Deducting education costs

A deduction is available if the education maintains or improves the skills related to your trade or business. Educational costs are also deductible if the education is required (e.g., by law or an employer) to keep your position or job.

Conversely, educational costs aren't deductible if the education is required to get into the field (as opposed to staying in the field) or qualifies you for a new trade or business.

For example, a doctor cannot deduct basic medical school costs because they are required to enter the field. Once he becomes a doctor, however, any courses he takes to keep current or learn new techniques are deductible.

The expenses of becoming a specialist within a field may or may not be deductible. For example, if the goal all along was to become a psychiatrist and the individual went straight through medical school, internship, and then into a psychiatric residency, all of the costs would be treated as required to enter the field and wouldn't be deductible. However, an internist who has already been practicing medicine for a period of time, can deduct the costs of a psychiatric program he enters as improving skills within his profession.

Many taxpayers take law-related courses as helpful to their professions or businesses. Seminars within your profession on law-related issues are deductible since they improve your skills. On the other hand, law school courses (even if taken for the same purpose) are generally not deductible because they lead to qualifying you for a new profession.

If your educational costs are deductible under the above tests, you can include the transportation costs involved in getting from work to the course location or vice versa. Transportation between home and the course location is deductible for education undertaken on a temporary or irregular basis. If the transportation is in the nature of a commute it's not deductible. If you're away from home for deductible education, you can include the costs of travel, meals (at 50%), and lodging as well. However, travel as the educational vehicle itself (e.g., a French teacher's trip to France) isn't deductible.

In the case of an employee, education expenses that are deductible under the above tests may be claimed as an itemized deduction, but only to the extent the expenses, along with other miscellaneous itemized deductions, exceed 2% of the taxpayer's adjusted gross income (AGI). And in the case of taxpayers with high AGI, miscellaneous itemized deductions are subject to a further overall limit on itemized deductions.

In addition to taking an itemized deduction for education expenses, if you incur debt in obtaining education, interest you pay on student loans taken out may be deductible as an above-the-line deduction, i.e., it's subtracted from gross income to determine AGI. This means you don't have to itemize to take this deduction. The maximum deduction is $2,000 for 2000 and increases to $2,500 for 2001 or later, subject to a phaseout for taxpayers with high AGI.

Instead of taking a deduction for education expenses, taxpayers may claim the Hope/Lifetime Learning credits for qualified tuition and related expenses. The maximum Hope credit a taxpayer may claim is $1,500 per year (adjusted for inflation after 2001) per student, for the first two years of undergraduate education at an eligible education institution. The maximum Lifetime Learning credit that may be claimed is $1,000 per year ($2,000 per year after 2002) per taxpayer, for any post-high school education (including courses to acquire or improve job skills) at an eligible education institution. The Hope/Lifetime Learning credits are also subject to phaseout for taxpayers with high AGI.

Taxpayers who incur education expenses must decide how to take maximum advantage of these complex rules. Taxpayers who take the standard deduction instead of itemizing their deductions will want to claim the Hope/Lifetime Learning credits. Other taxpayers will have to decide whether to take an itemized deduction for their education expenses or to claim the Hope/Lifetime Learning credits for the expenses. Taxpayers who aren't subject to the overall limit on itemized deductions may find that an itemized deduction for education expenses is more advantageous than the Lifetime Learning credit because itemized deductions reduce a taxpayer's taxable income, and thus the education expenses save taxes at a taxpayer's top tax rate. On the other hand, if the education expenses aren't related to a taxpayer's current trade or business, but are incurred to acquire or improve job skills, even for a new trade or business, the expenses aren't deductible as an itemized deduction, but would qualify for the Lifetime Learning credit.

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