If we paid my son's college tuition with his 529 plan, do we claim anything in our taxes?

[renningers]

Here's the situation:

• Freshman year, first time filing taxes with my son as college.
• He didn't make enough money to file his own taxes, so we weren't planning to. 
• We are claiming him as a dependent on our married filing jointly taxes.
• We paid his tuition with our 529 plan. 
• He also received scholarship money from the university. 

How do we claim any or all of this? This is all new territory for us, and we're trying to make sure we get it right. 

Thanks!

[Carl]

My answer to your question will just generate about 50 more questions. So I'm providing you the entire shebang below, and it should answer a vast majority (if not all) of your questions pertaining to this. But basically, if a 1099-Q was issued, it needs to be reported.

College Education Expenses

Colleges work in academic years, while the IRS works in calendar years. So the reality is, it takes you 5 calendar years to get that 4 year degree. With that said:

 - Scholarships and grants are claimed/reported as taxable income (initially) in the year they are received. It does not matter what year that scholarship or grant is *for*

- Tuition and other qualified education expenses are reported/claimed in the tax year they are paid. It does not matter what year they pay *for*.

Understand that figuring out who claims the student as a dependent, and determining who claims the education expenses & credits, is two different determinations. It depends on the specific situation as outlined below. After you read it, I have also attached a chart at the bottom. You can click on the chart to enlarge it so you can read it. If it’s still to hard to read on your screen then right-click on the enlarged image and elect to save it to your computer. Then you can double-click the saved image file on your computer to open it, and it will be even easier to read.

Here’s the general rules gisted from IRS Publication 970 at http://www.irs.gov/pub/irs-pdf/p970.pdf Some words are in bold, italicized, or capitalized just for emphasis. This is because correct interpretation by the reader is everything. Take the below contents LITERALLY, and do not try to “read between the lines”. If you do, you’ll interpret it incorrectly and risk reporting things wrong on your taxes. For example, there is a vast difference between “can be claimed” and “must be claimed”.  The first one indicates a choice. The second one provides no choice.

Now there are two separate determinations to be made here.

1. Who claims the student as a dependent.

2. Who reports all the education expenses and claims all the education credits.

   First, who claims the student as a dependent?

   If the student:

   Is under the age of 24 on Dec 31 of the tax year and:

   Is enrolled in an undergraduate program at an accredited institution and:

   Is enrolled as a full time student for one academic semester that begins during the tax year, (each institution has their own definition of a full time student) and:

   the STUDENT did NOT provide more that 50% of the STUDENT’S support (schollarships/grants received by the student ***do not count*** as the student providing their own support)

   Then:

   The parents qualify to claim the student as a dependent on the parent's tax return . Period, End of Story. But one thing I want to point out here. The parents *QUALIFY* to claim the student. The parents are *NOT* required to claim the student as a dependent. But even if they don’t, since they *qualify* to claim the student, then if the student will be filing their own tax return the student is *REQUIRED* to select the option for “I can be claimed on someone else’s return”.  To reiterate:

   If the student qualifies to be claimed on the parent’s tax return, then the student can not take the self-exemption on their own tax return, no …matter…what.

   Who reports all the education expenses and claims all the credits?

   If (and only if) the parents qualify to claim the student as a dependent, *and* the parents actually are claiming the student as a dependent, then:

   The parents will claim all schollarships, grants, tuition payments, and the student's 1098-T on the parent's tax return and:

   The parents will claim all educational tax credits that qualify.

   If the student will be filing a tax return and:

   The parents qualify to claim the student as a dependent, then:

   The student must select the option for "I can be claimed on someone else's return", on the student's tax return. The student must select this option even f the parent's qualify to claim the student as a dependent, and the parents do not claim them.

   Here’s when the parents will claim the student as a dependent, but the parents will NOT claim any of the education expenses or report the 1098-T on the parent’s tax return.

   .If the amount of scholarships/grants/529 funds exceeds the amount of qualified education expenses,  then the student will report the education stuff on the student’s tax return. The parent will know this when reporting the education on their tax return, because the parent will not qualify for any of the tax credits. (They only qualify for tax credits based on out-of-pocket qualified expenses not covered by scholarships/grants.)  Also, the parent’s will not qualify for the credits depending on their MAGI which is different for each credit, and depends on the marital status of the parent or parents.

   In the case where scholarships/grants covers “all” qualified education expenses, the parent’s don’t need to report educational information on their dependent student at all – but they still claim the student as a dependent if they “qualify” to claim the student.

    If the scholarships/grants exceed the qualified education expenses, then the student will report the 1098-T and all other educational expenses and scholarships/grants on the student’s tax return. The student will pay taxes on the amount of scholarships/grants that are not used for qualified education expenses. However, if the student’s earned income reported on a W-2, when added to the excess scholarships/grants does NOT exceed $6350, then the student doesn’t even need to file a tax return, and nothing has to be reported.

   If the student has any other taxable income not reported on a W-2, and it exceeds $400, (not including taxable portion of scholarships/grants) then most likely it’s considered self-employment income. That will require a tax return to be filed and the student will have to pay the Self-Employment tax on that income.

   Finally, regardless of the student’s W-2 earnings, if any taxes were withheld on those earnings and it was less than $6350, then the student should file a tax return so as to get those withheld taxes refunded.

   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 as follows depending on what type of 1040 you’re riling.

1040-EZ excess scholarship income is included on line 1.
1040-A excess scholarship is included on line 7.
1040 Excess scholarhip is included on line 7.

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 transferred as indicated above with one exception. For the 1040 excess ESA/QTP funds get transferred to line 21 with the annotation “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, 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.

