lifetime learning credit and 529

[valeriefields1]

My husband and I contributed to a CHET Account (Connecticut's Qualified Education Program) in January 2022 and named our daughter as the recipient.  She is not claimed as a dependent on our return.  (She is  28 and has been living on her own for a few years).   The 1099-Q received is in her name and SSN, and she is named as the recipient.  This was considered a gift from us to her.  

She turned around and immediately used the funds to pay her tuition bill.  She has the 1098-T from the university.  She used the funds to pay for her masters degree classes in teaching. 

Can she claim the Lifetime Learning Credit even though my husband and I received a tax benefit by contributing to this account?

Thank you for your help.

[SharonD007]

It depends. Your daughter may qualify for the Lifetime Learning Credit if it is not for the same expenses that the CHET account was used for. For example, If the CHET withdrawal was $5,000 and the tuition plus qualified educational expenses are $10,000, she can claim a $1,000 lifetime learning credit on $5,000 of expenses, and the qualified expenses on your CHET account will be reduced by $5,000.

Please see the TurboTax articles Guide to Tax Form 1098-T: Tuition Statement and What Are Education Tax Credits? for additional information. You can also take a look at the TurboTax article Guide to IRS Form 1099-Q: Payments from Qualified Education Programs for further details.

[Hal_Al]

Q. Can she claim the Lifetime Learning Credit (LLC) even though she was the recipient of a QTP (Qualified Tuition Plan) distribution?

A. Simple answer: No.

But more accurately, she can not double dip. She can not use the same educational expenses to claim a tuition credit and also claim that the 1099-Q is tax free.   But she is allowed to allocate those expenses for the best tax advantage. For most people, that means she should claim the LLC, even if it means paying some tax on the earnings portion of the 1099-Q.  The LLC is 20% of tuition paid, up to $10K. Claiming a tuition credit is a penalty exception, so even though tax may be due on the 1099-Q, there will be no 10% penalty.  In addition, room and board (even if she  lives at home) is a qualified expense for a 1099-Q, if she is a half time or more student. 

For more specific advice, provide the following info;

• Box 1 of the 1098-T
• box 5 of the 1098-T
• Any other scholarships not shown in box 5
• Does box 5 include any of the 529/ESA plan payments (it should not)
• Is any of the Scholarship restricted; i.e. it must be used for tuition
• Box 1 of the 1099-Q
• Box 2 of the 1099-Q
• Room & board paid. If student lives off campus, what is school's R&B on campus charge. 
• Other qualified expenses not included in box 1 of the 1098-T, e.g. books & computers
• How much taxable income does the student have, from what sources
• Was student half time or more

[valeriefields1]

For more specific advice, provide the following info;

• Box 1 of the 1098-T is $9,173.00
• box 5 of the 1098-T is blank
• Any other scholarships not shown in box 5 - no scholarships
• Does box 5 include any of the 529/ESA plan payments (it should not) Box 5 is blank
• Is any of the Scholarship restricted; i.e. it must be used for tuition - no scholarships
• Box 1 of the 1099-Q is $9,363.99
• Box 2 of the 1099-Q is ($153.91)  (negative)
• Room & board paid. If student lives off campus, what is school's R&B on campus charge.  Student lived home, but was not charged for this luxury 🙂
• Other qualified expenses not included in box 1 of the 1098-T, e.g. books & computers - no other qualified expenses.  Since it was her last semester she was student teaching.
• How much taxable income does the student have, from what sources - Adjusted gross income was $26.224.  She earned this student teaching during her last semester, working as a camp counselor during the summer and working as a teacher substitute while waiting for her certification to be processed, working as a full time teacher when said certification became final.  After a $300 adjustment for teaching supplies she purchased for her classroom, and the standard deduction, her taxable income was $13,274
• Was student half time or more.  She was considered halftime or more.  Box is checked on 1098T

Thank you for your help!

[Hal_Al]

EDIT 3-29-23: Poster states that the box 2 amount on the 1099-Q is a negative number.  This means that there are no earnings in the distribution and no part of the distribution will be taxable, even if none of it was used for educational expenses.  You can choose not to enter the 1099-Q at all. Even if you do enter it, TT will calculate 0 income.

The rest of this reply assumes that there was a positive amount in box 2 of the 1099-Q.

She can claim the LLC and will pay tax on all the 1099-Q earnings ($154).  She's in the 12% bracket, so about $18 in tax. Technically there is a tiny amount of penalty, since the distribution exceeds her tuition, but rounding should  take that to 0.

Even if she lives at home ("off campus") she is allowed to claim room board for the 1099-Q. She can claim the lesser of her actual cost or the school's "allowance for attendance" (essentially what on campus student's pay. This number is usually available at the school's web site. But, in your case, it will not affect your bottom line. 

The LLC is 20% x $9173 = $1834.  Her tax liability is only about $1400 (including the $18), so the LLC wipes that out.  The LLC is non refundable (she doesn't get the extra $434 +/-, in her refund). 

But this means, you have to enter everything in TurboTax (TT) and hope TT gets it right.  Enter the 1099-Q before you enter the 1098-T.  When you enter the 1098-T, you should eventually get a  screen "Amount used to calculate the credit or deduction".  That amount should be $9173.  You will be given a chance to change it.

If you don't get the results expected, reply back, I'll give you a workaround. 

