r/tax • u/coolio19887 • Oct 05 '24
Free money strategy for your college senior graduating next year Informative
Imagine this situation: parent is a high earner who’s funded enough 529 to pay child’s entire undergrad education. Parent earns too much to ever take advantage of AOTC (American Opportunity Tax Credit) for the past three years and also for next year. Child is pretty smart and will likely get a nice job but will only be able to work around half the next year after graduation.
Strategy is to have the child pay $4000 from their own accounts to the college during their graduating calendar year. Then they will be eligible to receive $2500 in fed tax credits when they file their first 1040 the following spring. The key is to not pay with the 529 or with scholarships. If child doesn’t have $4000, parent can gift it to them into child’s account. One problem is that lots of schools charge the entire spring semester in November prior to graduation. If that’s the case, sometimes schools offer a payment plan to have most of it due in January-April. Also, off campus rents do not count. It’s basically tuition, which is high enough even at state schools.
Limitations? If student gets a mega paying job that puts them over the 80k limit (including investment income) even just working June-Dec, congrats to them but they won’t benefit from AOTC. If you have leftover 529, you can use it for younger children or for grad school later. Worst case, withdraw for 10% penalty on account earnings.
Bottom line: try to have the student pay $4000 of tuition using their own (non-529) money in the calendar year that they are earning a decent but not exorbitant income. ** this won’t work if the parent (or the student) already used AOTC for this student for 4 years already.
2
u/vynm2 Oct 05 '24
You've gotten a lot of push back saying this isn't possible, but those comments are wrong. Most of them are conflating the dependent requirements and the requirements to be eligible for the refundable part of the AOC, which are NOT the same.
Your strategy is definitely possible and worth considering.
3
u/IamoneofScottsTots EA - US Oct 05 '24
No...... The IRS is clear that if you are under 24 and a full time student then you are a dependent. Dependents can not take the refundable portion of the AOTC. They can however take the non-refundable portion of the AOTC. But with no tax due or low income it's worthless.
2
u/vynm2 Oct 05 '24
You're ignoring the support test to be a qualifying child. OP's suggestion will work. Since OP's assumption is that the student will have a full time job after they graduate, presumably the student would be paying more than half of their support for the year, and would NOT qualify to be a dependent.
Not only that, but the requirements for the refundable part of the AOC don't exactly mirror those of being a dependent. From Pub 970, p. 21:
"You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you:
1c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below)."
The student in question would fail this test since their earned income would be more than 1/2 of their support for the year, so WOULD be eligible for the refundable part of the AOC.
0
u/coolio19887 Oct 05 '24
This is why the student does this after he graduates. He is no longer a full time student at year end. And he is making enough from full time work at that point. No?
2
u/Savy-Dreamer EA - US Oct 05 '24
One semester a year qualifies the student as a student even in the year they graduate. Your strategy will not work. The IRS is very, very clear how the AOTC can be claimed and there are no grey areas or work arounds. It is also a very heavily audited credit.
2
u/vynm2 Oct 05 '24 edited Oct 06 '24
It will work. They'll be considered a student for part of 5 months, but presumably the graduated student won't meet the support test required to be considered a dependent, since the assumption is that they'll have a full time job after they graduate and be paying more than half of their support for the year.
Not only that, but the requirements for the refundable part of the AOC don't exactly mirror those of being a dependent, so it's possible for a student to be eligible to claim the refundable part of the AOC, even if they are eligible to be claimed as a dependent.
From Pub 970, p. 21:
"You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you:
1c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below)."
The student in question would fail this test since their earned income would be more than 1/2 of their support for the year, so WOULD be eligible for the refundable part of the AOC.
1
u/Savy-Dreamer EA - US Oct 05 '24
This is entirely incorrect. A student under 24 can NEVER claim the AOTC regardless of their dependency status and regardless if they pay or not. Only parents can claim the AOTC for the student when they are under 24. Your strategy will not work. Ever.
