New Turbotax user question: Entering a 1099-Q on Turbotax- taxable scholarship withdrawal

[ualdriver]

Hello Turbotax community

I have a son in college.  We are fortunate in that he received $22,000 in scholarships from his college.  I withdrew $22,000 from his 529 plan, along with $1,889 in qualified educational expenses in 2022.  This is a mostly taxable event as I owe money on the earnings associated with the scholarship withdrawal, but I am exempt from the 10% penalty for the scholarship withdrawals.  I owe no tax on the $1,889 in qualified educational expenses withdrawals.

I received two 1099-Qs named as the recipient.  One for $11,000 with the associated gross distribution, earnings, and basis boxes filled.  This was for one scholarship withdrawal.  The second 1099-Q was for $12,889 with the same boxes filled.  This was a $11,000 scholarship withdrawal and the $1,889 in aforementioned qualified educational expenses.

QUESTION: I started entering the first 1099-Q with the $11,000 gross distribution and associated earnings and basis in the Federal Taxes>Deductions and Credits>Education>ESA and 529 qualified tuition program (Form 1099-Q) section.  After I entered it, there was no change in Federal tax owed (it should have gone up).  Further, I don't see the appropriate entries on any tax forms.  I didn't enter the second one yet ($12,889 distribution) because something is not right with this first 1099-Q entry.  How do I enter these 1099-Qs into Turbotax and designate $22,000 of the $23,889 in total 529 distributions as taxable, 10% penalty free scholarship withdrawals?

Thanks for your time in advance.

[Hal_Al]

Q. How do I enter these 1099-Qs into Turbotax (TT) and designate $22,000 of the $23,889 in total 529 distributions as taxable, 10% penalty free scholarship withdrawals?

A. TT is allocating  some of the tuition to the education credit (probably $10K). On the Student Information Worksheet (abbreviated Student Info Wk on the forms list), go to part VI and change line 17 (“Used for credit”) to 0. Make the change in the first column.  That will automatically change the other columns.

There are three things you can do with your Qualified educational expenses (QEE):

1. Allocate then to scholarships (so that the scholarship remains tax free)
2. Use them to claim an education credit
3. Allocate them to the 529 distribution (1099-Q) so that it will not all be taxable

 TurboTax allocates QEE, in that order, but it doesn't do a very good job.  It's best if you have some idea of the outcome expected, when you make your entries. It's not the $22,000  that is taxable. It's 92% (22000 / 23889 = 0.92) of the box 2 (earnings ) that is taxable. See example below. 

You are allowed to allocate your expenses for the best tax advantage.  Claiming the credit first is usually best. Having the student declare some of their scholarship taxable is usually better than paying tax on all the 529 earnings distribution. 

__________________________________________________________________________________________

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. 

[Hal_Al]

Provide the following info for more specific help:

• Are you the student or parent.
• Is the  student  the parent's dependent.
• 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
• Who’s name and SS# are on the 1099-Q, parent or student (who’s the “recipient”)?
• Room & board paid. If student lives off campus, what is 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.
• 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
• Are you trying to claim the tuition credit (are you eligible)?
• Is the student an undergrad or grad student?
• Is the student a degree candidate attending school half time or more?

[ualdriver]

Hal...definitely would appreciate more help after reading your responses.  My answers to your questions are below in bold below.  The tax software I used last year handled these expenses entirely differently than Turbotax and I'm kind of lost : (  

I am not eligible for the Federal Tax Credits.  

Thanks vey much for your help!

Provide the following info for more specific help:

• Are you the student or parent.   PARENT
• Is the  student  the parent's dependent.  YES
• Box 1 of the 1098-T  $46762.90
• box 5 of the 1098-T  $22000
• Any other scholarships not shown in box 5  NONE
• Does box 5 include any of the 529/ESA plan payments (it should not)  NO
• Is any of the Scholarship restricted; i.e. it must be used for tuition  NOT THAT I AM AWARE OF.
• Box 1 of the 1099-Q  $11,000 AND $12,889 RESPECTIVELY (TWO 1099Qs RECEIVED BY PARENT, THIRD RECEIVED AS STUDENT RECIPIENT SEE BELOW)
• Box 2 of the 1099-Q   $4526 and $5021 RESPECTIVELY
• Who’s name and SS# are on the 1099-Q, parent or student (who’s the “recipient”)? PARENT IS RECIPIENT ON BOTH
• Room & board paid. If student lives off campus, what is 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.  R&B FOR 2022 APPROX $12,000. HE LIVED ON CAMPUS
• Other qualified expenses not included in box 1 of the 1098-T, e.g. books & computers  $1889
• How much taxable income does the student have, from what sources LITTLE INCOME MAYBE AROUND $2000 DOING DOORDASH DELIVERY DRIVER PART TIME
• Are you trying to claim the tuition credit (are you eligible)?  NOT ELIGIBLE FOR ANY CREDITS DUE TO FAMILY INCOME
• Is the student an undergrad or grad student?  UNDERGRAD
• Is the student a degree candidate attending school half time or more? ATTENDING HALF TIME OR MORE

