Numbers matter and how things are assigned. Example:
box 1 tuition is $20,000
box 5 scholarship is $25,000
529 is $15,000
Something has to be taxable, but the amount and which return can vary.
Options are:
1. Entire scholarship covers education costs, $5,000 income to student, entire $15,000 529 taxable to owner. Yuck!
2. Entire 529 used for education expenses plus $5k of scholarship. Leaves $20k income to student. Yuck!
3. Entire 529 used for education plus $1k of scholarship, leaves $4k education paid out of pocket for AOTC credit. Student reports $24k not used for education. Worse!
4. 529 used $10k for room and board, $5k to cover education expenses, scholarship covers $15k tuition, leaves $10k income to student. 529 not reported, $10k income to student, winner so far!
5. Some maneuvering of the numbers between to find the sweet spot (as required by IRS).
Things to remember are:
Most people are always trying to reduce their income so they subtract box 1 from box 5 and enter the difference. People get a certain mindset, reduce income and making the jump to increase credits is hard for them.
See page 52 for qualified distributions at IRS Publication 970, Tax Benefits for Education.
Please see my 529 example with IRS information here.
Tax Benefits for Education: Information Center| IRS
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