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Defining "Education-Related Expenses"

This page is based on an article previously published by the Council on Law in Higher Education: Mark Kantrowitz, Defining "Education-Related Expenses", Emerging Issues in Financial Aid, CLHE, Volume 1, Number 3, March 24, 2007. It has been updated to reflect subsequent statutory and regulatory changes.

Introduction

The Higher Education Act of 1965, Internal Revenue Code of 1986 and veterans education benefit programs use multiple overlapping definitions of "education-related expenses". The applicable definition depends on the individual program. This report summarizes the dozen different definitions, highlighting the differences and creating a one-stop resource for college officials that need to understand how the concept of education-related expenses differs in all the programs. The report also discusses some of the reasons why the differences exist.

Significance of "Education-Related Expenses"

The definitions of education-related expenses are used in two different ways, as either a limitation or a license.

In the Higher Education Act of 1965, education-related expenses are used as a cap on the amount of student financial aid. Section 471 of the Higher Education Act defines financial need as the difference between education-related expenses (the cost of attendance) and the sum of the expected family contribution and estimated financial assistance. Estimated financial assistance is defined by Sections 480(j) and 428(a)(2)(C) of the Higher Education Act as the resources a college is aware of or can anticipate at the time the student aid award is made. Overaward regulations in 34 CFR 673.5 (derived from Section 443(b)(4) of the Higher Education Act) require colleges to reduce the aid package whenever the total additional financial aid and other resources exceeds financial need by more than $300.

Fundamentally, this yields the equation

Financial Need = 
    Cost of Attendance (COA) 
    – Expected Family Contribution (EFC)
and limits financial aid to be within a tolerance of financial need. In effect, all federal student aid programs are capped at the difference between education-related expenses and other aid received. (Most federal student aid programs have additional annual or aggregate limits. But some, like the PLUS loan, are simply capped at COA minus aid.)

In the tax code, educational assistance is based on tax deductions and tax credits that are 'licensed' by education-related expenses. The general principle is that income that is used for certain purposes should not be subject to taxation. This means that each education-related expense enables the taxpayer to take a given deduction or credit. It also means that the taxpayer cannot "double-dip"; each education-related expense permits the taxpayer to take only one deduction or credit, and coordination restrictions prevent the same expenses from being used to enable more than one deduction or credit. In effect, the definition of education-related expenses acts as a cap on the education tax benefits the taxpayer can receive.

Unlike the federal student aid programs in the Higher Education Act, the education tax benefits do not have an overaward tolerance. The education tax benefits cannot exceed the education-related expenses. However, each education tax benefit has a different definition of education-related expenses. Where they differ, one education tax benefit can be used to pay for education-related expenses that are not covered by the other education tax benefits. For example, distributions from Coverdell Education Savings Accounts may be used for qualified elementary and secondary education expenses, in addition to qualified higher education expenses, while the Hope and Lifetime Learning Tax Credits are only available for qualified higher education expenses.

Unnecessary Complexity

There are more than a dozen different definitions of education-related expenses. Because the definitions appear in multiple locations, this increases the chances of Congress overlooking one definition when making changes that are intended to be universal. The definitions are not coordinated, leading to subtle differences among the definitions. This places an unnecessary burden on financial aid administrators. It also confuses families by making it difficult for them to identify an optimal strategy for using the various education benefits.

Some of the differences are due to the nature of the benefit program. For example, benefits included in the tax code often have additional restrictions to prevent common types of tax fraud and abuse. These include travel-related education expense and education related to sports, games and hobbies. But even the Internal Revenue Code is not consistent in the application of these restrictions. This is perhaps reflective of a lack of a comprehensive strategy and policy for the treatment of education-related expenses.

Higher Education Act of 1965 (HEA)

HEA Section 472 defines "cost of attendance", also known as the student budget. The cost of attendance figure forms the basis of the financial need calculation that drives eligibility for all Title IV federal student aid programs. Its key components include:

  • Tuition and Fees. This includes the cost of required equipment, supplies and materials.
  • Books and Supplies.
  • Transportation.
  • Dependent Care Expenses.
  • Disability-related Expenses. This includes services, personal assistance, transportation, equipment and supplies related to the disability.
  • Loan Fees, including origination and guarantee fees.
  • Cost of First Professional Credentials. (licensing/certification fees)

The cost of attendance for incarcerated students is limited to just tuition, fees, books and supplies.

The cost of attendance for correspondence study (but not study by telecommunications) is limited to tuition, fees, books and supplies. Travel and room and board may be included when incurred to fulfill a required period of residential training.

For students who are enrolled at least half-time, cost of attendance also includes the following:

  • Miscellaneous Personal Expenses.
  • Personal Computer.
  • Room and Board.

