19.   Education-Related Adjustments

Table of Contents

    * What's New
    * Introduction
    * Useful Items - You may want to see:
    * Educator Expenses
    * Student Loan Interest Deduction
          o Student Loan Interest Defined
          o Can You Claim the Deduction
          o Who Can Claim a Dependent's Expenses
          o How Much Can You Deduct
          o How Do You Figure the Deduction
    * Tuition and Fees Deduction
          o Can You Claim the Deduction
          o What Expenses Qualify
          o Who Is an Eligible Student
          o Who Can Claim a Dependent's Expenses
          o How Much Can You Deduct

What's New

Katrina Emergency Tax Relief Act of 2005. This Act provides tax relief for
persons affected by Hurricane Katrina. Under the Act, you may be able to
claim a student loan interest deduction and/or a tuition and fees
deduction. See Publication 4492.
Introduction

This chapter discusses the education-related adjustments you can deduct in
figuring your adjusted gross income.

This chapter covers:

    *

      Educator expenses,
    *

      Student loan interest deduction, and
    *

      The tuition and fees deduction.

Useful Items - You may want to see:

Publication

    *

      970 Tax Benefits for Education

Educator Expenses

If you were an eligible educator in 2005, you can deduct up to $250 of
qualified expenses you paid in 2005 as an adjustment to gross income,
rather than as a miscellaneous itemized deduction. If you and your spouse
are filing jointly and both of you were eligible educators, the maximum
deduction is $500. However, neither spouse can deduct more than $250 of his
or her qualified expenses.
Eligible educator.   An eligible educator is a kindergarten through grade
12 teacher, instructor, counselor, principal, or aide who worked in a
school for at least 900 hours during a school year.

Qualified expenses.   Qualified expenses include ordinary and necessary
expenses paid in connection with books, supplies, equipment (including
computer equipment, software, and services), and other materials used in
the classroom. An ordinary expense is one that is common and accepted in
your educational field. A necessary expense is one that is helpful and
appropriate for your profession as an educator. An expense does not have to
be required to be considered necessary.

  Qualified expenses do not include expenses for home schooling or for
nonathletic supplies for courses in health or physical education.

  You must reduce your qualified expenses by the following amounts.

    *

      Tax-free interest on U.S. series EE and I savings bonds (Form 8815).
See Figuring the Tax-Free Amount in chapter 10 of Publication 970.
    *

      Tax-free portion of a distribution from a qualified tuition program
(QTP). See Figuring the Taxable Portion of a Distribution in chapter 8 of
Publication 970.
    *

      Tax-free portion of a distribution from a Coverdell education savings
account (ESA). See Figuring the Taxable Portion of a Distribution in
chapter 7 of Publication 970.
    *

      Any reimbursements you received for these expenses that were not
reported to you in box 1 of your Form W-2.

How the deduction is claimed.   To claim the deduction, enter the allowable
amount on line 23 of Form 1040, or line 16 of Form 1040A.

Student Loan Interest Deduction

Generally, personal interest you pay, other than certain mortgage interest,
is not deductible. However, if your modified adjusted gross income (MAGI)
is less than $65,000 ($135,000 if filing a joint return) you may be able to
take a deduction for interest paid on a student loan (also known as an
education loan) used for higher education. For most taxpayers, MAGI is the
adjusted gross income as figured on their federal income tax return before
subtracting any deduction for student loan interest. This deduction can
reduce the amount of your income subject to tax by up to $2,500 in 2005.
Table 19-1 summarizes the features of the student loan interest deduction.

Table 19-1. 	Student Loan Interest Deduction at a Glance

  	Do not rely on this table alone. Refer to the text for more details.

Feature 	Description
Maximum benefit 	You can decrease your income subject to tax by up to $2,500.
Loan qualifications 	Your student loan
•
	must have been taken out solely to pay qualified education expenses, and
  	• 	cannot be from a related person or made under a qualified employer plan.
Student qualifications 	The student must be
• 	you, your spouse, or your dependent, and
  	• 	enrolled at least half-time in a degree program.
Time limit on deduction 	You can deduct interest paid during the remaining
period of your student loan.
Phaseout 	The amount of your deduction depends on your income level.

