How to create an American Opportunity Tax Credit by changing $4,000 of non-taxable 529 money to be taxable. 1098-T, 1099-Q, AOTC

[Haven2025]

Hi,

Having unsuccessfully spent a lot of time reading and talking to many TurboTax live helpers, I’m hoping the experts I see on this Community will be able to clarify how I can help my daughter work within TurboTax to maximize a tax benefit.

Backgound:

My daughter graduated from college in May of 2020. She lives on her own and pays for more than 50% of her living expenses for this year and will be filing as an independent person.  I will not and can not claim her on my taxes.

We have entered the following information into TurboTax:

1099-Q

Box 1 $20,835 Gross Distribution

Box 2 $15,400 Earnings

Box 3  $5,434  Basis

1098-T

Box 1 $24,980 Payments received for qualified tuition and related expenses

Box 5 $10,000 Scholarships 

On the the  “Here’s Your Education Summary” page, we have entered in the “Other Education Expenses”:

$5,589 for Room & Board

$266 for books

So, the entire Gross Distribution goes to fund the remaining $14,980 of qualified tuition plus the $5,855 for Room & Board and books equal $20,835.  The 1099-Q distributions evenly pay her expenses.

Question! How can we, through TurboTax, work with the 1099-Q money to figure out a $4,000 amount to be taxable and thereby allowing my daughter to claim a AOTC credit.  Can we draw from the already taxed “basis” amount?  What is best and allowable?  Penalties? Also, how would I know for sure this is more beneficial and doesn’t have some unforeseen consequence?  

This has been such a difficult part of the tax filing for my daughter with wildly different Federal refund numbers coming up dependent on how we’ve entered information, and varying scenarios of not entering 1099-Q (as we’ve seen that on some posts).

We will be very grateful if some of you expert tax people would be so kind as to help us walk through this final piece of her tax return.  Thank You in advance!!!

[MarilynG1]

If the entire 529 distribution was used for Qualified Education Expenses (including room and board in this instance), you don't have to enter it in a tax return.

Based on the1098-T info you gave (Box 1, $24,980; Box 5, $10,000), she will be eligible for the American Opportunity Credit.

Click this link for more info Form 1099-Q. 

[Haven2025]

Thank you for responding to my question!  

As I understand it, eligible expenses for the American Opportunity Tax Credit do not allow room and board but only tuition, college fees and books/computer expenses. This is why I was looking for a work around. If I’m not correct on this, please let me know:)

[Hal_Al · Accepted solution]

Graduating in May usually means that 2020 was her 5th calendar year of college. There is a four time limit to claiming the American Opportunity Tax Credit (AOTC) on a student's education.  So, if you already claimed  4 AOTCs, she is prohibited from claiming it in 2020. She can claim the less generous (and non refundable) Lifetime Learning Credit (LLC).

Assuming you haven't claimed it 4 times, there's another issue: A full time unmarried student, under age 24, even if you don't qualify as a dependent, is only eligible for the refundable portion of the American Opportunity Credit if she supports himself by working. You cannot be supporting yourself on parental support, 529 plans or student loans & grants. She will be asked the earned income support question in the personal info interview.

Assuming that's not a problem, we need to know who was the "recipient" of the 1099-Q, you or her? That determines who's return the 1099-Q is entered on. Who's name and SS# are on the 1099-Q?

Here's an example of how it will work:

  $30835 in educational expenses(including room & board)

 -$10000 paid by tax free scholarship

   -$4000 used to claim the American Opportunity credit

 =$16835 Can be used against the 1099-Q (usually on the student’s return)

Box 1 of the 1099-Q is $20,835

Box 2 is $15,400

16,835/20,835 = 80.8% of the earnings are tax free; 19.2% are taxable

0.192 x 15,400 = $2956

You have $2956 of taxable income  to report .  None will be subject to the 10% non-qualified distribution penalty because the non qualified portion of distribution was used to claim a credit

[Haven2025]

Thank you Hal_Al for the very clear, detailed response. Much appreciated.

* The AOTC has only been claimed for 2 years

*Good to know that she is only eligible for the refundable portion of the AOTC which I understand to be $1,000

* Not sure what the “earned income support question in the personal info interview” means. A form to be completed? She will have earned income of about $29,000 which is more than half of her total support for the year and she lives on her own. 

