Do I need to file 1099-Q if the 529 distribution was for qualified education expenses?

[caleb-marcus2015]

When I entered a 1099-Q I received from a parents' 529 plan of which I am the beneficiary, TurboTax included the earnings in my income and it reduced my refund. However, the entire distribution was sent directly to my school for qualified education expenses, so is not taxable. I tried also entering my 1098-T, but this caused TurboTax to add the AOTC, which I know I don't qualify for because the tuition was paid from a 529. Adding the 1098-T didn't even remove the 529's earnings from my income!
What is the correct way to handle this situation? Do I not file the 1099-Q, because the entire amount was used for qualified education expenses?
I am claiming myself, and will not be claimed as a dependent on my parents' return, if this is relevant.

[Carl]

The issue is caused because you did not work through the education section in the order it is designed and intended to be done. You need to start at the beginning of the education section and work it through in order. Only then will you be asked for room and board expenses that any excess 529 funds would be applied to.

Scholarships/grants are applied to *qualified* education expenses ONLY. Those qualified expenses are tuition, books and lab fees. That's it. (though the definition of lab fees is rather broad). After that, any excess scholarship money is taxable income to the student. Grants/scholarships can NOT be used for room and board. (Do not confuse this with employer provided assistance)
Next, 529 funds reported on the 1099-Q are applied. First to any tuition not covered by scholarships. Then it's applied to the unquailed but "allowed" expense of room and board. Then if there is any 529 money left over, it's taxable income to the student.

[Joe26]

Carl is correct but it is very important to reduce the default number for education credit expenses. Turbo Tax defaults to the entire amount for education expenses for the deduction amount. This must be reduced (to zero in my case) so that the valid 529 distributions were not taxed.

[alfarney]

Hi Joe - I am having the same core problem.  Where do I reduce that to zero?

[Carl]

What "default" are you referring to? The 529 funds are reported as taxable income "initially" in the tax year they are paid/received. Their taxability is offset by the qualified education expenses that money is used to pay for, in the same tax year that money is paid/distributed.
What tax year it pays *for* doesn't matter. But the funds must be used to pay those qualified expenses in the same tax year they are paid out of the 529 account. So if funds were paid out in say, Dec of 2016 and not used to pay qualified expenses until 2017, then on the 2016 return it's taxable income. Period.
That means in 2017 the taxes you paid on those funds the previous year will be offset because you would have then used out-of-pocket money to pay those expenses. However, it can hurt you if you withdraw in 2016 with the intention of paying room & board expenses in 2017. R&B is not a deductible out of pocket expense.

To avoid  this issue, what you can do is on the screen that asks "Did [student]'s aid include amounts not awarded for 2016 expenses?" indicate the amount of the 1099-Q funds that was used to pay for 2017"room and board" expenses, that were actually paid in 2017 with those funds. Then on the next screen you're asked if you paid for room & Board with a "SCHOLARSHIP OR GRANT". Select NO, because you did NOT use scholarship money or grant money to pay room and board. (You used 529/Coverdell funds for that)

[farney]

Here is the problem I am having. I am the parent and owner of a 529. All (for one college student/child) and a portion of the other students earnings are coming through as taxable income.  I can't figure out why. I have education expenses that match the 529 withdrawal and I am not eligible for any other education credit or income deduction due to income level.

I can't figure out if Turbo Tax is applying some of my education expenses for education credit expenses credit....and if so, how to change it.

The 1099-Q comes to my SS # and the 1098T for the kids, but I have them both input in Turbo tax for the income and expenses.

I also noticed that I overpaid tax last year with this same situation....about to switch tax software if I can't figure it out.

[Carl]

I can understand the frustration. But threating to switch will not make things work right, or suddenly provide understanding either. So let me ask you this. Whose SSN is listed in the "recipient's tax payer identification" box?  It "should" be the student's, and there can only be one student listed for each 1099-Q issued. I am also assuming you have two dependents in college in 2016 also, based on your reference to "the other student".
Don't know if the below will help at this point, but read it and pay special attention to the next-to-last paragraph.

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 line 21 of the 1040 with an annotation of "SCH" next to it.
Next, 520/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 transferred to line 21 of the 1040 with an annotation of "SCH" next to it.
Finally, out of pocket money is applied to qualified education expenses. The only qualified expenses for out of pocket money is tuition, books, and lab fees. Room & board is NOT a qualified expense for out of pocket money.
***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 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 that are taxable, then 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.

[farney]

There is another thread that helped. I appreciate your help too. Turbo Tax applies the education expenses towards a credit that o can't take. The other thread helped me figure out that I had to 0 out that field. Order didn't really matter.....finding that field buried in the education expense section was the key.

[Carl]

You may find this informative to. Do it, just so you're aware. You don't need to change anything if you don't want to. In the search box enter the word LETME and click the search or find button. Then the "jump to" link. After a few clicks you'll see all the credits you qualify for, and can change the one selected for you by the program, if you desire. Pretty neat I think.

[farney]

Thanks

[windbreaker53]

@ Farney:  Which field is "that field" that needs to be zeroed out? Thanks

[farney]

Go to Deductions and Credits.
Expenses and Scholarships (Form 1098-T).
Choose the student (will have to do for each one if more than one student) to edit.
On the "Here's your education summary" screen choose to edit the Education Information (last item on screen)
Scroll though/answer questions until you are on the "Amount Used to Calcualte Education Deduction or Credit". I zeroed out "that field" since my AGI eliminates those benefits. This allowed my education expenses to match my 529 plan withdrawal and eliminate any additional tax liability.

[Carl]

deleted by Carl

[farney]

Hi carl. I didn't change my 1099-Q amount. Nor my qualified education expenses. That field, simply takes away using education expenses for a credit and/or deduction which I am not eligible. My expenses and 529 withdrawal match - but turbo tax was increasing (incorrectly) my tax liability.

[Carl]

Oh okay. I'm sorry, I misunderstood, and had it backwards. I though you were trying to indicate to the program that you did qualify for a credit, and in reality you didn't. LOL!