1099-Q - partial amount reported as taxable income

[BBlanka]

I have received 1099-Q for distribution of $30,000 from 529 program (MESP). My daughter paid tuition of $31,944 and received 1098-T for that amount. All $30,000 were spent for qualified educational expense.

However, TurboTax reported additional income on Schedule 1, line 9 for $2,259. The description is: "Taxable income from 1099-Q, qualified tuition program distribution".  Therefore this $2,259 are included in total taxble income.

I don't know how this $2,259 is calculated or why whole $30,000 are not tax-free. What should I do?

[KrisD15]

The program is taking 4,000 for an education credit. 

The credit may be worth more than the tax on the distribution. 

I would also point out that the 1099-Q can be used to pay for Room and Board, which would make the distribution tax-free (NOT the same is true for scholarships) 

You can use Room and Board expenses even if the student lived at home (cannot be more than what the cost would be for on-campus housing)

When you click "Maximize My Tax break", the program decides if you should claim income in order to also claim a credit. 

You can type 

letme

into the search-box and it will link you to where you can see and change your options 

Pub 970 

[Hal_Al]

In addition to  tuition, room and board, books and computers are qualified expenses for a 529 plan distribution.  Bottom line, even if you use $4000 of the tuition to claim the education credit (and you should), there are plenty of expenses available to keep the 529 distribution tax free.

The TurboTax 1099-Q interview is complicated. Since you know it's not taxable, it's best to just not enter it. 

On form 1099-Q, instructions to the recipient reads: "Nontaxable distributions from CESAs and QTPs are not required to be reported on your income tax return. You must determine the taxability of any distribution." 

 When the box 1 amount on form 1099-Q is fully covered by expenses, TurboTax will enter nothing about the 1099-Q on the actual tax forms.  

[Carl]

The reason for the taxable amount of the 529 distribution has already been explained. However, you "may" be able to make it non-taxable. See if the below helps.

1099-Q Funds

 First, scholarships & grants are applied to qualified education expenses. The only qualified expenses for scholarships and grants are tuition, books, and lab fees. that's it. If there is any excess, then it's taxable income. It automatically gets transferred to and included in the total on line 7 of the 1040.

Next, 529/Coverdell funds reported on 1099-Q are applied to qualified education expenses. The qualified expenses for 1099-Q funds are tuition, books, lab fees, AND room & board. That's it. If there are any excess 1099-Q funds they are taxable. The amount is included on line 8z of the SCH 1 which gets transferred to line 8 of the 1040.

Finally, out of pocket money is applied to qualified education expenses

When you have a 1099-Q it is extremely important that you work through the education section of the program in the order it is designed and intended to be used. If you do not, then there is a high probability that you will not be asked for room & board expenses, and you could therefore be TAXED on your excess 1099-Q funds.

Finally, if "all" qualified expenses are covered by scholarships, grants, 1099-Q funds and there is ANY of those funds left over, the left over excess is taxable. While the parent can still claim the student as a dependent, it is the student who will report all the education stuff on the student's tax return. That's because the STUDENT pays the taxes on any excess scholarships, grants and 1099-Q funds.