The good news is none of the 1099-Q needs to be taxable to get the LLC, if the student declares enough of the scholarship as taxable. Technically none of the scholarship gets taxed because of the student's standard deduction*. But the unearned income gets taxed more (about $27 more tax vs. about $265 on your return for the 1099-Q).***
This is how you enter, in TurboTax (a workaround):
- Don't enter either of the 1099-Qs. They're not taxable**.
- On the student's return, enter the 1098-T with box 1 blank and $10,000 in box 5
- On the parent's return, enter the 1098-T with $10,000 in box 1 and box 5 blank.
The math (You should check my math , I only did it once):
6353 - 275 (allocated to ESA) = $6078 R&B
27,008 -15,750 = 11,258
11,258 + 6078 = $17,336 Total QEE (which is exactly the amount of the 529 1099-Q)
So, we make $10,000 of the scholarship taxable, so we can claim $10,000 tuition for the LLC.
*Scholarships are a hybrid between earned and unearned income. It is earned income for purposes of the $13,850 filing requirement and the dependent standard deduction calculation (earned income + $400, up to $13,850). It is not earned income for the kiddie tax and other purposes (e.g. EIC). She needs to file a tax return because the unearned income is more than $1250. Declaring the scholarship taxable actually increases the tax on the unearned income.***
**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. You would still have to do the math to see if there were enough expenses left over for you to claim the tuition credit. You also cannot count expenses that were paid by tax free scholarships. You cannot double dip!
References:
1. 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."
2. IRS Pub 970 states: “Generally, distributions are tax free if they aren't more than the beneficiary's AQEE for the year. Don't report tax-free distributions (including qualifying rollovers) on your tax return”.
***Estimated tax on student's return:
(1500 + 580) – 1250 (standard deduction) = $830 x 10% = $83 Before scholarship is taxable
(10,000 +580 + 1500) – (10,580 + 400) (standard deduction) = $1100 x 10% = $110 After
$110 - 83 = $27 More tax
Estimated tax on Parent's return:
10,000 / 17,336 = 57% x 2087 = 1204 x 22% =265