* My daughter is the recipient of the 1099Q and it has her Social Security number noted.

I so appreciate the example of how this would work.  Since my original numbers were real, I think we’ll use your analysis and numbers.  We have previously put all of the 1099-T, 1099-Q information into the TurboTax online account.  Does all of that stay as is? How would we indicate the taxable income of $2956?  And what entry needs to be put in to generate TurboTax to recalculate and recognize the AOTC?

Can’t thank you enough for your time and knowledge!

[Hal_Al]

@Haven2025  said: "Good to know that she is only eligible for the refundable portion of the AOTC which I understand to be $1,000"

No, it's just the opposite, she would only get the non-refundable portion.  But that doesn't matter in her case, since more than half her support came from earned income. Because she is under 24, the earned income support question in the personal info interview should come up.  There is no form to be completed. She just answers yes.  She will get both the refundable and non refundable portions.

Q. We have previously put all of the 1099-T, 1099-Q information into the TurboTax online account.  Does all of that stay as is? 

A. Yes. Be sure you entered room and board and books. 

 When you get to the screen titled “Amount Used to Calculate Education Deduction or Credit”, verify the amount ($4000) you want to use or change it*.  

If everything is entered correctly, you should get the result above. The $2956 goes on line 8 of Schedule 1. The refundable portion ($1000) of the AOTC goes on line 29 of form 1040 and the non refundable portion on line 3 of Schedule 3.

*If TT doesn't present that screen,  Go through the entire education interview until you reach a screen titled "Your Education Expenses Summary".  Click edit next to the student's name. That should take you to a screen “Here’s your Education Summary”. Click edit next to “Education Information”. When you get to the screen titled “Amount Used to Calculate Education Deduction or Credit”, verify the amount you want to use or change it.  You may reach that screen sooner.

[Haven2025]

Hi Hal_Al,

I followed all of your detailed information. After clicking next to “Education Information”, I move through the screens and do not see “Amount used to Calculate Education Deduction or Credit”.  

The final page in this summary states:

”We’ll make this entry zero that’s no longer needed

Earlier you told us to treat $0 as a taxable education distribution in order to claim a larger education tax credit or deduction. However, it’s no longer beneficial for any amount to be treated as a taxable distribution and used for an education credit or deduction, so we’ll just make this entry zero”

Then my only available selection is “Continue” or “Back”

To confirm my current entries:

On the “Did You Pay for Books or Materials to attend school?”, I have entered $266 in the “Books and materials not required to be purchased from the school” category and $5,589 in “Room and Board”

On the “Your 2020 Deductions & Credits” page, under “Education” it shows $0 for “Expenses and Scholarships (Form1098-T).  I assume this is ok due to the exact match with college expenses and 529 withdrawal funds.

Should I be doing another step to generate the “Amount used to Calculate Education Deductions or Credits” page so I can then enter the $2956

Thank you once again!

[Hal_Al]

I'm having the same problem. I think that ”We’ll make this entry zero that’s no longer needed" screen is new this year.

I have download/desktop software.  I don't know if you can do this with online software:

Access the student information worksheet in the forms mode.  You want to change  line 17 (used for credit or deduction)   to $4000.

[Hal_Al]

If you are unable to access the worksheets, use one of these  workarounds. I tried both, they work. Due to rounding TT comes up with $2957 taxable amount.

1. At the 1099-Q interview, when asked who the student is, check "Someone else not listed here" (Lying to TurboTax to get it to do what you want does not constitute lying to the IRS).  At the next screen type the student's name. Follow the interview until you get a screen "Non-dependent student expenses". Enter:

• Tuition and Enrollment Fees: 24980
• Books and course related materials:  266
• Room and Board: 5589
• Tax-free assistance: 10000
• Other adjustments: 4000  (the amount used to claim the AOTC)

Alternate workaround:

2. Delete the 1099-Q.  That should give you the AOTC. 

In TurboTax (TT), enter at:
- Federal Taxes tab 

 - Wages & Income

Scroll down to:

-Less Common Income

      -Misc Income, 1099-A, 1099-C

       - On the next screen, choose – Other reportable income  (at the bottom)

       - On the next screen, click yes

       - On the next screen, you'll get blanks to enter the amount (2956) and a description (Qual State Tuition Prgm from 1099-Q). It will go on line 8 of Schedule 1 with that description. This is the exact same result as shoulda happened with the 1099-Q entry.  But this work around will not produce form 5329 to document the penalty exception.

