees you could be deducting.

Capitalized Interest is unpaid interest that is added to the principal of the loan by the lender. This typically happens when loans are consolidated or refinanced - any accrued, but unpaid interest is added to the principal of the new loan. In the bank's eyes that money is now principal, but in the eyes of the IRS it still qualifies as interest and can be deducted in the year it is paid. Figuring the part of your payments that are due to capitalized interest can be tricky. It's a complex math problem I'm not going to try to explain here. Come see me if you have questions about it.

Credit Card Interest can count as student loan interest. (Wait!, What!?!) You read that right, credit card interest can count as student loan interest. To qualify the credit card must be used for qualifying higher education expenses (QHEE), and QHEEs must be the only thing on the credit card. If you're using your credit card to fill gaps in your education funding, it's probably worth it to have a specific credit card set aside to use exclusively for education spending.

Interest on Home Equity Loans/Lines of Credit can also be written off as student loan interest under the same rules as credit card interest. The expenses must be QHEE, and the only expenses on the loan must be QHEE. If you take out the home equity loan for education, you're good. If you take out the loan for education and a boat, you can't deduct the interest.

QHEE for the student loan interest deduction include tuition, fees, room and board, books, equipment, supplies, transportation, and other necessary expenses to attend higher education classes.

There are some limitations on who can deduct student loan interest. If your filing status is single, head of household, or qualifying widow(er), then the deduction begins to phase out at MAGI of $65,000; completely gone at $80,000. If your filing status is married filing jointly the deduction begins to phase out at MAGI of $130,000; completely gone at $160,000. If your filing status is married filing separately you do not qualify for the student loan interest deduction.

If you qualify for the student loan interest deduction be sure you are deducting ALL of the allowable interest - not just what is on your form 1098-E. If you are still planning your college financing, it is worth it to consider all available tax benefits.

Disclaimer

Information in the Tax Blog is current as of the day it was posted. Tax laws change frequently, and it is likely that as time passes acts of Government will make some of the older blog content out of date.

The information provided is for education purposes only. It is general in nature and may not pertain to the Reader's situation. Every taxpayer's circumstances are unique. Reader's are urged to do some research or talk to a tax professional before acting on any of the information posted in this blog.

Paul D. Allen is a proud member of the National Association of Enrolled Agents, the National Association of Tax Professionals the Financial Planning Association of Hampton Roads, the National Association of Personal Financial Advisors (NAPFA), and The Tidewater Real Estate Investors Group. You can read more about Paul's background here.

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Common Acronyms

ACTC - Additional Child Tax Credit

AGI - Adjusted Gross Income

AMT - Alternative Minimum Tax

APTC - Advanced Premium Tax Credit

AOC - American Opportunity Credit

CTC- Child Tax Credit

EIC - Earned Income Credit

HoH - Head of Household

LLC - Lifetime Learning Credit

MFJ - Married Filing Jointly

MFS - Married Filing Separately

MAGI - Modified Adjusted Gross Income

PIM - Plan of Intended Movement

PTC - Premium Tax Credit

QC - Qualifying Child

QHEE - Qualifying Higher Education Expenses

QR - Qualifying Relative

QW - Qualifying Widow(er)

 

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