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Education Breaks Could
Offset Your Tax Bill

WASHINGTON — Education may be its own reward, but numerous tax breaks are available for earners, their spouses and their children to pay for college or other higher education. One warning: The government can seize tax refunds from people who default on federal student loans.

The Treasury Department can take money out of a taxpayer's refund if a federal student loan is in default, which generally means a failure to make payments for nine months or more. Last year, some $1.3 billion in defaulted loans was collected from tax refunds.

There are ways to prevent this, said Kevin Tharp, director of delinquency and default at USA Group, the nation's biggest student loan administrator. Borrowers already in default should contact the lender and make some payment arrangement before the Internal Revenue Service starts taking action toward their refund. Also, payments can be reduced or delayed temporarily if the borrower is having financial trouble.

Comparing the Numbers

Selected figures from this year's tax filing season through March 17 compared to the same period last year


Returns Filed

  • 58.7 million, up 2.5 percent.


Electronic Filing

  • Total, 26.6 million, up 16.5 percent.
  • Computer, 22.5 million, up 22.9 percent.
  • Self-prepared, 3 million, up 95.2 percent.
  • Tax professionals, 19.4 million, up 16.2 percent.



  • 47.2 million, up 8.4 percent.
  • Total: $80.6 billion, up 14.8 percent.
  • Average: $1,705, up 5.9 percent.
  • Direct deposit: $46.3 million, up 24.5 percent.

"The vast majority of defaults can be avoided," Tharp said. "We prefer to work with former students to avoid default in the first place."

People hoping to claim education tax breaks by this year's April 17 filing deadline should obtain Form 8863, which was not included in standard tax packages mailed to homes by the IRS. The form is available over the Internet from the IRS or at one of the agency's 400 offices.

The Hope Scholarship allows a taxpayer to claim a $1,500 credit for each student in the family who carries at least half of a full course load at a higher education institution. The credit only applies during the first two years of higher learning, however.

The Lifetime Learning Credit, on the other hand, is not restricted to those first two years and can be used for the costs of undergraduate or graduate courses, or for job skills classes. There are no requirements for a minimum number of courses, but the credit is limited to 20 percent of tuition and fees up to a maximum of $1,000 a year.

Taxpayers cannot claim both credits in the same year. They also cannot claim either credit if their adjusted gross income exceeds $100,000 for those who are married and filing jointly, or $50,000 for singles and heads of households.

One way parents can get around those income limits is to avoid claiming a child who is a student as a dependent, according to tax advisers. The child can then claim the credit, and for higher-income parents the loss of the dependency exemption might not make much difference.

Families with children under 18 might want to open an education IRA, which allows a contribution of up to $500 a year for each child. The money then will not be subject to taxes if it is used for higher education expenses before the beneficiary reaches age 30.

There are some things to keep in mind:

  • In any year when an education IRA is distributed, a taxpayer cannot claim any of the education credits and there are limits on student loan interest deductions.

  • Contributions cannot be made to one of these IRAs in the same year they are made to any of the state prepaid tuition programs on behalf of the same child.

Republicans in Congress are pushing to expand the annual contribution limits from $500 to $2,000 and allow the money to be used for expenses at all levels of education, both public and private. President Clinton has twice vetoed similar bills.

The law now also permits up to $1,500 in interest on student loans to be deducted. Those deductions are limited to the first 60 months of loan payments.

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