[valeriefields1]

I understand what you are saying (I think).  I did indeed enter the 1099Q first.  Then entered the 1098T.  When navigating to the "Amount Used to Calculate Education Credit", It does in fact have $9173 already plugged in.  I do have the opportunity to change it.  Am I supposed to change it or leave it? 

This increased her refund from $513 to $1901 (a increase of $1388)  This seems too good to be true which is why I am here.   

As a side note, is my understanding correct?  I'd like to learn.  Rather than use the tax benefit of using 529 money to pay the tuition, we are using the Lifetime Learning Credit.  And the IRS will penalize us since we did not claim to use the 529 money for tuition.  but the benefit of using the LLC is greater than the benefit plus any penalties for not using the 529 account for tuition. Hope I'm making sense.  

[Hal_Al]

Q. Then entered the 1098T.  When navigating to the "Amount Used to Calculate Education Credit", It does in fact have $9173 already plugged in.  I do have the opportunity to change it.  Am I supposed to change it or leave it? 

A. Leave it.

Q. This increased her refund from $513 to $1901 (a increase of $1388)  This seems too good to be true which is why I am here?   

A. It's true. That's about the amount I expected.

Q.   Rather than use the tax benefit of using 529 money to pay the tuition, we are using the Lifetime Learning Credit.  And the IRS will penalize us since we did not claim to use the 529 money for tuition.  but the benefit of using the LLC is greater than the benefit plus any penalties for not using the 529 account for tuition. Is my understanding correct?  

A. Yes. In this case the numbers worked out perfectly. One reason was because your plan earnings were so low. But, in general it's a 20% credit vs a12% tax rate.  For undergrads (or usually their parents) it's a 100% credit (on the first $2000 of tuition). 

[valeriefields1]

Thank you so much for helping me out.  I appreciate the time you took to explain everything to me.

Kind Regards,

Valerie

[valeriefields1]

Surprise! One last question (Maybe) ...I'm doing the Connecticut State Tax and this question came up...

"ENTER EDUCATION TRUST DISTRIBUTIONS

Include the amount of any distributions from the Connecticut Higher Education Trust Fund (CHET) that were included as taxable income on your federal return.

Note: CHET distributions are not taxable on your federal return if the distribution is used to pay for qualified higher education expenses.

Amount of CHET Distributions ___________"

Q:  Since I took advantage of the the Lifetime Learning credit instead of the CHET advantage, i'm guessing the distributions from the CHET are included as taxable income on the federal return.   So do you agree I would need to put the gross distribution amount (9363.99) as the "Amount of CHET Distributions"

[Hal_Al]

I'm not familiar with CT rules or software. You may have to ask a fresh question (post) to get somebody familiar with CT to respond.

That said, on the surface they appear to be asking only for the taxable amount.  But that doesn't make sense since it's already in the federal AGI that transfers to the state return. 

[Hal_Al]

Out of curiosity, I  went looking.

Instead of entering $9364, I think you should enter only $154 (the taxable amount).  Even though it was taxable on the federal return, CT does not tax it. So there is an INCOME adjustment (subtraction) on line 49 of form CT1040 (line 49 is a catch all line for several "other" items).

From the instructions for line 49 of form CT1040:

"5. Subtract the amount of any distributions you received
from the CHET fund as a designated beneficiary to the
extent includible in your federal adjusted gross income."

https://portal.ct.gov/-/media/DRS/Forms/2022/Income/2022-CT-1040-Instructions_1222.pdf (page 10)

[valeriefields1]

I posted this in another thread:

CHET vs Lifetime Learning Credit on CT State Return

Hello!

It has been determined that it is beneficial for me to take advantage of the Lifetime Learning Credit as opposed to the CHET benefit  (Because I am in a low tax bracket, it's a 20% LLC credit vs a 12% tax rate)

Q:  Since I took advantage of the the Lifetime Learning credit instead of the CHET advantage, I'm guessing the distributions from the CHET are included as taxable income on the federal return.   So do you agree I would need to put the gross distribution amount from my 1099-Q box 1 ($9363.99) as the "Amount of CHET Distributions" on the Turbotax screen?

Thanks for any assistance

I got this response from an "expert" level person

Yes, if you claimed the credit making the CHET taxable, you must include that amount as federally taxable.

CHET features state and federal tax free earnings and withdrawals on qualified higher education expenses. Connecticut families can take an income tax deduction (up to $5,000 for single filers, $10,000 for joint filers) on contributions to CHET accounts.

I responded

Does it make sense to you that by entering this number in, it would make the CT Return go from a $641 refund to a $915 refund?  I was expecting it to go down.

They responded

 Yes, because even though it was taxable for the federal return, you get an adjustment on the state return because the state gives it beneficial tax treatment.

Hmmmmm. thoughts?

Thanks for taking the time to help

[valeriefields1]

Also, i don't know if you realized this but the $154 is actually a loss. It's in parenthesis on the 1099-Q

[Hal_Al]

I did see the other thread. And the answer(s) is what sent me on a search.  Generally their answer is right, just not exactly,  because they didn't know about the taxable amount.

No. I did not realize the $154 was negative.  In that case there is no need to enter the 1099-Q, at all. You know it's not taxable

Did you enter it as negative? What is on line 8z of Federal Schedule 1?

[valeriefields1]

I thought that the whole $9364  would be taxable because I was not using the money to pay for tuition any more because the lifetime learning credit would be more beneficial.