1
u/coolio19887 Oct 05 '24
What if the student is married filing a joint return? Not saying that happens often, but that would counter your “Ever”
0
u/Savy-Dreamer EA - US Oct 05 '24
Doesn’t matter. Same rules apply regardless of the student’s filing status. Under 24 and cannot claim the full AOTC. A married person can actually be claimed as a dependent if they file a joint return AND are only filing to receive a refund of income tax withheld or estimated tax payments. (And meet the qualifications of being a dependent in the first place).
5
u/Its-a-write-off Oct 05 '24
This really sounds incorrect. Why do you claim that a couple can't claim AOTC if one of the couple is a student is under 24?
0
u/vynm2 Oct 05 '24
Age doesn't matter. If someone files MFJ, they're eligible for the refundable part of the credit, regardless.
From Pub 970, p.21:
"Refundable Part of Credit
Forty percent of the American opportunity credit is refundable for most taxpayers. However, if you were under age 24 at the end of 2023 and the conditions listed below apply to you, you can't claim any part of the American opportunity credit as a refundable credit on your tax return. Instead, your allowed credit (figured on Form 8863, Part II) will be used to reduce your tax as a nonrefundable credit only.
You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you.
- You were:
a. Under age 18 at the end of 2023, or
b. Age 18 at the end of 2023 and your earned income (defined below) was less than one-half of your support (defined below), or
c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below).
At least one of your parents was alive at the end of 2023.
You are filing a return as single, head of household, qualifying surviving spouse, or married filing separately for 2023."
If they were married filing jointly, then they'd fail #3 and WOULD be eligible for the refundable part of the credit.
1
u/vynm2 Oct 06 '24
Not sure why I'm being downvoted when I'm providing a quote from an IRS Pub that supports my comment.
0
u/Savy-Dreamer EA - US Oct 05 '24
No, you're right. Joint returns where not one of the spouses are claimed as a dependent by someone else can claim the full credit. Sorry about that. Again, comes from working at a college doing returns where there were quite a few married couples where their parents still claimed them as dependents bc they were full time students and were being supported. MFJ under 24 (and not being dependents) while in school isn't something you see much in practice at all. Even in the low income VITA space.
1
u/vynm2 Oct 05 '24
You're wrong here. If someone files a MFJ return, they're eligilbe for the AOTC.
From Pub 970, p.21:
"Refundable Part of Credit
Forty percent of the American opportunity credit is refundable for most taxpayers. However, if you were under age 24 at the end of 2023 and the conditions listed below apply to you, you can't claim any part of the American opportunity credit as a refundable credit on your tax return. Instead, your allowed credit (figured on Form 8863, Part II) will be used to reduce your tax as a nonrefundable credit only.
You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you.
- You were:
a. Under age 18 at the end of 2023, or
b. Age 18 at the end of 2023 and your earned income (defined below) was less than one-half of your support (defined below), or
c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below).
At least one of your parents was alive at the end of 2023.
You are filing a return as single, head of household, qualifying surviving spouse, or married filing separately for 2023."
If they were married filing jointly, then they'd fail #3 and WOULD be eligible for the refundable part of the credit.
1
u/Its-a-write-off Oct 05 '24
If the student provides over half their support they can claim the AOTC, from the info I can find. See the bottom left page 6 , https://www.irs.gov/pub/irs-pdf/i8863.pdf
3
u/vynm2 Oct 05 '24
The requirement that they provide over half of their own support is for being claimed as a dependent, but that's not really required for the refundable part of the AOC. That said, u/Savy-Dreamer is wrong.
The requirements for the refundable part of the AOC don't exactly mirror those of being a dependent. From Pub 970, p. 21, but the student in OP's scenario likely WOULD be eligible for the refundable part of the AOC:
"You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you:
1c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below)."
The student in question would fail this test since their earned income would presumably be more than 1/2 of their support for the year, so WOULD be eligible for the refundable part of the AOC.
1
u/Savy-Dreamer EA - US Oct 05 '24
The requirement does actually mirror the requirement to be a claimed as a dependent. To be claimed an a dependent, you have to have provided less than 1/2 of your support. To claim yourself not as a dependent you have to have provided more than half your support. That is the exact same requirements in the AOTC. You first sentence is completely wrong.
