Does the American Opportunity Tax Credit Phase Out Based on Income?

The American Opportunity Tax Credit (AOTC) helps offset higher education costs by providing eligible taxpayers with a credit for qualified expenses. This credit can reduce their tax bill or even result in a refund. However, eligibility depends on income, and not everyone qualifies for the full amount.

Income Threshold

A taxpayer’s modified adjusted gross income (MAGI) determines AOTC eligibility. The credit begins to phase out at $80,000 for single filers and $160,000 for married couples filing jointly. It is entirely unavailable once income reaches $90,000 for individuals or $180,000 for joint filers.

MAGI is calculated by adding certain deductions, such as foreign earned income exclusions and tax-exempt interest, back to adjusted gross income (AGI). Even if a taxpayer’s AGI appears to qualify, additional income sources could push them above the threshold. Understanding how MAGI is determined can help taxpayers plan if they are near the phase-out range.

The Formula for Reduction

Once income exceeds the phase-out threshold, the AOTC gradually decreases instead of disappearing immediately. The reduction is proportional to how far the taxpayer’s MAGI extends into the phase-out range.

To determine the reduced credit, subtract the phase-out starting point from the taxpayer’s MAGI, divide by the total phase-out range, and multiply by the full credit amount. For example, a single filer with a MAGI of $85,000 is halfway through the $10,000 phase-out range, reducing their credit by 50%.

Since up to 40% of the AOTC is refundable, the phase-out affects whether a taxpayer receives a refund or simply reduces their tax liability. As income increases within the phase-out range, both the total credit and the refundable portion shrink.

Qualified Expenses

To claim the AOTC, taxpayers must incur education expenses directly related to higher education. The IRS specifies which costs qualify to ensure only essential academic expenses are covered.

Course Enrollment

Tuition payments to an accredited postsecondary institution participating in federal student aid programs are eligible. The credit applies only to the first four years of postsecondary education, excluding graduate-level coursework.

The student must be enrolled at least half-time for one academic period during the tax year. Tuition payments must be made for an academic period beginning in the same tax year or within the first three months of the following year. For example, if tuition for a spring semester beginning in January 2025 is paid in December 2024, it can be claimed on a 2024 tax return.

Required Fees

Mandatory fees required for enrollment, such as registration, lab, and technology fees, qualify for the AOTC. However, optional expenses like room and board, transportation, and insurance do not. Student organization dues and athletic facility memberships are also excluded unless explicitly required for a degree program.

Taxpayers should retain detailed billing statements that separate qualified fees from non-eligible charges. If a school bundles tuition and fees together, requesting an itemized breakdown may be necessary.

Materials

Books, supplies, and equipment qualify if they are required for enrollment or attendance. Unlike the Lifetime Learning Credit, which only allows course materials purchased directly from the institution, the AOTC permits students to claim expenses regardless of where they are bought.

The materials must be explicitly required by the course syllabus or institution. Recommended but non-mandatory books do not qualify, nor do general supplies like notebooks and backpacks unless specifically required.

Taxpayers should keep receipts and course syllabi as documentation in case of an IRS audit. If uncertain about a particular expense, they can check with the school or review IRS Publication 970 for guidance.

Interaction With Other Education Credits

Taxpayers cannot claim multiple education credits for the same expenses in one tax year. The Lifetime Learning Credit (LLC), which covers graduate education and non-degree courses, is non-refundable and provides a lower maximum benefit. The AOTC is generally more advantageous for undergraduates, while the LLC may be better for continuing education or professional certifications.

Education credits also interact with tax-free educational assistance, such as scholarships, employer tuition reimbursements, and Coverdell ESA distributions. Expenses covered by these funds cannot be used for the AOTC. For example, if a student receives a $5,000 scholarship covering tuition, they cannot apply the same $5,000 toward the AOTC but may still claim the credit for other qualifying expenses like books or lab fees.