Question:
I already sent in my 1040 and state (NJ) tax forms for last year. I now realize that I am confused about what I could legitimately deduct as student loan interest this year. I am eligible for up to $2500 adjustment to income for student loan interest. The loans were initially taken out in 1994-96 and I first started paying back the loans in late 2001 (I deducted the small amount of interest paid in 2001 on my 2001 1040 with no confusion).

This year, however, I deducted the total amount of interest I actually paid for the loans (e.g., $1638, indicated on the 1098-E as interest payments applied previously), but later I realized that for the first time my 2002 1098-E showed a higher number under: Box 1. Student Loan interest Received by Lender (about $2700). This number includes loan origination fees and/or capitalized interest (Box 2 is checked). According to Publ. 970 2002 (p. 19), loan origination fees and/or capitalized interest can be deducted as student loan interest. I am confused because I'm not sure I "should" deduct these (the loan fees were paid 7-9 years ago! and I haven't paid the capitalized interest yet). Also, and perhaps more important, the numbers don't add up: Interest actually paid in 2002: $ 1638 Capitalized interest:

$ 324 Loan origination fees:

$ 1206 Total:


$ 3168 I guess it doesn't matter so much that the numbers don't add up because whether it's $2700 or $3168, I can still only deduct $2500 max., but the disparity makes me wonder what is included in Box 1 that is in excess of the $1638 interest actually paid, and whether it does in fact include fees and capitalized interest that would be eligible for deduction. Any clues as to whether I could have deducted $2500 rather than $1638? If so, how would I amend this? Must I deduct the fees/cap. interest in 2002 or could I apply it to 2003 deduction? Is it worth it (would only save me about $130 since I'm in the 15% bracket)?

Answer:
Welcome to the wild wacky world of student loans. By the way, my biggest gripe about the whole loan process is the way they hide that 1.5% loan origination fee. To answer your questions as quickly and easily as possible, I suspect the loan origination fee is amortized over the repayment period and the capitalized interest is paid off as principle as the same as any other principal according to the amortization schedule. Probably not a perfect answer, but as good as possible without getting technical. To answer your questions as quickly and easily as possible, I suspect the loan origination fee is amortized over the repayment period and the capitalized interest is paid off as principle as the same as any other principal according to the amortization schedule. Probably not a perfect answer, but as good as possible without getting technical. Thank you for your response - unfortunately it WAS technical to me! I'm still not sure - did I do it correctly or not?? I gather from your response though, that it seemed correct for me only to deduct the actual student loan interest I paid in 2002 and not to include the loan origination fees or capitalized interest? Actually, as you say, I figured I'll pay back the capitalized interest as principle, so I didn't include it. However, I don't understand what amortization is, and I'm not sure I get what to do with the loan origination fees. They are wacky. It does seem like one should be able to deduct those - after all, I've already paid them, right?! And yet I have to pay them back still as part of the loan, too? Anyway, I asked this question originally because Pub. 970 says that in 2002 one can include fees/cap. interest in the student loan deduction, possibly for the first time but it seems weird .. so I didn't.