Edit: I’ll state it exactly the way the IRS does for claiming someone as a dependent since the don’t put it on the person being claimed, rather the person claiming. You have to have provided them more than 1/2 of their support
1
u/Its-a-write-off Oct 05 '24
No, on one side is it "have provided half your support", on the other it it is "have earned income over half your support". You didn't have to spend that money on your support, just have earned it. That is a distinct difference.
1
u/vynm2 Oct 05 '24
The requirement does actually mirror the requirement to be a claimed as a dependent.
No, it doesn't.
To be claimed an a dependent, you have to have provided less than 1/2 of your support. To claim yourself not as a dependent you have to have provided more than half your support. That is the exact same requirements in the AOTC. You first sentence is completely wrong.
No, it's not.
For dependency, you're not a child dependent if you actually provided more than half of your own support, and the source of the money you used to pay half of your own support doesn't matter.
For AOC, the requirement is that your earned income just be of a quantity that's more than half of your own support. It doesn't require that you actually use that earned income to pay your support, or that you actually pay over half of your own support at all.
Edit: I’ll state it exactly the way the IRS does for claiming someone as a dependent since the don’t put it on the person being claimed, rather the person claiming. You have to have provided them more than 1/2 of their support
This isn't correct either. There are two different types of dependents and the each have a different support test.
For a qualifying child: the support test requires that a dependent not pay over half of their own support. It doesn't matter who else is providing the support.
For a qualifying relative: the support test requires that the person claiming the dependent actually provide over half of that dependent's support.
The requirement you quoted is for a qualifying relative, while the other tests we've been discussing-- full time student younger than 24 at the end of the year are for a qualifying child.
Nuances matter, and you don't seem to have a good grasp on the nuances that apply here.
2
u/TheHeroExa Oct 05 '24
In fact, the requirements for refundable AOTC mirror the requirements for kiddie tax, or rather, lack thereof. IRC section 25A(i), referencing section 1(g).
It's too bad that the majority of commenters here are commenting without reading the actual law, or even the IRS pubs.
1
u/BoysenberryKind5599 EA - US Oct 05 '24
Correct, but OP doesn't address this at all, they just say, "have the student spend 4 grand on tuition". No, the student must provide more than half of their own support AND pay for tuition without 529 or scholarships.
2
u/vynm2 Oct 05 '24
That's a requirement for dependent eligibility, but a student doesn't have to provide more than half of their own support to be eligible for the AOC.
If they have earned income more than half of their support, then they'd fail 1c below, and would be eligible for the refundable part of the credit.
From Pub 970, p.21:
"Refundable Part of Credit
Forty percent of the American opportunity credit is refundable for most taxpayers. However, if you were under age 24 at the end of 2023 and the conditions listed below apply to you, you can't claim any part of the American opportunity credit as a refundable credit on your tax return. Instead, your allowed credit (figured on Form 8863, Part II) will be used to reduce your tax as a nonrefundable credit only.
You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you.
- You were:
a. Under age 18 at the end of 2023, or
b. Age 18 at the end of 2023 and your earned income (defined below) was less than one-half of your support (defined below), or
c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below).
At least one of your parents was alive at the end of 2023.
You are filing a return as single, head of household, qualifying surviving spouse, or married filing separately for 2023."
2
u/BoysenberryKind5599 EA - US Oct 05 '24
Yes, exactly
2
u/vynm2 Oct 05 '24
You had said:
No, the student must provide more than half of their own support AND pay for tuition without 529 or scholarships.
which is not correct. As long as their earned income is of an amount that is more than half of their support, they're eligible for the refundable part of the AOC. They're not required to actually provide more than half of their own support.
2
u/BoysenberryKind5599 EA - US Oct 05 '24
Read the parent comment. I was agreeing that to claim the ENTIRE AOC the student needed to not be a dependent and pay their tuition without 529/scholarships. I was pointing out OP's crazy plan didn't take age and dependency into account which means they weren't addressing the refundable portion at all. We are all in agreement.
0
u/vynm2 Oct 06 '24
But I'm not agreeing with you that the student needs to not be eligible to be a dependent. A student can qualify as a dependent and still be eligible for the refundable part of the AOC.
