ESA Transfer: Should I have received a 1099-Q?

[mdl1996]

I was the beneficiary on a Coverdell ESA through Vanguard. Since I've graduated college and have no more foreseeable qualifying education expenses, I decided to just take all the money out of the account. Vanguard transferred the money to my brokerage account (also Vanguard). I thought that they should have issued a 1099-Q showing that the entire amount was distributed. However, neither my dad (the custodian on the ESA account) nor I received one. I can see a 1099-Q for all previous years showing all the withdrawals we made for each year, but for some reason this transfer did not result in a 1099-Q. I confirmed that Vanguard already sent out 1099-Q forms for 2023. On the consolidated 1099 form for my brokerage account, it does show the money from the ESA in there, but the cost basis is the amount that was transferred. 

Was I supposed to get a 1099-Q form? If not, how would I identify/report that the money came from an ESA?

[Hal_Al]

Q. Was I supposed to get a 1099-Q form?

A. Yes. As you concluded, you did not have a "transfer"/rollover, you had a distribution.

Q. How would I identify/report that the money came from an ESA?

A. Even if you are unable to et a 1099-Q from Vanguard, you should enter the distribution at the 1099-Q screen to get TurboTax to do it right (tax and penalty). 

Q. On the consolidated 1099 form for my brokerage account, it does show the money from the ESA in there, but the cost basis is the amount that was transferred?

A. You're going to need to figure out the cost basis and "earnings" amount.  The TurboTax interview does  help, but you still have to come up with the inputs.  Note: unlike the more modern 529 Plans, the ESA administrator was not required to track your cost basis/earnings (gain).

[mdl1996]

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@Hal_Al wrote:

A. You're going to need to figure out the cost basis and "earnings" amount.  The TurboTax interview does  help, but you still have to come up with the inputs.  Note: unlike the more modern 529 Plans, the ESA administrator was not required to track your cost basis/earnings (gain).

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Thanks for your help. So after some back-and-forth with Vanguard, even though they don't track the cost basis, I was able to get a report with the entire transaction history on the account, and using that I calculated the cost basis. However, I still have another question.

As it turns out, the balance in the account that was left when I withdrew it was less than the contributions that were made over the years. I calculated it as follows (approximate numbers):

• $28,000 in total contributions over the years
• $24,000 withdrawn from the account in 2023
• $0 account balance at the end of 2023 since it was all withdrawn

Therefore, 28,000/(0 + 24,000) ~= 116% basis. So am I correct in assuming that none of the distribution is considered earnings, and therefore I just pay the penalty for non-qualifying expenses and don't pay any capital gains tax?

And in the TurboTax 1099-Q section, how should I enter this information, since the basis totals to >100%? Thanks again for your help.

[Hal_Al]

 Q. So am I correct in assuming that none of the distribution is considered earnings?

A. Yes, but only if the 2023 distribution (withdrawal) was the only distribution over the years. 

Q. Therefore I just pay the penalty for non-qualifying expenses and don't pay any income tax?

A. If there are no earnings, there is no income tax and there is no penalty.  The penalty is 10% of the earnings portion of the distribution, not 10% of the whole distribution. 

Q. And in the TurboTax 1099-Q section, how should I enter this information, since the basis totals to 100%? 

A. Since you know none of it is taxable, just don't report the 1099-Q*. When none of the distribution is taxable, TurboTax will enter nothing about the 1099-Q on the actual tax forms. Otherwise, box 2 can be 0 or a negative number. 

The lack of earnings may explain why you didn't get a 1099-Q. 

*References:

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." 

[mdl1996]

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@Hal_Al wrote:

 Q. So am I correct in assuming that none of the distribution is considered earnings?

A. Yes, but only if the 2023 distribution (withdrawal) was the only distribution over the years. 

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Ah, ok. I may have over-simplified the calculation then, lol.

Does it matter whether the distributions in previous years were for qualifying expenses or not?

Assuming it doesn't, and therefore qualifying distributions still affect the earnings, let me see if I have this right...
Let's say there were $28000 in contributions over the years. Now let's say in 2022 there was a distribution of $5000, where 50% is basis and 50% is earnings. Does that mean that for 2023, the contributions would be considered to be 28000 - (50% of 5000) = $25500? These are just theoretical numbers, but just want to double check I know how to calculate it properly. Thanks again.

[Hal_Al]

Q. Does it (calculation of the basis-earnings) matter whether the distributions in previous years were for qualifying expenses or not?

A. No. 

Q. Does that mean that for 2023, the contributions would be considered to be 28000 - (50% of 5000) = $25500?

A. Highly unlikely, depending on how the plan does the calcs, by overall account or individual investments in the account. 

More likely; if the 2022 distribution was 50% earnings, then the money that was left in the account was also 50% earnings.