The Taxman Cometh

Question

Has anyone been putting together a gameplan from a tax perspective? I normally don't even itemize my taxes, so I am pretty amateur when it comes to tax planning. I usually just bend over and take it from the feds and the incompetent Cal gov't. Not finding much online specifically for full-time b-school, and want to make sure I don't miss out on any opportunities.

Some variables:

1) Income tax deductions/credits for school related expenses (right?)
2) 401K ->  Roth  IRA (involves recording income)
3) Using 401K dollars for school (really don't want to do this but an option)
4) Using Roth IRA principle dollars for school (seems like no penalties and thank god I was lazy and didn't invest it)
5) Getting a sweet refund next year and trying not to go to vegas immediately
6) Income during summer internship (hopefully not wishful thinking)

What am I missing?? (I don't own a residence, but obviously others may have those concerns)

Jerz · Answer

1) You should get deductions for tuition and other required costs of attending school (books, university fees, etc.). Expenses related to housing, food or other living expenses - even if they're included in the student budget - are not deductible. Note that the deduction is for when tuition is actually paid, so you may not be able to take the full academic year's tuition on this year's taxes. The school will send you a tax form (1099-T i believe) that says how much tuition you've paid and that can be deducted. This deduction starts getting phased out at I think $60,000 in income (gotta make "the rich" pay their fair share!), although since you'll only have a partial year of income that shouldn't be a problem.
2) If you roll over a 401(k) directly into an IRA there is no tax impact since you're moving money from one tax deferred account to another. It becomes a traditional IRA though, not Roth.
3) You can't use 401(k) dollars for education (well you can but you get hit with penalties). However, I believe you can withdraw money from an IRA for education without paying penalties (you'd still pay tax on any withdrawals). So make sure you roll over your 401(k) to an IRA if you anticipate using it to pay for school. Also, make sure you check what's considered an "education expense". If you're withdrawing IRA money to pay for housing, it may not qualify and you may still get hit with penalties.
4) For a Roth IRA, since you already paid tax on the contribution, I believe you can withdraw the contribution amount without taking a tax hit. Not really sure on this one though.

A few other points:
- The good news on education related expenses is that they're not considered itemized deductions, so if you don't have enough other expenses to itemize, you can still deduct tuition *and* take your full standard deduction.
- If you're getting a scholarship that pays for more than tuition, or in return for work (i.e. grad. assistant) it may be considered taxable income.

Basically though there's not much tax planning to do. The tax bills will be smaller though for the next few years since we won't be collecting paychecks, and we'd get those tuition deductions.

solaris1 · Answer

Actually, MBA tuition and expenses are typically NOT tax deductible. One has to pass a series of IRS "tests" to establish eligibility for deducting tuition for one's taxes, and those "tests" aren't easy to meet. The only direct tax incentive most of us will receive for being in school is a $2,000 Lifetime Learning Tax Credit.

See IRS Publication 970 for more background.

See IRS Publication 970 for more background.

Jerz · Answer

Actually the tuition deduction has less stringent requirements than either the Hope or Lifetime learning credit, especially with regard to income. The Hope and Lifetime Learning credit is phased out at income between $48,000-$58,000. The tuition deduction is phased out between $65,000-$80,000 of income. The only requirements for the tuition deduction are:

1. You pay qualified educational expenses of higher learning
2. You pay the qualified expenses for a qualified student
3. The qualified student is yourself, your spouse, or your dependent (who you claim an exemption for).

The IRS defines qualified expenses as tuition and certain related expenses required for enrollment or attendance at any college, university, vocational school or other post-secondary school eligible to participate in a student aid program administered by the US Dept. of Education. It includes virtually every public, non-profit and private post-secondary institutions.

The IRS defines qualified student as a student who is enrolled in one or more courses at an eligible institution (defined above).

So a full-time MBA student, paying tuition at an accredited university, would meet the eligibility requirements above. One point to note, is that the deduction is limited to $4,000, and the amount of eligible tuition is reduced by tax-free scholarships you receive. Given the tuition costs at most MBA programs, it shouldn't be too hard to have $4,000 in tuition that comes out of your own pocket.

You can only claim one option out of Hope credit, Lifetime Learning credit or tuition deduction. If you're eligible for more than one, you can claim the one that results in the lowest tax for you.

BTW - none of us will qualify for the Hope credit, since it only covers the first 2 years of post-secondary education. Seeing how we all have bachelor degrees already, we fail that requirement.

solaris1 · Answer

I stand corrected then, $4,000 in tuition and other qualified expenses does appear to be tax-deductible. So my original comment should have read "Actually, MBA tuition and expenses are typically NOT tax deductible." I was mistakenly thinking about deducting MBA tuition on our tax returns as a "work-related educational expense" when I spoke about there being stringent IRS "tests" to meet and everything. I'm sure for a lot of us a $2,000 Lifetime Learning tax credit is still a better deal than not paying taxes on $4,000 of income. Thanks for setting me straight Jerz. +1. :wink:

wedbud · Answer

Don't assume it took everyone here two full years to get their bachelor's degree. There are some pretty bright people in this forum.

dayman · Answer

Thanks guys. Good stuff. So it looks like I will really only get to take a $2000 credit or reduce taxable income by $4000. Bummer.

With regards to the 401k to Roth IRA, my point was that I'd would like to first roll-over my 401k to a traditional IRA and then convert to a Roth IRA. Since in 2010 I will be in the unique situation that my income will be extremely low (only internship wages), it makes sense to convert traditional to roth and pay a low tax rate. The Roth bet is that your retirement tax rate will be higher, so the lower the rate you pay on roth dollars the better the chances are that your bet pays off. I have heard of people doing this when they take a year off to travel or were just out of work.

As a reward to those with the resolve to discuss taxes instead of more exciting b-school banter, I am sharing my new favorite website. Great for killing a few minutes on your bberry or iphone.

textsfromlastnight.com

jb32 · Answer

Funniest thing I've seen in a long time!!!! :lol:

The Taxman Cometh

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