Third 1099Q shows student as recipient.  This reflects the money that was sent directly to the school.  Box 1  $23044

Box 2 $9305

Box 3 13,739.81

Box 5 State

No other boxes checked.

[Hal_Al · Accepted solution]

Your qualified educational expenses (QEE) are $46,763 + 12,000 + 1889 = 60,652 .

60, 652 -22,000 scholarship = 38,652 Adjusted QEE

Your total 529 Plan distributions are $11,000 +12,889 + 23,044 = 46,933

$46,933 - 38,652 = $8281 shortfall in QEE

Assign that to the 1099-Q with the lowest percentage earnings. 8281/12,889 = 64.24% of earnings are taxable. 0.6424 x 5021 = $3225 Reportable earnings income 

The alternative is to have the student report $8281 of his scholarship as taxable income, freeing up all the expenses for the 1099-Qs.  Why is reporting $8281 income better than reporting $3225?? It's not just because it's gong on the  student's return, instead of the higher tax rate parent's. We had that option already (but with $4938 taxable earnings rather than 3225). 

Scholarships are a hybrid between earned and unearned income. It is earned income for purposes of the $12,950 filing requirement and the dependent standard deduction calculation (earned income + $400).  It is not earned income for the kiddie tax and other purposes (EIC. IRA contributions).  So, $8281 + $2000 DoorDash income is $10,281 and that's less than $12,950, so he will have no taxable income.  The $2000 probably has to be reported as self employment income, so he does need to file.  You want him to file, anyway, to document the reporting of the taxable scholarship. 

So, how do you enter all this in TurboTax.  Quite easily. First and foremost, do not enter any 1099-Qs, on either your return or the student's. As explained in the earlier posts, they are not required* and entering them gets messy.

On the student's return, enter a 1098-T with box 1 blank and $8281 in box 5**. Enter no other numbers. Be sure the $8281 shows up on line 8r of Schedule 1, on his tax forms

*Reference: 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." 

**The 1098-T is only an informational document. The numbers on it are not required to be entered onto your tax return. However receipt of a 1098-T frequently means you are either eligible for a tuition credit or possibly your student has taxable scholarship income. You claim the tuition credit, or report scholarship income, based on your own financial records, not the 1098-T.  Just change the numbers in boxes 1& 5 to what your records show. The 1098-T that you enter in TT is not sent to the IRS.

[ualdriver]

Hal Al-

Thanks so much for taking the time and explaining that to me, along with the entry instructions.  I think I have to sit down at my desk and digest it a bit : )  I really appreciate it.  

[ualdriver]

Hal_Al

I reviewed your answer more closely, and I also realized I made an error when I gave you information.  I hope you are still around and give me a hand with this entering in TurboTax.  The error was that the $46,763 I referred to from the 1098-T  my dependent son received INCLUDED the ~$12,000 Room and Board already.  All the other numbers stay the same.

However, following your very clear math, and following the same steps, I come up with the following:

QEE= $46,763+$1889=$48,652

Adjusted QEE = $48,652-$22,000= $26,652

Total 529 distributions = $46,993

shortfall in QEE = $46,993-26,652= $20,341 (much higher number now)

In your original answer, you suggested that I take the "shortfall in QEE" number (now $20,341) and enter it on the student's return, entering a 1098-T with box 1 blank and $20,341 in box 5.  Then I make sure $20,341 shows up on line 8r of Schedule 1 on my son's return.  I understand not to enter the one 1098-T and the 3 1099-Qs on either my nor my son's return.

