It is a bug.
TT does not "sense" that you do not qualify for a tuition credit so it allocates expenses to the credit (sometimes $4000 but usually $10,000).
The 1099-Q and the 1098-T are only informational documents. The numbers on them are not required to be entered onto your (or your student's) tax return.
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. 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.
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."
If you feel more comfortable having TT produce the work sheet, there are some things you can try:
Go through the education section again. 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. If you are eligible for the credit, change it to $4000. If not eligible, change it to 0.
Instead, in the education interview, you may reach a screen titled "Choosing a larger education Credit". Verify that TT has entered $10,000 (the amount needed to get the maximum LLC) in the box on that page. In your case, change it to 4000 or 0.
PLAN C. 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 4000 or 0. Make the change in the first column. That will automatically change the other columns.
You can't get to the worksheet to directly edit if you are using the online version of TurboTax. You would need to use the download version to edit on the form.
You can however go to Tools>>Tax Tools>>Delete a form and then delete the student worksheet which would allow you to walk back through the answers making sure you entered everything correctly.