Student Loan Interest Defined

Student loan interest is interest you paid during the year on a qualified
student loan. It includes both required and voluntary interest payments.
Qualified Student Loan

This is a loan you took out solely to pay qualified education expenses
(defined later) that were:

    *

      For you, your spouse, or a person who was your dependent (defined in
chapter 3) when you took out the loan,
    *

      Paid or incurred within a reasonable period of time before or after
you took out the loan, and
    *

      For education provided during an academic period for an eligible student.

Loans from the following sources are not qualified student loans.

    *

      A related person.
    *

      A qualified employer plan.

Exceptions.   For purposes of the student loan interest deduction, there
are the following exceptions to the general rules for dependents.

    *

      You can have a dependent even if you are the dependent of another
taxpayer.
    *

      An individual can be your dependent even if the individual made a
joint return with a spouse.
    *

      An individual can be your dependent even if the individual had gross
income for the year that was equal to or more than the exemption amount for
the year ($3,200 for 2005).

Reasonable period of time.   Qualified education expenses are treated as
paid or incurred within a reasonable period of time before or after you
take out the loan if they are paid with the proceeds of student loans that
are part of a federal postsecondary education loan program.

  Even if not paid with the proceeds of that type of loan, the expenses are
treated as paid or incurred within a reasonable period of time if both of
the following requirements are met.

   1.

      The expenses relate to a specific academic period, and
   2.

      The loan proceeds are disbursed within a period that begins 90 days
before the start of that academic period and ends 90 days after the end of
that academic period.

  If neither of the above situations applies, the reasonable period of time
usually is determined based on all the relevant facts and circumstances.

Academic period.   An academic period includes a semester, trimester,
quarter, or other period of study (such as a summer school session) as
reasonably determined by an educational institution. In the case of an
educational institution that uses credit hours or clock hours and does not
have academic terms, each payment period can be treated as an academic period.

Eligible student.   This is a student who was enrolled at least half-time
in a program leading to a degree, certificate, or other recognized
educational credential.

Enrolled at least half-time.   A student was enrolled at least half-time if
the student was taking at least half the normal full-time work load for his
or her course of study.

  The standard for what is half of the normal full-time work load is
determined by each eligible educational institution. However, the standard
may not be lower than any of those established by the Department of
Education under the Higher Education Act of 1965.

Loan from a related person.   You cannot deduct interest on a loan you get
from a related person. Related persons include:

    *

      Your spouse,
    *

      Your brothers and sisters,
    *

      Your half brothers and half sisters,
    *

      Your ancestors (parents, grandparents, etc.),
    *

      Your lineal descendants (children, grandchildren, etc.), and
    *

      Certain corporations, partnerships, trusts, and exempt organizations.

Loan from a qualified employer plan.   You cannot deduct interest on a loan
made under a qualified employer plan or under a contract purchased under
such a plan.

Qualified Education Expenses

Generally, for purposes of the student loan interest deduction, these
expenses are the total costs of attending an eligible educational
institution, including graduate school. They include amounts paid for the
following items.

    *

      Tuition and fees.
    *

      Room and board.
    *

      Books, supplies, and equipment.
    *

      Other necessary expenses (such as transportation).

The cost of room and board qualifies only to the extent that it is not more
than the greater of the following amounts.

    *

      The allowance for room and board, as determined by the eligible
educational institution, that was included in the cost of attendance (for
federal financial aid purposes) for a particular academic period and living
arrangement of the student.
    *

      The actual amount charged if the student is residing in housing owned
or operated by the eligible educational institution.

Eligible educational institution.   An eligible educational institution is
any college, university, vocational school, or other postsecondary
educational institution eligible to participate in a student aid program
administered by the Department of Education. It includes virtually all
accredited public, nonprofit, and proprietary (privately owned
profit-making) postsecondary institutions.

  Certain educational institutions located outside the United States also
participate in the U.S. Department of Education's Federal Student Aid (FSA)
programs.