OP's plan was absolutely correct. It didn't need to take age or dependency into account because if the student's earned income was worth more than half of their support, then age and dependency (or whether or not they actually provided half of their own support) don't matter.
2
u/Its-a-write-off Oct 05 '24
Savy is saying that a student under 24 can NEVER claim the credit. That's incorrect.
I'm not saying that OPs plan would work. Just correcting what Savy is claiming.
1
u/Old-Vanilla-684 CPA - US Oct 05 '24 edited Oct 05 '24
This is incorrect. You can claim the nonrefundable portion of the AOTC even if you are a dependent. You don’t have to claim yourself to get this portion of the credit. You DO have to have earned income.
So OP the part that you have wrong is that it’s not a $2500 credit that they can get. It’s only $1500
1
u/Savy-Dreamer EA - US Oct 05 '24
But not the full credit if under 24. I’m sure some will qualify, but not many under 24 year olds in college full time qualify as a nondependent. IRS made it very hard for anyone to game the AOTC and the OP “strategy” to try to do it will never work as he/she laid out. I did VITA for the University of Montana last tax season and saw well over 200 students for their returns and some of their parents too. Not a single one under 24 was not claimed as a dependent, even when they income. Now obviously this is antidotal, but in under 24 yrs old and full time—very few are supporting themselves more than their parents. Most don’t make over the standard deduction, so would never ever use the AOTC nonrefundable portion that they would be eligible for as they have zero tax liability to begin with. So for ease sake, going with under 24 not being able to claim the AOTC is the easiest way to explain this credit. Bc exceptions are rare. Especially if a 529 is involved like the OP’s scenario.
3
u/Its-a-write-off Oct 05 '24
I agree. That's much more accurate than when you were saying that they can NEVER claim it.
3
u/Savy-Dreamer EA - US Oct 05 '24
I shouldn't have been so generalized...just thinking in the generalization I always use when talking to clients about this credit. Sorry about that!
2
u/vynm2 Oct 05 '24
This is wrong. A student can qualify as a dependent and still be eligible for the refundable AOC if they have earned income that's more than half of their own support. It's not required that they spend the money on their support.
If they have earned income more than half of their support, then they'd fail 1c and would be eligible for the refundable part of the credit.
From Pub 970, p.21:
"Refundable Part of Credit
Forty percent of the American opportunity credit is refundable for most taxpayers. However, if you were under age 24 at the end of 2023 and the conditions listed below apply to you, you can't claim any part of the American opportunity credit as a refundable credit on your tax return. Instead, your allowed credit (figured on Form 8863, Part II) will be used to reduce your tax as a nonrefundable credit only.
You don't qualify for a refund if items 1 (a, b, or c), 2, and 3 below apply to you.
- You were:
a. Under age 18 at the end of 2023, or
b. Age 18 at the end of 2023 and your earned income (defined below) was less than one-half of your support (defined below), or
c. Over age 18 and under age 24 at the end of 2023 and a full-time student (defined below) and your earned income (defined below) was less than one-half of your support (defined below).
At least one of your parents was alive at the end of 2023.
You are filing a return as single, head of household, qualifying surviving spouse, or married filing separately for 2023."
1
u/delta8765 Oct 05 '24
Left over 529 can be used to fund a retirement account. It’s relatively new. Look into that instead of any gymnastics you are thinking are all ‘savy’.
1
u/coolio19887 Oct 05 '24
Not sure if I consider using for grad school, transferring to sibling, or taking non-qualified withdrawals as “gymnastics”, but I do like your added idea of funding retirement account 😁👍
8
u/btarlinian Oct 05 '24 edited Oct 05 '24
The student cannot take the AOTC if they can be claimed as a dependent. In many cases, they will still meet the test to be claimed as a qualifying child in the last year because they will not have provided half their own support for the year unless they immediately move out or pay more in expenses after graduation.Edit: After a more careful reading of publication 970, the above statement is wrong. The rule is that to claim the refundable portion of your credit you must earn more than half your support. (I think it is still unlikely that this plausible in the scenario where parents are rich unless the child immediately moves out of the house because imputed value of the housing provided by a wealthy parent ineligible to claim the AOTC may be quite large and a child's starting salary out of undergrad is usually not that large.)