Claiming AOTC credit with Pell Grant, scholarship and 529 Distribution

[seb2025]

I need some help maximizing the AOTC credit, or reducing my tax liability.  I used a mix of tax-free university scholarship, Pell Grant, 529 distributions, and out-of-pocket tuition payments to pay my daughter’s education expenses in 2024.  Since I have always made the payments, I claim these costs on my return, but this year it’s more complex, and I’m not sure what is the best approach.

The 1098-T, which is in my daughter’s name, shows $9405.50 in Box 1, and $4448 in Box 5.  The $4448 is the combination of a $750 tax-free university scholarship and a $3698 Pell Grant.  The 1099-Q, in my name since I am the account owner, shows $8199.97 in Box 1.  Required books cost $501, room and board cost $5853.47, and I was billed $5357.50 in tuition and fees.  1098-T Box 1 rolls up tuition, fees and the scholarship/grant amount from Box 5.  It also was reduced by a $400 housing deposit refund that I originally paid in 2022.  I disagree with this and believe 1098-T Box 1 should read $9805.50, but I don’t know if this is worth quibbling over.

I intended the 529 distributions to cover 100% of books, room and board, but only $1095.50 of tuition in order to leave $4262 in out-of-pocket tuition expenses to claim the AOTC.  Additionally, I used the scholarship rule to withdraw $750 from the 529 plan, which I understand to be taxable as income but penalty free.

So how and where do I enter all this information to claim the AOTC credit or lower my tax liability?  I found that if I enter the out-of-pocket tuition amount ($4262) in the 1098-T page as what I paid for college, I end up with no AOTC.  I am also not sure how to report the $750 scholarship rule distribution, or if I need to report the 1099-Q.  I’ve also read that the Pell Grant can be reported as earned income in order to reduce tax liability and/or increase the AOTC credit.  Is that true and how is this done?  I should mention the university automatically reduced my tuition bill by the scholarship and grant amount, and that it stipulated the scholarship had to be used for tuition.

Does it make sense to have my daughter claim anything on her return?  She has earned income of about $3150, but no tax was withheld.

I’ve stumped myself on this, and will have to repeat this exercise next year.  Any guidance on how to proceed, and if I need to change my strategy going forward, would be appreciated.

[Hal_Al]

Expenses:

            Tuition $9406

             R&B       5853

             Books      901 (501 +$400 deposit) No computer?

                         16,160

Scholarship     - 4448

AOTC                -4000

Avail for 529     7712  less than $8200 distribution by $488

Have the student report $488 of scholarship as taxable (or you can pay tax on 6% of the amount in box 2 of the 1099-Q ( 488/8200 = 6%). The penalty will not apply because of the scholarship/tuition credit exception. That's messier to enter than having her report the scholarship, which will not get taxed ($488 + 3150 = $3638 which is less than the $14,600 filing threshold).

Q. So how and where do I enter all this information to claim the AOTC credit or lower my tax liability?

A. It can get tricky as you have already discovered. The solution is simple. Enter the 1098-T on your return with $4000 in box 1 and box 5 blank. Do not enter the 1099-Q at all.  See below the line. 

On her return, enter the 1098-T with 0 in box 1 and $488 in box 5.  Technically she does not need to file a tax return (income less than $14,600).  But, you may want to file just to document the reporting of the scholarship income (I wouldn't because of the small amount)

__________________________________________________________________________________________

The 1098-T is only an informational document. The numbers on it are not required to be entered onto your tax return. However receipt of a 1098-T frequently means you are either eligible for a tuition credit or possibly your student has taxable scholarship income. 

If you claim the tuition credit, you do need to report that you got one or that you qualify for an exception (the TurboTax interview will handle this)

You claim the tuition credit, or report scholarship income, based on your own financial records, not the 1098-T. In the 1098-T screen, click on the link "What if this is not what I paid the school" underneath box 1. You will then be able to enter the actual amounts paid. You will also reach a screen that allows you to adjust the scholarship amount for "amounts not awarded for 2024 expenses".

Or if you find it easier, just change the numbers in boxes 1& 5 to what your records show. The 1098-T that you enter in TT is not sent to the IRS.

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. You also cannot count expenses that were paid by tax free scholarships. You cannot double dip! 

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”.