  For purposes of the student loan interest deduction, an eligible
educational institution also includes an institution conducting an
internship or residency program leading to a degree or certificate from an
institution of higher education, a hospital, or a health care facility that
offers postgraduate training.

  An educational institution must meet the above criteria only during the
academic period(s) for which the student loan was incurred. The
deductibility of interest on the loan is not affected by the institution's
subsequent loss of eligibility.

  
Tip
The educational institution should be able to tell you if it is an eligible
educational institution.

Adjustments to qualified education expenses.   You must reduce your
qualified education expenses by certain tax-free items (such as the
tax-free part of scholarships and fellowships). See chapter 4 of
Publication 970 for details.

Include As Interest

In addition to simple interest on the loan, certain loan origination fees,
capitalized interest, interest on revolving lines of credit, and interest
on refinanced student loans can be student loan interest if all other
requirements are met.
Loan origination fee.   This is a one-time fee charged by the lender for
the use of money, which is treated as interest accrued over the life of the
loan. This payment cannot be for property or services provided by the
lender, such as commitment fees or processing costs.

Capitalized interest.    This is unpaid interest on a student loan that is
added by the lender to the outstanding principal balance of the loan.

Interest on revolving lines of credit.   This interest, which includes
interest on credit card debt, is student loan interest if the borrower uses
the line of credit (credit card) only to pay qualified education expenses.
See Qualified Education Expenses, earlier.

Interest on refinanced student loans.   This includes interest on both:

    *

      Consolidated loans—loans used to refinance more than one student loan
of the same borrower, and
    *

      Collapsed loans—two or more loans of the same borrower that are
treated by both the lender and the borrower as one loan.

Caution
If you refinance a qualified student loan for more than your original loan
and you use the additional amount for any purpose other than qualified
education expenses, you cannot deduct any interest paid on the refinanced loan.
Voluntary interest payments.   These are payments made on a qualified
student loan during a period when interest payments are not required, such
as when the borrower has been granted a deferment or the loan has not yet
entered repayment status.

Do Not Include As Interest

You cannot claim a student loan interest deduction for:

    *

      Interest you paid on a loan if under the terms of the loan, you are
not legally obligated to make interest payments.
    *

      Loan origination fees that are payments for property or services
provided by the lender, such as commitment fees or processing costs.
    *

      Interest you paid on a loan to the extent payments were made through
your participation in the National Health Service Corps Loan Repayment
Program (the “NHSC Loan Repayment Program”) or certain other state loan
repayment programs. This is effective beginning January 1, 2004. For more
information, see Student Loan Repayment Assistance in Publication 970.

Can You Claim the Deduction

Generally, you can claim the deduction if all three of the following
requirements are met.

    *

      Your filing status is any filing status except married filing separately.
    *

      No one else is claiming an exemption for you on his or her tax return.
    *

      You paid interest on a qualified student loan.

Expenses paid by others.   If you are the person legally obligated to make
interest payments and someone else makes a payment of interest on your
behalf, you are treated as receiving the payments from the other person
and, in turn, paying the interest. See chapter 4 of Publication 970 for
more information.

No Double Benefit Allowed

You cannot deduct as interest on a student loan any amount that is an
allowable deduction under any other provision of the tax law (for example,
home mortgage interest).
Who Can Claim a Dependent's Expenses

You can deduct interest paid on a student loan for your dependent only if you:

    *

      Are legally obligated to make the interest payments,
    *

      Actually made the payments during the tax year, and
    *

      Claim an exemption for your dependent on your tax return.

How Much Can You Deduct

Your student loan interest deduction for 2005 is generally the smaller of:

    *

      $2,500, or
    *

      The interest you paid in 2005.

The amount determined above is phased out (gradually reduced) if your MAGI
is between $50,000 and $65,000 ($105,000 and $135,000 if you file a joint
return). You cannot take a student loan interest deduction if your MAGI is
$65,000 or more ($135,000 or more if you file a joint return). For details
on figuring your MAGI, see chapter 4 of Publication 970.
How Do You Figure the Deduction

Generally, you figure the deduction using the Student Loan Interest
Deduction Worksheet in the Form 1040 or Form 1040A instructions. However,
if you are filing Form 2555, 2555-EZ, or 4563, or you are excluding income
from sources within Puerto Rico, you must complete Worksheet 4-1 in chapter
4 of Publication 970.