For students who are enrolled less than half-time, cost of attendance also includes the following:

  • Room and Board. 3-semester limit, no more than 2 semesters consecutive.

Cost of attendance may also include costs associated with study abroad when approved for credit by the student's home institution, and costs associated with employment for students who participate in cooperative education programs.

HEA Section 485(a)(1)(E) requires colleges to provide students with information concerning "the cost of attending the institution, including (i) tuition and fees, (ii) books and supplies, (iii) estimates of typical student room and board costs or typical commuting costs, and (iv) any additional cost of the program in which the student is enrolled or expresses a specific interest". HEA Section 484(a)(4)(A) requires students to sign a statement of educational purpose that states that student aid will be used solely for "expenses related to attendance or continued attendance" at the institution. HEA Section 456(j)(1) requires loan disbursements to be applied first to tuition and fees and second to room and board (for institutionally-owned housing) before any remaining proceeds are disbursed to the borrower.

Internal Revenue Code of 1986 (IRC)

Several education tax benefits are defined by the IRC. Usually these specify deductions or tax credits that are licensed by expenditures for "qualified higher education expenses", "qualified tuition and related expenses", "qualified education expenses" or "qualified transfer". These terms are defined in the respective sections of the IRC and so are limited in scope to the related program. This leads to a multiplicity of definitions, instead of referencing a single central definition. Typically there are coordination restrictions that preclude expenses from being used to justify more than one tax benefit. However, since each section of the law defines its coordination restrictions separately, there is the potential for future omissions when sections of the code are amended selectively.

The following are the definitions that apply to each program.

  • Hope and Lifetime Learning Tax Credits. IRC Section 25A(f)(1). Defines "qualified tuition and related expenses" as tuition and fees required for enrollment or attendance at a Title IV institution, with exclusions for
    • education involving sports, games or hobbies unless part of the student's degree program
    • nonacademic fees, athletic fees, insurance expenses, or other expenses unrelated to the student's academic course of instruction
    For the Hope Scholarship, the student must be enrolled at least half-time. For the Lifetime Learning Tax Credit, the expenses must be "to acquire or improve job skills".

    The American Recovery and Reinvestment Act of 2009 temporarily expanded the definition of qualified tuition and related expenses (but only for the Hope Scholarship tax credit and only for 2009 and 2010) to include course materials, such as textbooks, in addition to tuition and required fees.

  • College Savings Plans and Prepaid Tuition Plans. IRC Section 529(e)(3). Defined "qualified higher education expenses" as tuition, fees, books, supplies, and equipment required for enrollment or attendance at a Title IV institution, as well as expenses for special needs services. In addition, room and board are included for students who are enrolled at least half-time. Room and board amounts are capped at the allowance specified in the definition of cost of attendance in HEA Section 472 or the actual invoice amount for institutional housing, whichever is greater.

    The American Recovery and Reinvestment Act of 2009 temporarily expanded the definition of qualified tuition and related expenses (but only for section 529 college savings plans and only for 2009 and 2010) to include computer equipment, allowing families to purchase computer equipment, software and internet even if not required by the school. Non-educational software for sports, games or hobbies is excluded.

  • Coverdell Education Savings Accounts. IRC Section 530(b)(2). Defines "qualified education expenses" as
    • Qualified higher education expenses, as defined in IRC Section 529(e)(3), and
    • Qualified elementary and secondary education expenses (K-12), including tuition, fees, academic tutoring, special needs services, books, supplies, equipment, room and board, uniforms, transportation, extended day programs, computer equipment (including software and peripherals), and Internet access. Computer software for games, sports and hobbies is excluded unless educational in nature.

  • Tuition and Fees Deduction. IRC Section 222(d)(1). Defines "qualified tuition and related expenses" by cross-reference to IRC Section 25A(f) for the Hope and Lifetime Learning Tax Credits. Unlike the Hope Scholarship, there is no requirement that the student be enrolled at least half-time. Unlike the Lifetime Learning Tax Credit, there is no requirement that the expenses be related to job skills.

  • Education Loan Interest Deduction. IRC Section 221(d)(2). Defines "qualified higher education expenses" by cross-reference to the definition of cost of attendance in HEA Section 472, with the addition of internship and residency programs to Title IV institutions. The interest can be deducted on either IRS Form 1040 or IRS Form 1040A (but not IRS Form 1040EZ), so taxpayers who take this deduction are still eligible for the Simplified Needs Test and Automatic Zero EFC.

  • Employer Tuition Assistance. IRC Section 127(c)(1). Defines "educational assistance" in terms of expenses paid by an employer for the education of the employee. It defines educationally-related expenses as including tuition, fees, books, supplies and equipment, but does not limit them except for an exclusion of tools and supplies retained by the employee after completion of the course of instruction, meals, lodging and transportation, and education involving sports, games or hobbies. Amounts above the $5,250 limit are excludable from income under IRC Section 132(j)(8) if the expenses are a working condition fringe benefit (i.e., deductible under IRC Sections 162 or 167).

