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Example 3—Scholarship partially included in in- come. The facts are the same as in Example 2—Scholar- ship excluded from income. If, unlike Example 2, Bill in- cludes $4,000 of the scholarship in income, he will be deemed to have applied that amount to pay for room and board. The remaining $1,600 of the $5,600 scholarship would reduce his qualified education expenses, and his adjusted qualified education expenses would be $4,000. Bill's AGI and MAGI would increase to $39,050, his taxa- ble income would increase to $26,500, and his tax liability before credits would increase to $2,984. Based on his ad- justed qualified education expenses of $4,000, Bill would be able to claim an American opportunity credit of $2,500 and his tax liability after credits would be $484 ($2,984 − $2,500). Example 4—Scholarship applied by the postse- condary school to tuition. The facts are the same as in Example 3—Scholarship partially included in income, ex- cept the $5,600 scholarship is paid directly to the local college. The fact that the local college applies the scholar- ship to Bill's tuition and related fees doesn't prevent Bill from including $4,000 of the scholarship in income. As in Example 3, by doing so, he will be deemed to have ap- plied $4,000 to pay for room and board. Bill would be able to claim the American opportunity credit of $2,500 and his tax liability after credits would be $484. Example 5—Student with a dependent child. Jane Doe, age 28 and unmarried, enrolled full-time as a first-year student at a local technical college to get a certif- icate as a computer technician. This was her first year of postsecondary education. During 2021, she paid $6,000 for qualified education expenses. She and the college meet all the requirements for the American opportunity credit. Jane has a dependent child, age 10, who is a quali- fying child for purposes of receiving the earned income credit (EIC) and the child tax credit. Jane didn't receive any advance child tax credit payments for 2021. Jane's wages are $20,000. Jane withheld no income taxes on these wages and has no other income or adjustments. Jane was awarded a $5,500 scholarship. Under the terms of her scholarship, it may be used to pay tuition and any living expense, including rent. Jane paid $10,000 in living expenses in 2021. If Jane excludes the entire scholarship from income, she will be deemed to have applied the entire scholarship to pay qualified education expenses. Her AGI and MAGI would be $20,000. Her tax liability before any credits would be $121. Her qualified education expenses would be reduced to $500. She would be able to receive a $321 American opportunity credit ($200 refundable and $121 nonrefundable), a $3,000 refundable child tax credit, and a $3,537 EIC. In total, she would be able to receive a tax refund of $6,737. If Jane includes the entire scholarship in income, she will be deemed to have applied the entire scholarship to pay living expenses. Her qualified education expenses would be $6,000, and her AGI and MAGI would be $25,500. Her tax liability before any credits would be $673. She would be able to receive a $1,673 American opportunity credit ($1,000 refundable and $673 nonrefundable), a $3,000 refundable child tax credit, and a $2,658 EIC. In total, she would be able to receive a tax refund of $6,658. If Jane includes $3,500 of the scholarship in income, she will be deemed to have applied $3,500 of the scholar- ship to pay living expenses, and $2,000 to pay qualified education expenses. Her qualified education expenses would be $4,000, and her AGI and MAGI would be $23,500. Her tax liability before any credits would be $473. She would be able to receive a $1,473 American opportunity credit ($1,000 refundable and $473 nonre- fundable), a $3,000 refundable child tax credit, and a $2,978 EIC. In total, she would be able to receive a tax re- fund of $6,978. If Jane includes $1,500 of the scholarship in income, she will be deemed to have applied $1,500 of the scholar- ship to pay living expenses, and $4,000 to pay qualified education expenses. Her qualified education expenses would be $2,000, and her AGI and MAGI would be $21,500. Her tax liability before any credits would be $271. She would be able to receive a $1,071 American opportunity credit ($800 refundable and $271 nonrefunda- ble), a $3,000 refundable child tax credit, and a $3,297 EIC. In total, she would be able to receive a tax refund of $7,097. This is the highest tax refund among these sce- narios. Note. Whether you will benefit from applying a schol- arship or fellowship grant to nonqualified expenses will depend on the amount of the student's qualified education expenses, the amount of the scholarship or fellowship grant, and whether the scholarship or fellowship grant may (by its terms) be used for nonqualified expenses. Any benefit will also depend on the student’s federal and state marginal tax rates as well as any federal and state tax credits the student claims. Before deciding, look at the to- tal amount of your federal and state tax refunds or taxes owed and, if the student is your dependent, the student’s tax refunds or taxes owed. For example, if you are the stu- dent and you also claim the EIC, choosing to apply a scholarship or fellowship grant to nonqualified expenses by including the amount in your income may benefit you if the increase to your American opportunity credit is more than the decrease to your EIC. Expenses That Don't Qualify Qualified education expenses don't include amounts paid for: • Insurance; • Medical expenses (including student health fees); • Room and board; • Transportation; or • Similar personal, living, or family expenses. This is true even if the amount must be paid to the institu- tion as a condition of enrollment or attendance. Sports, games, hobbies, and noncredit courses. Qualified education expenses generally don't include Chapter 2 American Opportunity Credit Page 17