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Education
On your return, enter the 1099-Q, exactly as received. Follow the interview. You will have to enter the student’s name. All the numbers will be entered at the 1099-Q section (not the education expenses section) because the beneficiary is not your dependent.
When you get to the boxes, enter $13,500 for tuition*
Enter amount for room & board
Enter amount for books etc.
Enter $13,500 at Tax Free assistance*
This assumes 13,500 + room & board + books = Box 1 of the 1098-T
You need to coordinate with the student and/or his parent, if he is a dependent, in filing your taxes. In particular, it may be better for the student to declare some of his scholarship as taxable rather than you paying tax on some of your 1099-Q earnings. If he has no other income, the first $12,400 of taxable scholarship is covered by his standard deduction.
*The purpose of entering the tuition, then off setting it with scholarship ("tax free assistance") is so TurboTax (TT) will know to not calculate the 10% penalty, if some your distribution ends up being taxable. There is a penalty exception for when expenses that coulda been use for a 529 distribution were used instead for the tuition credit and/or were covered by scholarship. TT will prepare form 5329 to claim the penalty exception.
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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, but can be an Uncle/Aunt), 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 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 Tuition credit
=$3000 Can be used against the 1099-Q (usually on the student’s return)
Box 1 of the 1099-Q is $5000
Box 2 is $600
3000/5000=60% of the earnings are tax free
60%x600= $360
You have $240 of taxable income (600-360)
**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.