[Hal_Al]

Last reply revised.

[Haven2025]

Hello again,

I so appreciate your response and the very detailed explanation of the two ways that will allow my daughter to use the online Turbo Tax for this situation. 

Your #1 method seem a bit more complete by including the 1099-Q.  No big concerns came up when we entered it this way but I will mention a couple things.

In “Your 2020 Income Summary”, “Less Common Income”, “Miscellaneous Income, 1099-A, 1099-C”  it does show $20,835 (which makes sense).  Further along in the “Coverdell ESA and 529 qualified tuition programs (Form 1099-Q)” we see “who’s shown as the recipient on your 1099-Q” and we have indicated my daughter.  We have noted “someone else” for “Who’s the student?”  We have selected her name on the next page and again on the “confirm this student’s name” page.  Then, in completing the 1099-Q  Information, she unchecked the box for #6 “Recipient is not Designated Beneficiary”.  The next page reviews the discrepancy of her having indicted the recipient of the 1099-Q Form was not the student whose expenses were paid yet she did not check the box that the Recipient and Beneficiary are different people.  Mentioning this to you as I wonder if this is a red flag to the IRS in some way. Perhaps it’s not a big concern as they may just need clarification.

One additional comment on this... if we run through this section again to review it, we see it shows the box checked (Recipient is not Designated Beneficiary).  Although that might be due to us again answering questions and the system may think we have started over and it then again automatically rechecks that box.

All the education numbers that we can see appear to support that this workaround calculated correctly and adjusted $4000 to now be taxable money.  In the “1099-Q summary of distributions “ it indicates $2,957 as a taxable amount.  With these changes, the resulting Federal tax refund increased by the full AOTC less the expected tax amount on the $2,957.

Would appreciate your final comment on this workaround being submitted to the IRS.  Thank you!

[Hal_Al]

You don't mention whether you tried to change  line 17 (used for credit or deduction), on the student information worksheet to $4000. That's the simple solution.  I'm also curious if that can be done in online TT.

You may have to  leave  box  #6 checked “Recipient is not Designated Beneficiary”, as this may prevent you from e-filing.  That 1099-Q worksheet is not sent to the IRS.

*In “Your 2020 Income Summary”, “Less Common Income”, “Miscellaneous Income, 1099-A, 1099-C”  it does show $20,835 (which makes sense)*.

Yes, that will show there. But later at  "(Name). Here's a picture of your 2020 income"  The summary should show $2957 as "other income". 

*All the education numbers that we can see appear to support that this workaround calculated correctly and adjusted $4000 to now be taxable money*

Not exactly. The $4000 is now the non qualified portion of the 529 distribution. Resulting in $2957 taxable money.

*In the “1099-Q summary of distributions “ it indicates $2,957 as a taxable amount.  With these changes, the resulting Federal tax refund increased by the full AOTC less the expected tax amount on the $2,957*.

That's the result we want. The 1099-Q worksheet should also indicated 0 as the amount subject to penalty.

[Hal_Al]

A clarification about accessing the student information worksheet in the forms mode.  You want to change  line 17 (used for credit or deduction)   to $4000.

Change the box in the first column ("Total").  That automatically changes the other boxes, including the 529 column.

I earlier may have suggested changing it in the 529 column. That requires using "override";  whereas the Total column allows a direct entry (at least it does in the desktop software).

[Hal_Al]

I revised my comment about the  “Your 2020 Income Summary” screen. 

[GabiU]

@Haven2025 To have this reviewed by our product team, we will need to see a sanitized version of your return. It's extremely helpful as we do research on your experience. 

If you're using TurboTax Online, follow the directions below: 

1. Sign into your online account.​
2. Locate the Tax Tools on the left hand side of the screen. ​
3. A Drop down will appear. Click on Share my file with agent.​
5. This will generate a message that a diagnostic copy will be created. Click on OK, the tax file gets sanitized and transmitted to us.​
6. Please provide the Token Number that was generated onto a response. ​

Thank you! I hope to hear from you soon. 

GabiU