To help you figure your student loan interest deduction, you should receive
Form 1098-E, Student Loan Interest Statement. Generally, an institution
(such as a bank or governmental agency) that received interest payments of
$600 or more during 2005 on one or more qualified student loans must send
Form 1098-E (or acceptable substitute) to each borrower by January 31, 2006.

For qualified student loans taken out before September 1, 2004, the
institution is required to include on Form 1098-E only payments of stated
interest. Other interest payments, such as certain loan origination fees
and capitalized interest, may not appear on the form you receive. However,
if you pay qualifying interest that is not included on Form 1098-E, you can
also deduct those amounts. For information on allocating payments between
interest and principal, see chapter 4 of Publication 970.

To claim the deduction, enter the allowable amount on line 33 (Form 1040),
or line 18 (Form 1040A).
Tuition and Fees Deduction

You may be able to deduct qualified education expenses paid during the year
for yourself, your spouse, or a dependent. You cannot claim this deduction
if your filing status is married filing separately or if another person can
claim an exemption for you as a dependent on his or her tax return. The
qualified expenses must be for higher education, as explained later under
What Expenses Qualify.

The tuition and fees deduction can reduce the amount of your income subject
to tax by up to $4,000.

Table 19-2 summarizes the features of the tuition and fees deduction.

Tip
You may be able to take a credit for your education expenses instead of a
deduction. You can choose the one that will give you the lower tax. See
chapter 35 for details about the credits.
Can You Claim the Deduction

The following rules will help you determine if you can claim the tuition
and fees deduction.
Who Can Claim the Deduction

Generally, you can claim the tuition and fees deduction if all three of the
following requirements are met.

   1.

      You paid qualified education expenses of higher education.
   2.

      You paid the education expenses for an eligible student.
   3.

      The eligible student is yourself, your spouse, or a dependent for
whom you claim an exemption (defined in chapter 3) on your tax return.

Qualified education expenses are defined under What Expenses Qualify.
Eligible students are defined later under Who Is an Eligible Student.
Who Cannot Claim the Deduction

You cannot claim the tuition and fees deduction if any of the following apply.

    *

      Your filing status is married filing separately.
    *

      Another person can claim an exemption for you as a dependent on his
or her tax return. You cannot take the deduction even if the other person
does not actually claim that exemption.
    *

      Your modified adjusted gross income (MAGI) is more than $80,000
($160,000 if filing a joint return).
    *

      You were a nonresident alien for any part of the year and did not
elect to be treated as a resident alien for tax purposes. More information
on nonresident aliens can be found in Publication 519, U.S. Tax Guide for
Aliens.
    *

      You or anyone else claims a Hope or lifetime learning credit in 2005
with respect to expenses of the student for whom the qualified education
expenses were paid.

Table 19-2. 	Tuition and Fees Deduction at a Glance

  	Do not rely on this table alone. Refer to the text for more details.

Question 	  	Answer
What is the maximum benefit? 	  	You can decrease your income subject to
tax by up to $4,000.
Where is the deduction taken? 	  	As an adjustment to income on Form 1040,
line 34, or 1040A, line 16.
For whom must the expenses be paid? 	  	A student enrolled in an eligible
educational institution who is either:
•you,
•your spouse, or
•your dependent for whom you claim an exemption.
What tuition and fees are deductible? 	  	Tuition and fees required for
enrollment or attendance at an eligible postsecondary educational
institution, but not including personal, living, or family expenses, such
as room and board.

