A great question. Many people ask the question: Why do we even have to show tax exempt income on a tax return if it's not taxable? While tax exempt income does not increase your AGI (Adjusted Gross Income), it does increase your MAGI, (Modified Adjusted Gross Income). You may want to Goggle (MAGI) since it it used many places to limit certain deductions and credits. One example is that it can increase the amount of taxable SS income that is taxable. There are many places that use the MAGI number and I think that this is why your refund went down when you put in the exempt income.