[renningers]

Thank you Carl. I REALLY appreciate you taking the time to respond in such detail. I need to dive into this more fully to truly understand it all, and I plan to do so soon. In the meantime, I have one 529 related question: My grandma open a 529 in her and my son's name. We used some of that 529 money for his tuition this year. Does he need to claim this or will this all be claimed by my grandma?

[Carl]

A 529 plan generally has two names associated with it. First, there's the plan administrator. IN your case, I would expect the plan administrator to be grandma, since she's the one that opened the account.
Second, the plan will have a named beneficiary of that plan. The beneficiary of the plan is usually the student. But it could be the parent of that student. The named beneficiary is the one who will receive the 1099-Q for any funds withdrawn from that account, and the SSN of that named beneficiary will be on that 1099-Q.
Regardless who whose SSN is on the 1099-Q, if you qualify to claim the student as a dependent on your tax return, then you are the one who will report the 1099-Q regardless of whose SSN is on that form. (your SSN, or the SSN of the dependent student you're claiming).
There are exceptions where the student would report it, as clarified in my initial response above.

[renningers]

Thank you Carl. I greatly appreciate your help.

[renningers]

Thanks, again, Carl. I just finished up my taxes using TurboTax quite easily because of your help—and got a nice deduction to boot. Thank you for taking the time to help me out.

[dill4fam]

Please update this response.

$6350 is not longer valid, but $1050 + earned income up to $12,000 as a standard deduction applied to a dependent.

Also there are no longer 1040-A or 1040-EZ forms available.

[Critter]

These responses were converted from the old forum to the new one in early june 2019 and have those migration dates hence the info was correct when posted (which may have been years ago)  ... they will not be updated at this late date.  

[jmhwoodsy]

Hi there--thanks for this detailed response!  Can you clarify something, please?  My daughter received scholarships that covered 100% of AQEE.  We also withdrew from her 529 the entire AQEE understanding that the earnings from the distribution would be taxable by not (10%) penalized.

Given your informative post above, my daughter (student) should be responsible for the taxes on the scholarship (above tuition costs) and the 1099Q earnings amount.  However, the 1099Q is in my name--is it OK to file that 1099Q amount in my daughter's name?  Thank you.

[MarilynG1]

@jmhwoodsy Yes, you are correct that your daughter will report the excess Scholarship amount as income on her return (if she is required to file a return).

Since you don't qualify for an Education Credit, she can report the 1099-Q on her return also. 

Click this link for more info on Reporting Taxable Scholarship Income. 

Here's a detailed article on Form 1099-Q. 

[mdmc]

Please clarify how IRS determines that 1099Q funds are used for qualified expenses.   I've been challenged two years in a row from IRS on why my 1099Q funds (529 plan) are not reported in 1040.    IRS asks for more information on how these funds were used and assumes they are excess (taxable) income.   I have filled in the TT forms/worksheets for 1098T/1099Q/529 plan each year which show qualified educational expenses are greater than 1099Q payments.    However, it seems the 1099Q income in not reported in 1040 -- the IRS doesn't doesn't believe these 1099Q payments are reported.   What am I missing in TT to indicate proper use of 1099Q payments?     The income from 1099Q is shown in Education section, but doesn't seem to be sufficient for IRS to determine how funds were spent.    The final 1040 form doesn't seem to contain the 1099Q information.  

[KrisD15]

The 1040 does not have a section to report non-taxable distributions from a 1099-Q, just as it does not report the 1098-T. 

The 1099-Q and 1098-T are used to determine if there is taxable income and/or an education credit.  The forms themselves, (or copies), are not attached. 

The best advice is to have the distributions sent directly to the school. 

[Hal_Al]

@mdmc 

This is a common problem.  We hear it a lot, here in the forum.  It happened to me personally.  But you are the first person to report it  happening twice.  As you know there is simply no where on the IRS forms to show that*,  There's nothing you can do to prevent it.   Keep good records so you can respond.

At least two users have reported receiving a CP2000 letter, from the IRS,  on 529 distributions. They replied that their child was in college and the distributions were for qualified expenses, which they listed, but they did not provide receipts.. They  later received a notices saying they were in the clear. In my case, I just sent em copies of the school invoices. 

*In my case, I forced an entry on to line 8 of schedule 1 (where the taxable portion of a 1099-Q would be reported), and it still didn't prevent getting an IRS inquiry.

[EclecticEd]

Your info on qualifying as a dependent were quite clear. I have one clarifying question on a scenario:

1) The student had significant unearned income

2) The parents had AGI high enough to disqualify from education credits

3) The student was beneficiary of a parent's 529 with funds sent directly to the student which were then to pay for qualifying college expenses

I have seen that it might be beneficial to have the not be claimed as a dependent in a scenario with 1 and 2. But do the 529 funds mean the player must respond that they could be claimed as a dependent on the parent's return? And would this result in having to pay taxes on the unearned income at the parent's rate?

[Hal_Al]

 Q. Do the 529 funds mean the player must respond that they could be claimed as a dependent on the parent's return?

A.  Yes, probably. The treatment of expenses paid with distributions from Sec. 529 plans and Coverdell ESAs in the support test is uncertain because of the dual nature of these college savings vehicles and a lack of IRS guidance. The consensus among tax experts is that it is parental support, because the parent is the owner of the plan.  That said, it is  helpful to your case that the  distribution was  made to the beneficiary.

Q. Would this result in having to pay taxes on the unearned income at the parent's rate?

A.  It's irrelevant.  The kiddie tax kicks in for full time students, under 24, who do not support themselves with earned income, regardless of whether they can be claimed as a dependent.