Never underestimate Congress’ ability to dole out special tax breaks to “even the score” resulting from the enactment of prior legislation. Just as a single rock rolling downhill can trigger a landslide, a special tax break given to one constituency, can trigger a landslide of tax breaks for other constituencies. In this case Congress decided that individuals located in Midwestern Disaster Areas (which resulted primarily from isolated spring flooding as opposed to the near complete destruction of a major US city) should get some of the same tax benefits given to Hurricane Katrina victims.
The Emergency Economic Stabilization Act of 2008 (2008 Act) enacted on October 3, 2008, included an obscure provision that provides generous (if not unbelievable) benefit for individuals attending a higher education institution located in a Midwestern Disaster Area for taxable years beginning in 2008 and 2009. Essentially these individuals can claim either a doubled original Hope credit (note - the provision does not apply to the revised and expanded Hope credit that was renamed the American Opportunity Tax credit by the American Recovery and Reinvestment Act of 2009 (2009 Act) discussed below) or a doubled Lifetime Learning credit.
Taxpayers with a student attending a Midwestern Disaster Area college in 2009 have the choice of claiming the American Opportunity Tax credit (discussed below) of up to $2,500, or elect to decline this credit to claim the former Hope credit with a doubled limit, up to a $3,600 credit, or alternatively to claim the $4,000 doubled Lifetime Learning credit. Because the former Hope credit and the Lifetime Learning credit are unavailable to individuals exceeding certain amounts of adjusted gross income (AGI), the doubled education tax credits are not available to them; as a result, they will have to claim the new American Opportunity Tax credit.
Eligible educational institutions are those located in a county identified in Table 1 of IRS Publication 4492-B. This table identifies counties within the states of Arkansas, Illinois, Indiana, Iowa, Missouri, Nebraska, and Wisconsin. Remember, taxpayers do not need to reside in the disaster area, they only need to attend an education institution located in one of the designated counties. Download a copy of IRS Publication 4492-B here.
Based on our experience during the 2008 filing season, we’re fairly certain that taxpayers are not aware of this benefit. Because the Hope credit was expanded and renamed the American Opportunity tax credit by the 2009 Act I, taxpayer will be further confused by the tangle of rules that now apply because it will appear to most that the Hope credit is not longer available. However, taxpayers with a student attending a Midwestern Disaster Area college may still claim the doubled Hope credit notwithstanding the credit was replaced by the American Opportunity Tax credit in early 2009. To assist with this confusing (and mind numbing) decision, I have created the chart below to help affected taxpayers make an informed decision. In addition, I’ve included a brief explanation of the various tax credits following the chart.
In previous years, two alternative refundable credits were available to individuals who incur post-secondary educational expenses: (1) the Hope credit and (2) the Lifetime Learning credit.
Hope and Lifetime Learning Credits
The Hope credit was only available during the first two years of post-secondary education, and could only be used twice by any one student. The maximum Hope credit was $1,800, calculated as 100% of the first $1,200 of post-secondary tuition and fees, plus 50% of the next $1,200.
Alternatively, taxpayer have been able to claim a Lifetime Learning credit of up to $2,000, calculated as 20% of the first $10,000 of tuition and fees. This credit applies to an unlimited number of years of post-secondary education. The credit also differs from the Hope credit in that the per-year limit applies per taxpayer, not per student. The credit applies to both degree and nondegree courses at a higher education institution, including those taken to acquire improved job skills; there is no requirement of enrollment in a degree program or enrollment for at least half of a formal full-time workload.
Both the Hope credit and the Lifetime Learning credits phase out as modified AGI moves from $50,000 - $60,000 on a single return and $100,000 - $120,000 on a joint return. Neither credit is refundable.
Hope Credit Expanded and Renamed
The American Recovery and Reinvestment Act of 2009 (2009 Act I) modified the Hope credit. It renamed the Hope credit the American Opportunity Tax credit, and applies for taxable years beginning in 2009 and 2010. The maximum credit is $2,500 per student per year, calculated as 100% of the first $2,000 of tuition and eligible expenses, plus 25% of the next $2,000 of eligible expenses.
The definition of eligible expenses for the credit is expanded to include course materials, as well as tuition and fees (as previously allowed). The credit is allowed for expenses paid for the first four years of a student’s post-secondary education. However, for each eligible student, the credit may only be claimed for four tax years. The modified AGI phaseout range is increased for the American Opportunity Tax credit to $80,000-$90,000 on a single return and $160,000 - $180,000 on a joint return.
As with the Hope credit and the Lifetime Learning credit, the American Opportunity Tax credit reduces both regular tax and alternative minimum tax (AMT). Moreover, up to 40% of the modified credit is refundable, up to a maximum refundable amount of $1,000. However, no refund is available if the taxpayer is a child under age 18, or any student under age 24 whose earned income is less than half of support for the year.