Description
Taxpayers may deduct interest paid on student loans from federal adjusted gross
income. This deduction is not limited to taxpayers who claim itemized
deductions. The maximum deduction is $2,500 per year. The loan proceeds must have been used to
pay for the qualified higher education expenses (tuition and fees required for
enrollment, room and board, books, supplies, and equipment, and other necessary
expenses, including transportation) of a student who was enrolled at least
half-time. A taxpayer may deduct interest paid on loans used for their own
qualified higher education expenses, or for the expenses of a dependent. An
individual who is claimed as a dependent on someone else's return may not claim
the deduction.
Tax benefits
The deduction for student loan interest results in a reduction in both
federal and state income taxes for taxpayers who have regular tax liability. The
amount of the reduction depends on the taxpayer's marginal rate, and if the
taxpayer is eligible for any credits or is subject to the alternative minimum
tax (AMT).
A taxpayer claiming the maximum deduction of $2,500 would, due to income-based
phaseout of the deduction, typically experience the greatest federal and state
tax benefits with income in the 25 percent federal bracket and in the 7.05 percent
state bracket, resulting in tax benefits of $625 at the federal level
and $176 at the state level.
A taxpayer with a $2,500 deduction who has taxable income only in the bottom
federal and state brackets (in tax year 2016, 10 percent and 5.35 percent), is
not eligible for any credits, and is not subject to the AMT, will experience a
tax reduction of $250 at the federal level and $134 at the state level.
Taxpayers with no regular tax liability do not benefit from the deduction.
Interaction with other programs
Taxpayers may claim the American Opportunity credit or the Lifetime Learning credit
for expenses paid for with student loans. In determining if the student loan was
used for qualifying higher education expenses, the taxpayer must subtract from
total qualifying expenses any U.S. savings bond interest deducted under the
Education Savings Bond program, and any withdrawals from a Coverdell ESA
and distributions from a qualified tuition program (QTP) that were used to pay for
higher education expenses and excluded from taxable income.
Eligibility
The student loan interest deduction is subject to an income-based phaseout.
For tax year 2016, the deduction is phased out at the federal and state levels for married taxpayers with modified adjusted gross
income (AGI) between $130,000 and $160,000, and for single filers and heads of
household with modified AGI between $65,000 and $80,000.
The phaseout ranges are adjusted annually for inflation at both the federal and state levels. Taxpayers with
modified adjusted gross income above the phase-out may not deduct student loan
interest. Modified adjusted gross income equals adjusted gross income before the
deduction for student loan interest, plus foreign earned income, housing costs
of individuals living abroad, and income from sources within Puerto Rico and U.S.
territories.
March 2016