I redid the WHAT IF as follows: I changed the 1099-Q so that the recipient is my 529 account beneficiary (daughter).
That caused all of the following changes
ME
Federal: There are no amounts anywhere related to the distribution.
NY State:
The Federal AGI carries over to NYS, which has nothing related to the distribution
Line 22 (NY additions): 26,000 (did you want to see the worksheet data for this?)
Line 30: 0
Thus, I have 26000 added to my NY taxable income (this is the 20000 basis plus 4000 earnings).
(In essence, I am still paying the same tax to NYS as I would if I had made myself the recipient of the 529 non-qual withdrawal. Therefore, NYS is getting the same from me independent of who the money is sent to.)
DAUGHTER
Federal: Fed Sched 1 line 8z includes the earnings 4000 from the 1099-Q. Sched 2 (via Form 5329) includes the 10% penalty on these earnings, which is added to the Fed tax total.
NY State:
Fed AGI (including the 4K earnings on line 16) carries over.
Line 22 (NY addition): blank
Line 30 (NY subtraction): 4158
Therefore, NYS does not seem to tax my daughter for the earnings as Line 16 is reduced by Line 30.
I think I may have answered my original question/concern. The earnings are not taxed twice - once in my return and once in my daughter's.
But a new concern emerges as it seems that NYS does not tax my daughter for ANY part of the non-qual withdrawal. And, I am taxed by NYS on the full amount of the non-qualified withdrawal (basis plus earnings).
Perhaps the way the two returns are coupled ensures that NYS is satisfied that the tax on my return takes care of the distribution. But how would they know?
Does the way I have done the WHAT IF and the way the TT program has worked make sense to you? I want to be sure I have done it properly both legally and from a "technical" perspective using the TT program properly.
Many thanks for your response.