Is this still the way this should be handled, with my now higher (and hopefully correctly calculated) shortfall in QEE?  

Thanks so much for your time.

@Hal_Al 

[Hal_Al]

Q. Is this still the way this should be handled, with my now higher (and hopefully correctly calculated) shortfall in QEE?  

A. No. That is no longer the best way when the taxable portion of the  scholarship (plus other earned income) exceeds $12,950. Now reporting  (at least) one of the 1099-Qs, in addition to some of the scholarship, is the best route. See more explanation at the link below.

Here's a similar case. See if you can follow the math. If not, reply back and I'll try to walk you thru it

https://ttlc.intuit.com/community/tax-credits-deductions/discussion/529-and-education-credits/00/297...

[ualdriver]

I can sorta follow the math, but it seems like that person's situation is different than mine because parental income is too high for me to claim any of the Federal education benefits and there seems to be an interplay of Federal tax credits/529 withdrawals with this sample person you reference?

In particular, after having read your linked example and other examples on the TurboTax forums, I'm not understanding the logic that allocates expenses on either the child's and/or the parent's tax return?

Also I'm wondering if Kiddie Tax will come into play?  I think I read somewhere that scholarship might be considered unearned income?

If you could walk me through my situation, that would be much appreciated!  I will write it down and then should be good for the next 6 years of college for my two kids!  

Thanks very much for your time.

@Hal_Al 

[Hal_Al · Accepted solution]

QEE= $46,763+$1889=$48,652

Adjusted QEE = $48,652-$22,000= $26,652

Total 529 distributions = $46,993

shortfall in QEE = $46,993-26,652= $20,341

(I did not check your math)

Q.  I'm wondering if Kiddie Tax will come into play?  I think I read somewhere that scholarship might be considered unearned income?

A. Answered above, scholarship is a hybrid. And yes the kiddie tax could kick in.  That can be avoided, since the 1099-Q will go on your return. 

So, starting with the $12,950 standard deduction (SD), we'll assign $10,550 of the scholarship to be taxable. $12,950 - $2000 door dash -400 (SD = earned income +$400) =$10,550.   

20,341 - 10,550 = $9791 adjusted short fall. 

9791 / 11000 = 89.01% x  4526 = $4029 taxable.  9791/ 12889 = 75.96% x 5021 = $3814.  3814 is less than 4029. So, we'll enter only the $12,889 1099-Q in TurboTax (we can consider the $11,000 1099-Q as fully covered by qualified expenses).  I did look at increasing that by $1150 (the kiddie tax threshold) . It's close but doesn't work out since the 529 earnings is a smaller number.  

On your son's return, he enters a 1098-T with box 1 blank and $10,550 in box 5. Enter no other numbers. The $10,550 should show up on line 8r of Schedule 1. 

On your return, I going to recommend a short cut. 

Enter the $12889 1099-Q. When asked who the student is answer: someone else not listed here (lying to TurboTax to get it to do what you want does not constitute lying to the IRS).  Enter the student's name when asked.  A few screens later, you'll get one simple screen to enter expenses. Press Done at the 1099-Q summary screen, to get there. Enter  $12,889 of expenses. Also enter $9791 in the box "Tax-free assistance".  This reports the earnings as taxable and claims the scholarship exception for the penalty. You do not have to deal with the complicated “Educational expenses and Scholarships” (1098-T) section later. TT will prepare form 5329 to claim the penalty exception. The $3814 will show up on line 8z of Schedule 1. 

[ualdriver]

Hal_Al

Thanks so much for doing all of that.  I appreciate it greatly.  I need to go home, sit at my desk and digest again....and take notes for next year  : )

I assume you're not a TurboTax employee, just a nice person helping people?  I hope you will let me pay it forward.....could you please respond to this post with the name of your favorite charity and I will donate $100.00 to it?  

@Hal_Al 

[Hal_Al]

Your welcome and yes, "Champs" are just volunteers who like to help. No "special thanks" needed. 

You might be interested in this new law concerning "left over" 529 money:

https://www.kiplinger.com/retirement/retirement-plans/529-plans-get-a-boost-with-tax-free-rollovers-...

https://www.journalofaccountancy.com/news/2023/mar/saving-college-new-529-to-roth-irs-transfer-rule.....

