Q. Do I enter the 1098T on my return? If so, entering these exact amounts shows that I will receive the AOTC?
A. Yes
Q. Do I enter the 1099Q on my daughter's return with these exact amounts listed?
A. Simple answer yes. But you also enter the 1098-T (even though you also entered it on your return). TurboTax will ask how much was used for the tuition credit. Verify that the amount was $4000. But, if you run into a problem (it can get messy), reply back and I''ll give you a workaround.
Q. And she will pay taxes on Box 2 of 1099-Q (not 1098-T)?
A. She will only pay tax on a portion of the box 2 amount. See example below.
In you case (with no room & board expenses). 11,000*/15,000 = 73.33% qualified distribution. 26.67% is taxable. 0.2667 x 3000 = $800 taxable income.
*$15,000 expenses - $4000 used for AOTC = $11,000 available for 1099-Q.
Q, Is all of this correct, especially since the funding came from my father-in-law's 529?
A. Yes. Even though Grandpa is the owner of the account, the student is the "recipient" of the distribution.
There is no such thing as "No room & board". You are allowed to claim room and board, even if the student lived off campus; even if she lived at home. You are allowed to claim the lower of your actual cost or school's R&B on campus charge. If he lives at home, the school’s R&B “allowance for cost of attendance” for student living with parents. If you can come up with $4000 R&B, none of the 1099-Q will be taxable and therefore does not even need to be entered.
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Qualified Tuition Plans (QTP 529 Plans) Distributions
General Discussion
It’s complicated.
For 529 plans, there is an “owner” (usually the parent), and a “beneficiary” (usually the student dependent). The "recipient" of the distribution can be either the owner or the beneficiary depending on who the money was sent to. When the money goes directly from the Qualified Tuition Plan (QTP) to the school, the student is the "recipient". The distribution will be reported on IRS form 1099-Q.
The 1099-Q gets reported on the recipient's return.** The recipient's name & SS# will be on the 1099-Q.
Even though the 1099-Q is going on the student's return, the 1098-T should go on the parent's return, so you can claim the education credit. You can do this because he is your dependent.
You can and should claim the tuition credit before claiming the 529 plan earnings exclusion. The American Opportunity Credit (AOC or AOTC) is 100% of the first $2000 of tuition and 25% of the next $2000 ($2500 maximum credit). The educational expenses he claims for the 1099-Q should be reduced by the amount of educational expenses you claim for the credit.
But be aware, you can not double dip. You cannot count the same tuition money, for the tuition credit, that gets him an exclusion from the taxability of the earnings (interest) on the 529 plan. Since the credit is more generous; use as much of the tuition as is needed for the credit and the rest for the interest exclusion. Another special rule allows you to claim the tuition credit even though it was "his" money that paid the tuition.
In addition, there is another rule that says the 10% penalty is waived if he was unable to cover the 529 plan withdrawal with educational expenses either because he got scholarships or the expenses were used (by him or the parents) to claim the credits. He'll have to pay tax on the earnings, at his lower tax rate (subject to the “kiddie tax”), but not the penalty.
Total qualified expenses (including room & board) less amounts paid by scholarship less amounts used to claim the Tuition credit equals the amount you can use to claim the earnings exclusion on the 1099-Q.
Example:
$10,000 in educational expenses(including room & board)
-$3000 paid by tax free scholarship***
-$4000 used to claim the American Opportunity credit
=$3000 Can be used against the 1099-Q (on the recipient’s return)
Box 1 of the 1099-Q is $5000
Box 2 is $2800
3000/5000=60% of the earnings are tax free; 40% are taxable
40% x 2800= $1120
There is $1120 of taxable income (on the recipient’s return)
**Alternatively; 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. You would still have to do the math to see if there were enough expenses left over for you to claim the tuition credit. Again, you cannot double dip! 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, in case of an IRS inquiry.
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."
***Another alternative is have the student report some of his scholarship as taxable income, to free up some expenses for the 1099-Q and/or tuition credit. Most people come out better having the scholarship taxable before the 529 earnings.
