Q. When you’re explaining the 4000 and 7000 where are those amounts coming from? He has 6000 as tuition expenses and 9000 in scholarships, giving the 3000 difference.
A. Yes, he starts out with $3000 of taxable income. But to allow you to claim the AOTC, he ups that to $7000. Effectively, he re-allocates $4000 of scholarship money from Tuition to Room & board (or other expenses).
Here's my standard reply (example modified for your numbers):
There is a tax “loop hole” available to claim an education credit, for the parents of students on scholarship. The student reports all his scholarship, up to the amount needed to claim the American Opportunity Credit (AOC), as income on his return. That way, the parents (or himself, if he is not a dependent) can claim the tuition credit on their return. They can do this because that much tuition was no longer paid by "tax free" scholarship. You cannot do this if the conditions of the grant are that it be used to pay for qualified expenses.
Using an example: Student has $9,000 in box 5 of the 1098-T and $6000 in box 1. At first glance he/she has $3000 of taxable income and nobody can claim the American opportunity credit. But if she reports $7000 as income on her return, the parents can claim $4000 of qualified expenses on their return.
Books and computers are also qualifying expenses for the AOC. So, extending the example, the student had another $1000 in expenses for those course materials, paid out of pocket. She would only need to report $6000 of taxable scholarship income, instead of $7000.
