Education Costs - Loan Interest

Education Costs Loans, Etc.

Educational Loans

Previously interest paid on educational loans was personal expense and therefore was not deductible.

In 1997 and loans since, the taxpayer may claim the deduction for interest paid on education loan(s).

The expense will be deductible, whether or not the taxpayer itemizes deductions or claims the standard deduction. the provision applies to any qualified educational loan made either before or after August 5, 1997. However, only the interest payments due and paid after December 31, 1997, on the portion of the 60 months period after December 31, 1997, may be deducted.

The amount of the deduction is phased out over the following ranges of modified adjusted gross income: 60,000 through 75,000 for married filing jointly and 40,000 through 55,000 for single filers. The phase out ranges are indexed for inflation, but the maximum interest deduction is not indexed.

A dependent may not claim a deduction for education loan interest. Married taxpayers are required to file a joint tax return in order to claim the deduction.

WARNING: a qualified education loan does not include a loan from related a party, defined by both IRC 267 (b) and IRC 707 (b) (1). In addition, the interest on the loan is only deductible in the first sixty months in which interest payments are required to be paid. If a taxpayer receives an educational loan that requires repayment over six years beginning of the second year after graduation, the interest will be deductible in only the first five years even if the payments are timely made in accordance with the loan agreement. In order to receive the full benefit of interest deduction, a taxpayer would have to accelerate the final year payments into the first five years.

Education Individual Retirement Account (EIRA)

An education IRA is a trust established at a bank or other approved trustee.

The purpose of the trust is to take qualifying education expenses of the beneficiary. Custodial accounts may be treated as a trust if the funds are held at a bank (or by another approved trustee).

Tuition, fees, room and board constitute qualifying expenses, but they must be reduced by scholarships and other non-taxable educational assistance.

Any taxpayer, subject to an income phase out rule, can contribute up to five hundred dollars cash annually to educational individual retirement account. The $500 maximum contribution is reduced on pro rata basis for taxpayer whose MAGI is in the following ranges: married filing jointly, 150,000 per 160,000 and single, 95,000 through 110,000. Modified adjusted gross income is equal to adjusted gross income increased by exempt foreign income.

Any number of individuals can contribute to education IRA's for any number of beneficiaries. Assume that, as a January 1 1998, a family has a two-year old daughter and five your own son. If each potential contributor has modified adjusted gross income below the phase out threshold, it would be possible for the family group, beginning in 1998, to contribute six thousand toward education costs in each year.

Warning: no contribution may be made to an education IRA by any individual if any person makes a contribution to a state qualified tuition program. This is a trap for the unwary, for a contributor to an education IRA may not know that another person has made a contribution to the state qualified tuition plan for the beneficiary.

Distributions from the trust are non-taxable if they cannot exceed the total qualifying education expenses for the year. Funds distributed in excess of qualifying expenses are subject to income tax and the 10 percent penalty tax. The penalty tax is waived if the distribution is because of beneficiary's death, disability or, to the extent that the beneficiary receives non-taxable scholarships or other allowances.

If all of the funds in the education IRA have not been completely used by the beneficiary's 30th birthday, the balance must be distributed, subject to regular income and the 10 percent penalty taxes. However, prior to beneficiaries 30th birthday, any unused balance may be transferred to another family member as a beneficiary.

Education individual retirement accounts may be established for tax years beginning after December 31, 1997.

	Tuition, fees, room and board constitute qualifying expenses, but they must be reduced by scholarships and other non-taxable educational assistance.
	Any taxpayer, subject to an income phase out rule, can contribute up to five hundred dollars cash annually to educational individual retirement account. The $500 maximum contribution is reduced on pro rata basis for taxpayer whose MAGI is in the following ranges: married filing jointly, 150,000 per 160,000 and single, 95,000 through 110,000. Modified adjusted gross income is equal to adjusted gross income increased by exempt foreign income.
	Any number of individuals can contribute to education IRA's for any number of beneficiaries. Assume that, as a January 1 1998, a family has a two-year old daughter and five your own son. If each potential contributor has modified adjusted gross income below the phase out threshold, it would be possible for the family group, beginning in 1998, to contribute six thousand toward education costs in each year.

	If all of the funds in the education IRA have not been completely used by the beneficiary's 30th birthday, the balance must be distributed, subject to regular income and the 10 percent penalty taxes. However, prior to beneficiaries 30th birthday, any unused balance may be transferred to another family member as a beneficiary.
	Education individual retirement accounts may be established for tax years beginning after December 31, 1997.