  • Itemized Deductions. IRC Section 162(a). Educational expenses may be itemized on Schedule A to the extent that the expenses are necessary for carrying on the trade or business. This includes the cost of classes necessary to maintain or improve skills required by the taxpayer's current job. For example, continuing education required for professional certification is included. The job-related educational expenses, however, may not include travel as a form of education per IRC Section 274(m)(2).They may also not include education to train the taxpayer in a new trade or business. Education necessary for achieving the minimum educational credentials required for the job may not be deducted. Job-related educational expenses may be deducted even if the taxpayer is temporarily absent from the employment for one year or less, so long as the taxpayer returns to the same job or the same type of work.

    If a taxpayer's children attend a special elementary or secondary school for physical or mental disabilities, the tuition may be deductible as a medical deduction, subject to a 7.5 percent of AGI limitation. But otherwise elementary and secondary school education-related expenses are not deductible.

    When graduate students move to attend graduate school, they cannot deduct their moving expenses, even though they will be working as a teaching or research assistant in graduate school, because they do not satisfy the full-time employment requirement. See IRC Section 217(c)(2) and the regulations at 26 CFR 1.217-2(f). (When students move from college to their first job, they can deduct those moving expenses, provided that they satisfy the other requirements listed in IRS Publication 521, such as moving more than 50 miles.)

    Itemized educational expenses are subject to the 2 percent of AGI limitation, which means that the amount of the expenses that can be deducted may be reduced by as much as 2 percent of the adjusted gross income.

    When a taxpayer itemizes expenses on Schedule A or Schedule C, he or she is considered as being required to complete IRS Form 1040. This means that the taxpayer is not considered eligible for the Simplified Needs Test and Automatic Zero EFC, and so may affect the taxpayer's eligibility for federal student aid authorized by the Higher Education Act.

  • Scholarships. IRC Section 117(b)(2). Defines "qualified tuition and related expenses" as tuition and fees required for the enrollment or attendance at an educational institution, as well as books, supplies and equipment required for the course of study at the educational institution. The definition of educational institution is based on IRC Section 170(b)(1)(A)(ii), which encompasses most educational institutions, not just Title IV institutions of higher education. If the educational institution has faculty, curriculum, a campus and a student body, it qualifies.

  • Gift Tax Exclusion for Educational Expenses. IRC Section 2503(e). A "qualified transfer" is defined as including any payment of tuition to an educational institution for the benefit of an individual. Educational institution has the same definition as for scholarships, referencing IRC Section 170(b)(1)(A)(ii). This gift tax exclusion is limited to tuition - the language does not make any mention of fees or other related expenses.

  • Savings Bonds. IRC Section 135(c)(2). Defines "qualified higher education expenses" as tuition and fees required for enrollment or attendance at a Title IV institution, with an exclusion for education involving sports, games or hobbies unless part of the student's degree program. Contributions to college savings plans, prepaid tuition plans and Coverdell Education Savings Accounts, however, do count, thereby providing a loophole for working around the restriction to tuition and fees.

  • IRA Distributions for Higher Education Expenses. IRC Section 72(t)(2)(E) and 72(t)(7). Exempts distributions from an IRA from the 10% tax penalty when the distribution is used for "qualified higher education expenses", as defined in IRC Section 529(e)(3).

There are several key variables in these definitions of education-related expenses:

  • Type of Educational Institution: Title IV institution, elementary and secondary institution, internship and residency programs, or any educational institution.
  • Eligible expenses: A subset of tuition and fees, books, supplies, equipment, room and board, special needs expenses, computer equipment or full cost of attendance.
  • Exclusions
    • Sports, games and hobbies
    • Travel, including meals, lodging and transportation.
    • Nonacademic fees
  • Enrollment status: In some cases half-time enrollment is required.
  • Requirement that the education be employment-related.

The IRS uses a very narrow definition of the word 'required', limiting it to just those expenses that are specifically required by the college for enrollment or attendance or explicitly listed as a requirement on a class syllabus. The IRS also generally requires the taxpayer to be able to document the expense. For additional details, see James M and Mary N. Gorski v. Commissioner of Internal Revenue (4338-04S, US Tax Court, August 4, 2005). Although this ruling is not intended to set precedent, it does illustrate the IRS reasoning.

There is additional discussion of education-related expenses in IRS Publication 970, Tax Benefits for Education, in IRS Tax Topic 513, Educational Expenses, in IRS Tax Topic 514, Employee Business Expenses, and in IRS Tax Topic 605, Education Credits. The instructions for IRS Form 2106, Employee Business Expenses, are also relevant.