[ualdriver]

@Hal_Al 

Me again.  Still having some minor problems (I think, maybe not?), but with entry issues in TurboTax.  I followed your math just fine and took notes for next year so we're not having this conversation again : )  The math is understood and much appreciated.  It's the TurboTax entry for my return and my son's that is killing me.

OK, on my Son's return, I deleted everything have to do with education, just leaving the Schedule C info from his DoorDash income so I was starting the education section fresh and followed your excellent instructions.

I then went to the Education section of Deductions and Credits.

Visit All

Yes to "Did you have any higher education expenses in 2022"

No to beneficiary of ESA and No to did you receive a Form 1099Q (even though he did as described above)

On Your Education Expenses Summary I entered his school name, address, etc., on that page and only entered the $10,550 on Box 5 and checked "at least half time student"

Next page NO to the Tax Free benefits page

NO to the Was any financial Aid already included in income?

YES enrolled at least half time

Yes did I receive a 1098-T from Michigan Tech in 2021 (last year), NO there was no amount in Box 2

Skipped through the following pages until I got back to Deductions & Credits main page.

Did I do that correctly?  The $10,550 showed up on Schedule 1 line 8r, and summed with his Door Dash business income and carried to Form 1040 line 8, and his Federal Tax Due did not change.  However, the IL state income tax, changed by $621 as the IL return picks up his FED AGI line 11 and starts with that as taxable income.  Before he owed zero to the State of IL.  I'm wondering if I made a mistake allocating any of this to my son at all as you did not know the circumstances of my state income tax.

On my (parent) return, I deleted the entire education section to start fresh.  

Education, VISIT ALL

Did you have any higher education expenses in 2022 YES

NO to ESA, YES to Did you receive a 1099-Q

Who's Recipient on your 1099-Q, selected me parent

Next page selected Someone else not listed here for who's the student

confirm the students name entry box, LEFT EMPTY

1099-Q information- filled out all info and boxes 1,2, 3 as shown on the actual 1099-Q

IL as state sponsor

No, No to death or disability

No distribution of transfer

No refund of Education expenses

skipped through pages until "non-dependent student expenses"

entered 12889 as tuition and enrollment expenses, 9791 in the tax free assistance box

Stepped through all the "continues" and other pages that weren't pertinent to me until I got back to Your 2022 Deductions and Credits landing page

My Federal Tax Due and IL Tax did increase, so the amount was taxed.

So assuming I entered all the data correctly, should I rethink allocating anything to my son's return to avoid the IL 5% tax?  But of course if I allocate it to my return, I think I'll owe a much higher tax because I'll be paying a much higher FED tax rate as we are in a very high Federal tax bracket.

Again, thanks for your time Hal_Al.

P.S. When doing all the math you showed me for calculating the assignment of QEE between parent and child, do you use the dependent child's line 9 or line 11 from his 1040 for the child's income?

[Hal_Al]

Q Did I do son's return  correctly?  The $10,550 showed up on Schedule 1 line 8r, and summed with his Door Dash business income and carried to Form 1040 line 8, and his Federal Tax Due did not change. 

A.  Yes.

Q. I'm wondering if I made a mistake allocating any of this to my son at all as you did not know the circumstances of my state income tax.

A. No. He either pays state tax on the scholarship or you pay more  state tax on the distribution. Yes, your state tax will be less. I haven't done the math, but what the family saves in federal taxes should be much more than the increase in state tax. 

Q. students name entry box, LEFT EMPTY

A. No, enter the student's name, even though he's you dependent (it probably won't matter)

Q. My Federal Tax Due and IL Tax did increase, so the amount was taxed.

A. Verify the amount on line 8z of Schedule 1.

Q. When doing all the math you showed me for calculating the assignment of QEE between parent and child, do you use the dependent child's line 9 or line 11 from his 1040 for the child's income?

A. Line 11.  Student-dependents don't usually have adjustments, So, that's never come up before. I now see that is applicable in your case.  

[ualdriver]

@Hal_Al 

Hal-Al

Thanks for all of your help.  I think I have it all figured out.  The forms look good and the numbers appear to add up correctly.

As promised, I made a $100 donation to a charity  in "your name" (your screen name!)  to pay it forward.  See attached.

I appreciate all the time you spent helping me......Now next year you'll have to help me figure out how to enter the charitable deduction into TurboTax : )  (just kidding)