What Expenses Qualify

The tuition and fees deduction is based on qualified education expenses you
pay for yourself, your spouse, or a dependent for whom you claim an
exemption on your tax return. Generally, the deduction is allowed for
qualified education expenses paid in 2005 in connection with enrollment at
an institution of higher education during 2005 or for an academic period
(defined earlier under Student Loan Interest Deduction) beginning in 2005
or in the first 3 months of 2006.
Payments with borrowed funds.   You can claim a tuition and fees deduction
for qualified education expenses paid with the proceeds of a loan. You use
the expenses to figure the deduction for the year in which the expenses are
paid, not the year in which the loan is repaid. Treat loan payments sent
directly to the educational institution as paid on the date the institution
credits the student's account.

Student withdraws from class(es).   You can claim a tuition and fees
deduction for qualified education expenses not refunded when a student
withdraws.

Qualified Education Expenses

For purposes of the tuition and fees deduction, qualified education
expenses are tuition and certain related expenses required for enrollment
or attendance at an eligible educational institution.
Eligible educational institution.   An eligible educational institution is
any college, university, vocational school, or other postsecondary
educational institution eligible to participate in a student aid program
administered by the Department of Education. It includes virtually all
accredited public, nonprofit, and proprietary (privately owned
profit-making) postsecondary institutions. The educational institution
should be able to tell you if it is an eligible educational institution.

  Certain educational institutions located outside the United States also
participate in the U.S. Department of Education's FSA programs.

Related expenses.   Student-activity fees and expenses for course-related
books, supplies, and equipment are included in qualified education expenses
only if the fees and expenses must be paid to the institution as a
condition of enrollment or attendance.

No Double Benefit Allowed

You cannot do any of the following.

    *

      Deduct qualified education expenses you deduct under any other
provision of the law, for example, as a business expense,
    *

      Deduct qualified education expenses for a student on your income tax
return if you or anyone else claims a Hope or lifetime learning credit for
that same student in the same year,
    *

      Deduct qualified education expenses that have been used to figure the
tax-free portion of a distribution from a Coverdell education savings
account (ESA) or a qualified tuition program (QTP). For a QTP, this applies
only to the amount of tax-free earnings that were distributed, not to the
recovery of contributions to the program. See Figuring the Taxable Portion
of a Distribution in chapter 7 (Coverdell ESA) and in chapter 8 (QTP) of
Publication 970.
    *

      Deduct qualified education expenses that have been paid with tax-free
interest on U.S. savings bonds (Form 8815). See Figuring the Tax-Free
Amount in chapter 10 of Publication 970.
    *

      Deduct qualified education expenses that have been paid with tax-free
scholarship, grant, or employer-provided educational assistance. See the
following section on Adjustments to qualified education expenses.

Adjustments to qualified education expenses.   If you paid qualified
education expenses with certain tax-free funds, you cannot claim a
deduction for those amounts. You must reduce the qualified education
expenses by the amount of any tax-free educational assistance and refunds
you received.

Tax-free educational assistance.   This includes:

    *

      Tax-free part of scholarships and fellowships (see chapter 1 of
Publication 970),
    *

      Pell grants (see chapter 1 of Publication 970),
    *

      Employer-provided educational assistance (see chapter 11 of
Publication 970),
    *

      Veterans' educational assistance (see chapter 1 of Publication 970), and
    *

      Any other nontaxable (tax-free) payments (other than gifts or
inheritances) received as educational assistance.

Refunds.   Qualified education expenses do not include expenses for which
you, or someone else who paid qualified education expenses on behalf of a
student, receive a refund. (For information on expenses paid by a dependent
student or third party, see Who Can Claim a Dependent's Expenses, later.)

  If a refund of expenses paid in 2005 is received before you file your tax
return for 2005, simply reduce the amount of the expenses paid by the
amount of the refund received. If the refund is received after you file
your 2005 tax return, see When Must the Deduction Be Repaid (Recaptured),
in chapter 6 of Publication 970.

  You are considered to receive a refund of expenses when an eligible
educational institution refunds loan proceeds to the lender on behalf of
the borrower. Follow the above instructions according to when you are
considered to receive the refund.