 
 

Summary Charts

The following two charts summarize the various definitions of education-related expenses.

Program Education-related Expenses
Title IV (Pell Grant, Stafford Loans, PLUS Loans, FWS) Cost of Attendance. Title IV institutions only.
Hope Scholarship Required tuition and academic fees, but not sports, games and hobbies. Course materials such as textbooks included for 2009 and 2010 only. Half-time enrollment required. Title IV institutions only.
Lifetime Learning Tax Credit Required tuition and academic fees, but not sports, games and hobbies. Expenses must be for education related to job skills. Title IV institutions only.
College Savings Plans and Prepaid Tuition Plans Required tuition, fees, books, supplies and equipment. Computer equipment and services included for 2009 and 2010 only even if not required by the school. Also special needs. Title IV institutions only. Room and board for enrollment >= half-time. Room and board capped at cost of attendance allowance or actual invoice amount.
Coverdell Education Savings Accounts Same as College Savings Plans. Also expanded set of expenses for K-12, including the cost of a computer. Note that K-12 expenses do not need to be required for enrollment or attendance, just that they be incurred in connection with enrollment or attendance.
Tuition and Fees Deduction Required tuition and academic fees, but not sports, games and hobbies. Title IV institutions only.
Education Loan Interest Deduction Cost of Attendance. Title IV institutions, with addition of internship/residency programs.
Employer Tuition Assistance Any educationally-related expenses, including tuition, fees, books, supplies and equipment. Exclusion for tools/supplies retained by employee. Exclusion for travel expenses. Exclusion for sports, games and hobbies.
Itemized Deductions Job-related educational expenses. Exclusion for travel.
Scholarships Required tuition and fees, books, supplies and equipment. Any educational institution.
Gift Tax Exclusion Tuition only. Any educational institution. Note fees not included.
Savings Bonds Required tuition and fees. Exclusion for sports, games or hobbies. May transfer to college savings plans, prepaid tuition plans and Coverdell Education Savings Accounts, thereby expanding the set of eligible expenses.
IRA Distributions Same as College Savings Plans.

Program Institution Type Types of Expenses Room & Board Included Special Needs Included Sports, Games, Hobbies Allowed Travel Allowed Must Be Job-Related
Title IV Student Aid Title IV TFBSE
LDP
(MC if >= half time)
Yes, but limited if <= half time Yes Yes Study Abroad, Transportation No
Hope Scholarship Title IV TF (B in 2009 and 2010) if >= half time No No No Yes No
Lifetime Learning Tax Credit Title IV TF No No No Yes Yes
College Savings Plans and Prepaid Tuition Plans Title IV TFBSE (C for 529 plans in 2009 and 2010) Yes if >= half time. Capped. Yes Yes Yes No
Coverdell Education Savings Accounts Title IV or K-12 TFBSE (K-12 adds computer) Yes if >= half time. Capped. Yes Yes Yes No
Tuition and Fees Deduction Title IV TF No No No Yes No
Education Loan Interest Deduction Title IV
Also Internship/ Residency Programs
TFBSE
LDP
(MC if >= half time)
Yes, but limited if >= half time Yes Yes Study Abroad, Transportation No
Employer Tuition Assistance Any TFBSE (any) Yes Yes No No Yes
Itemized Deductions Any TFBSE (any) Yes Yes Yes No Yes
Scholarships Any TFBSE No No No Yes No
Gift Tax Exclusion Any T No No No No No
Savings Bonds Any TF
Coverdell
No No No Yes No
IRA Distributions Title IV TFBSE Yes if >= half time. Capped. Yes Yes Yes No

Key:

T = Tuition; F = Fees; B = Books; S = Supplies; E = Equipment; C = Computer;
P = Professional Credentials; D = Dependent Care; L = Loan Fees;
M = Miscellaneous Personal Expenses
 
     

Veterans Education Benefits

There are several additional definitions of education expenses in Title 10 and Title 38 of the US Code, especially chapters 30, 31, 32, 34, 35 and 76 of Title 38. In depth discussion of these definitions is beyond the scope of this article. Generally, the definitions range from just tuition and fees to also including a subset of expenses relating to books, supplies, equipment, licensing fees, laboratory fees, tutorial assistance and living expenses. In some cases the definition includes all "reasonable educational costs". There are also a variety of esoteric restrictions, such as a restriction against using certain forms of educational assistance for bartending courses, sales management courses, or flight training.

Conclusion

It is unclear why certain expenses qualify as education-related for some programs but not for others. Perhaps this is because the legislation was drafted organically by several different Congressional committees. The multiplicity of definitions makes these student aid programs confusing for families. I strongly recommend that Congress simplify the law by replacing the dozen different definitions with just one or two definitions.

 

 
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