529 Plan and LLC coordination for graduate student (dependent)

[MojoMom777]

Hi, 

I may have messed up as filed my taxes a few days ago.

Student is dependent (age 23 during 2023), in graduate school.

1099-Q was sent to student - distribution of 66,632. All for QEE. No Scholarships.

In TT, on my taxes, I DID enter the 1099-Q although I'm seeing I shouldn't have, I guess. Also entered the 1098-T.

Expenses were as follows:

Tuition and fees: 66,632

Supplies and equipment: 1415

Room and Board: 17,519

Total: 85,566

Turbo Tax gave me /offered me the LLC credit of 2000.

Now we're having a problem with my daughter's tax return. It wants to consider the earnings portion of the 529 Distribution as taxable to her (34,879)

I'm definitely confused how this is supposed to work and how I can fix/correct it.

Do I have enough QEE to get both the LLC and not have anything be taxable to her?

Her 'free tax return' software (not TT) asked very few questions - just asked if we claimed an education credit, and then just made the entire earnings amount taxable to her.

Thank you for any help.

@Hal_Al 

[MojoMom777]

Update: the free tax software asks the following:

Is anyone claiming an education credit using the expenses paid with your 529 program distributions?

So perhaps the answer is: she says 'no'?

Because I think we only need $10,000 in QEE to claim the LLC (?)

So if I subtract 10k from the tuition amount of 66632, I get 56,632.

That means I can still use that 56,632 PLUS the supplies/room and board (1415+17519) = 74,292 as eligible expenses against the 529 distribution (of 66,632) that ARE NOT part of the 10k used for the LLC. 

Is there any chance this is the correct way to think about this? 

And what did I do wrong in TT - was I not supposed to enter the 1099-Q? Does this need to be fixed since I already filed? Thanks again.

[Hal_Al · Accepted solution]

Q. Do I have enough QEE to get both the LLC and not have anything be taxable to her?

A. Yes. Room and board are qualified expenses for the 529 distribution.  $85,556 - 10,000 (for the LLC) = $75,556 which is more than the $66,632 distribution.

Q. TT wants to consider the earnings portion of the 529 Distribution as taxable to her (34,879).  How I can fix/correct it?

A. Delete the 1099-Q and 1098-T, from her tax return, and don't give TT a chance to make a mistake. They are not needed on her return*. The 1098-T is used on your return. 

Q. In TT, on my taxes, I DID enter the 1099-Q?

A. That's OK as long as TT didn't calculate any of it as taxable (nothing would go on the IRS forms). Check line 8z of Schedule 1 (any calculated taxable amount would go there)

*You can just not report the 1099-Q, at all, if your student-beneficiary has sufficient educational expenses, including room & board (even if he lives at home) to cover the 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. But, it will prepare a 1099-Q worksheet for your records. You would still have to do the math to see if there were enough expenses left over for you to claim the tuition credit (we have done that). 

References:

1. 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." 
2. IRS Pub 970 states: “Generally, distributions are tax free if they aren't more than the beneficiary's AQEE for the year. Don't report tax-free distributions (including qualifying rollovers) on your tax return”.

[MojoMom777]

This is perfect, thank you SO much for your response! I did check line 8z of schedule 1, and there is nothing entered. 

Thank you!