Amounts that do not reduce qualified education expenses.   Do not reduce
qualified education expenses by amounts paid with funds the student
receives as:

    *

      Payment for services, such as wages,
    *

      A loan,
    *

      A gift,
    *

      An inheritance, or
    *

      A withdrawal from the student's personal savings.

  Do not reduce the qualified education expenses by any scholarship or
fellowship reported as income on the student's tax return in the following
situations.

    *

      The use of the money is restricted to costs of attendance (such as
room and board) other than qualified education expenses.
    *

      The use of the money is not restricted and is used to pay education
expenses that are not qualified (such as room and board).

Expenses That Do Not Qualify

Qualified education expenses do not include amounts paid for:

    *

      Insurance,
    *

      Medical expenses (including student health fees),
    *

      Room and board,
    *

      Transportation, or
    *

      Similar personal, living, or family expenses.

This is true even if the amount must be paid to the institution as a
condition of enrollment or attendance.
Sports, games, hobbies, and noncredit courses.   Qualified education
expenses generally do not include expenses that relate to any course of
instruction or other education that involves sports, games or hobbies, or
any noncredit course. However, if the course of instruction or other
education is part of the student's degree program, these expenses can qualify.

Comprehensive or bundled fees.   Some eligible educational institutions
combine all of their fees for an academic period into one amount. If you do
not receive, or do not have access to, an allocation showing how much you
paid for qualified education expenses and how much you paid for personal
expenses, such as those listed above, contact the institution. The
institution is required to make this allocation and provide you with the
amount you paid (or were billed) for qualified education expenses on Form
1098-T, Tuition Statement. See How Do You Figure the Deduction, later, for
more information about Form 1098-T.

Who Is an Eligible Student

For purposes of the tuition and fees deduction, an eligible student is a
student who is enrolled in one or more courses at an eligible educational
institution. The student must have either a high school diploma or a
General Educational Development (GED) credential.
Who Can Claim a Dependent's Expenses

Generally, to claim the tuition and fees deduction for qualified education
expenses for a dependent, you must:

    *

      Have paid the expenses, and
    *

      Claim an exemption for the student as a dependent.

Table 19-3 summarizes who can claim the deduction.
How Much Can You Deduct

The maximum tuition and fees deduction in 2005 is $4,000, $2,000, or $0,
depending on the amount of your MAGI. For details on figuring your MAGI,
see chapter 6 of Publication 970.
How Do You Figure the Deduction

Generally, you figure the deduction using the Tuition and Fees Deduction
Worksheet in the Form 1040 or Form 1040A instructions. However, if you are
filing Form 2555, Form 2555-EZ, or Form 4563, or if you exclude income from
sources within Puerto Rico, you must complete the worksheet in chapter 6 of
Publication 970.

To help you figure your tuition and fees deduction, you should receive Form
1098-T, Tuition Statement. Generally, an eligible educational institution
(such as a college or university) must send Form 1098-T (or acceptable
substitute) to each enrolled student by January 31, 2006.

To claim the deduction, enter the allowable amount on Form 1040, line 34,
or Form 1040A, line 19.

Table 19-3. 	Who Can Claim a Dependent's Expenses?

  	Do not rely on this table alone. See Who Can Claim a Dependent's
Expenses in chapter 6 of Publication 970.

IF your dependent is an eligible student and you... 	AND... 	THEN...
claim an exemption for your dependent 	you paid all qualified education
expenses for your dependent 	only you can deduct the qualified education
expenses that you paid. Your dependent cannot take a deduction.
claim an exemption for your dependent 	your dependent paid all qualified
education expenses 	no one is allowed to take a deduction.
do not claim an exemption for your dependent, but are eligible to 	you paid
all qualified education expenses 	no one is allowed to take a deduction.
do not claim an exemption for your dependent, but are eligible to 	your
dependent paid all qualified education expenses 	no one is allowed to take
a deduction.
are not eligible to claim an exemption for your dependent 	you paid all
qualified education expenses 	only your dependent can deduct the amount you
paid. The amount you paid is treated as a gift to your dependent.
are not eligible to claim an exemption for your dependent 	your dependent
paid all qualified education expenses 	only your dependent can take a
deduction.