Tips from the IRS for returning students:

Whether you’re a recent graduate going to college for the first time or a
returning student, it will soon be time to get to campus – and payment deadlines
for tuition and other fees are not far behind. The Internal Revenue Service
reminds students or parents paying such expenses to keep receipts and to be
aware of some tax benefits that can help offset college costs.

Typically, these benefits apply to you, your spouse or a dependent for whom
you claim an exemption on your tax return.

1. American Opportunity Credit  This credit, originally
   created under the American Recovery and Reinvestment Act, has been extended for
   an additional two years – 2011 and 2012. The credit can be up to $2,500 per
   eligible student and is available for the first four years of post secondary
   education. Forty percent of this credit is refundable, which means that you may
   be able to receive up to $1,000, even if you owe no taxes. Qualified expenses
   include tuition and fees, course related books, supplies and equipment. The full
   credit is generally available to eligible taxpayers whose modified adjusted
   gross income is below $80,000 ($160,000 for married couples filing a joint
   return).
2. Lifetime Learning Credit  In 2011, you may be able to claim
   a Lifetime Learning Credit of up to $2,000 for qualified education expenses paid
   for a student enrolled in eligible educational institutions. There is no limit
   on the number of years you can claim the Lifetime Learning Credit for an
   eligible student, but to claim the credit, your modified adjusted gross income
   must be below $60,000 ($120,000 if married filing jointly).
3. Tuition and Fees Deduction  This deduction can reduce the
   amount of your income subject to tax by up to $4,000 for 2011 even if you do not
   itemize your deductions. Generally, you can claim the tuition and fees deduction
   for qualified higher education expenses for an eligible student if your modified
   adjusted gross income is below $80,000 ($160,000 if married filing
   jointly).
4. Student loan interest deduction  Generally, personal
   interest you pay, other than certain mortgage interest, is not deductible.
   However, if your modified adjusted gross income is less than $75,000 ($150,000
   if filing a joint return), you may be able to deduct interest paid on a student
   loan used for higher education during the year. It can reduce the amount of your
   income subject to tax by up to $2,500, even if you don’t itemize deductions.

For each student, you can choose to claim only one of the credits in a single
tax year. However, if you pay college expenses for two or more students in the
same year, you can choose to take credits on a per-student, per-year basis. You
can claim the American Opportunity Credit for your sophomore daughter and the
Lifetime Learning Credit for your senior son.

You cannot claim the tuition and fees deduction for the same student in the
same year that you claim the American Opportunity Credit or the Lifetime
Learning Credit. You must choose to either take the credit or the deduction and
should consider which is more beneficial for you

President Obama and Congress have approved a extension for two years to all the Bush-era tax cuts. This means that the 2011 federal IRS tax rates will be the same as 2010 rates, shown in the table below. However tax bracket ranges and standard deduction levels have increased slightly due to inflation. A rise in tax rates would have cut the after-tax pay by $3,000 for the average tax payer, so the tax rates extension is worth a lot given current economic conditions. However, the extension is only for 2 years and unless the economy really tanks, don’t look for these to be extended again in 2013.

The famous tax gap:

The Tax Gap is the difference between
taxes owed and taxes actually collected. The
IRS estimates the Tax Gap in 2001 was $345
billion. With roughly 71% of this “gap” attributed
to individual non-compliance and errors,
Congress is putting pressure on the IRS to find
ways to bring more individual taxpayers into
compliance and collect over $245 billion in
legally owed taxes, thus, increasing revenues
without raising taxes.

Congress demands answers
In April 2007, U.S. Treasury Secretary
Henry Paulson testified before Congress that
reducing the Tax Gap may not be possible
without “draconian and painful requirements
on all taxpayers.” Senators did not receive this
news well, with Senator Max Baucas expressing
his frustration that the IRS did not have, in
his opinion, a real plan to close the Tax Gap.
Baucas requested the Treasury revise its current
plan to include benchmarks, timetables
and goals by mid-July 2007.

In a July letter to Senator Baucas,
Paulson indicated the Treasury will have
such a plan to present in “the next few
weeks.” Senator Bacucas indicated he was
fine with the delay, saying, “I’d rather the
Treasury Department take the time necessary
to get it right than to provide the
committee with an incomplete plan.”
Responsibility for the gap

The IRS estimates the majority of noncompliant
returns belong to self-employed
individuals who do not report their businesses’
entire income. One IRS official has
estimated that cash-based businesses report
as little as 19% of their actual income. As a
result, the IRS has submitted a strategy to
Congress, focusing on small businesses and
individual taxpayers. Underreporting of business
income cost the Treasury $109 billion
in income tax in 2001. By comparison, IRS
figures show it lost just $14 billion to individuals
inflating their deductions.

IRS offers possible solutions
One interesting suggestion by the IRS is to
require credit card companies to report payments
to any sole proprietor of more than
$600 in a year, similar to the 1099 reporting
rules. Proprietors would be required to provide
their tax identification numbers to the
credit card companies or face the prospect of
being subject to backup withholding.

The IRS has also acknowledged that the
complexity of our tax code is the single biggest
factor affecting taxpayer compliance. One of
their recommendations does include simplifying
the tax code, but enforcement appears to be
the plan of attack in the mean time.

The IRS also has suggested that brokerages
and other third parties boost reporting on
individuals’ investments, and they would like to
make repeat offenders who willfully fail to file
their returns eligible for a felony charge rather
than a misdemeanor.

We have certainly not seen the end of this
debate, and as tax professionals, we should
make our clients aware of potential changes
coming in the near future. l