1099-Q and taxable distribution

[Debst99]

I am taking the advice on 12/07/2019 from a Level 8 champ (taxiowa) and putting the 1099-Q's earnings as taxable and taking the full AOC education credit.  It does come out to more.  Are any of the earnings subject to an additional tax?  It doesn't show up on the tax return.  Just want to make sure I am doing it right.

[garman22]

Do you mean a penalty?

[Debst99]

Yes, like a 10% penalty tax.

[TaxGuyBill]

Who is the 1099-Q issued to, the parent or the beneficiary/child/student?

Are there qualified expenses that the 529 plan can be applied to (including Room & Board)?  If the 529 plan is applied to qualified expenses (after removing the amount for the AOC) then nothing is taxable.  If there are not enough qualified expenses, then yes, part of the 529 distribution will be subject to tax and often a penalty.

[Frustrated-in-IL]

I haven’t read the original post but these things are not as simple as you made it out to be.  I have posted a lot in this.  You need to fill out the Q worksheets and link it to the T worksheets.  As TaxGuyBill said, there are qualifying expenses for Q that don’t work for T.  If parents are claiming T credits and there aren’t enough remaining expenses for Q, the recipient of the Q, which could be the parents, grandparents,student, etc. will have taxable income and possibly a penalty.

[Debst99]

If you read my post, I am making the 1099-Q taxable income because claiming the AOC education credit is more.  When would a penalty be charged.  My program put zero.

[Debst99]

If the 1099-Q is taxable, when is there a penalty.  My program is showing zero penalty.  It actually printed a zero on Form 5329.

[Debst99]

Parent-I know how to figure out everything, but I want to know if their is a penalty on the earnings, because taking the tuition as an AOC education credit.

[garman22]

Usually when distribution is not used for education expenses. 

[Debst99]

Garman 22- If there is a penalty for earnings that is taxable, why isn't it figuring it?  It is printing -0- on the Form 5329, so I can't overwrite it if I am efiling.

[garman22]

This would be my answer, since you have tuition expenses (even tho you chose to use the credit) the system recognizes the fact there were expenses for school and thus the penalty is not imposed. 

Thats how I interpret the law.

[Debst99]

So no penalty?  If there is, I would have to override the zero and I won't be able to efile.

[Terry53029]

here are exceptions to penalty.

Certain nonqualified distributions are not subject to the penalty. These include amounts distributed:

• On account of the designated beneficiary's dying or becoming disabled;
• To reflect receipt by the designated beneficiary of a scholarship or an allowance or payment described in Sec. 25A(g)(2) — in other words, if the student is refunded money because he or she receives scholarships or the other specified forms of assistance, the plan need not impose any penalty on refunded earnings;

[TaxGuyBill · Accepted solution]

On the 1099-Q worksheet, scroll WAY down to the very bottom.  You'll see the exceptions to the penalty and you'll want to pay particular attention to 2(e).

[Frustrated-in-IL]

Okay here goes.  Simple example.  Qualifying Q expenses, which include the qualifying T expenses, are $20000.  Q form shows gross distribution of $20000.  $4000 of tuition which is included in the qualifying Q expenses used for T.  RESULT:  The recipient of the Q form has some taxable Q earnings but NO penalty.

As contrasted with:

Qualifying Q expenses, which include the qualifying T expenses, are $16000.  Q form shows gross distribution of $20000.  $4000 of tuition which is included in the qualifying Q expenses used for T.  RESULT:  The recipient of the Q form has some taxable Q  earnings AND a penalty.

[Debst99]

Thank you frustrated.  Here is my client's information.  It sounds like your second scenario but it is not figuring a 10% penalty. 1099-Q is Gross Distribution=$4621, Earnings=$1691 and Basis=$2931.

My client's dependent had $5215 qualified education expenses, so I used $4000 of that for him to qualify for the $2500 AOC.  Bill from Iowa that posted in 2019 about this said to use all the tuition first because that would be a bigger refund, which it does.

On Form 5329, it reports $1691 as taxable distribution and zero penalty on lines 7 & 8.  If he is subject to a penalty, why is it doing zero.  I would have to override it to change it and it won't be able to be efiled.

[Frustrated-in-IL]

Okay, so lets walk through this.  You have $5215 of qualifying Q expenses.  First step is to make sure they are also qualifying T expenses.  The ProSeries T worksheet is good.  You are looking at costs such as tuition, required fees, books, but NOT room and board.  Assuming you have $4000 of T expenses, and you use those for the credit, you now only have $1215 of remaining Q expenses.  But if you didn't take the credit, your qualifying expenses would have been MORE than the Q gross distribution of $4621.  In this case, there is NO penalty.  You do NOT get penalized for choosing one federal benefit over another federal benefit.  However, in your case, you have entered something wrong as all $1691 will NOT be taxable.

The recipient of the Q will end up with taxable income.  Make sure the Q worksheets and the T worksheets are linked together and the program will compute this perfectly.  If this is a  situation where the dependent got the 1099Q and you are doing that return also, re-enter the exact same info on their Q and T worksheets.  The program will not compute a credit because you will have the person marked as a dependent but it will result in the exact same amount of the taxable Q.  If it isn't exact, you entered something wrong.

This gets more complicated if there is more than one Q going to more than one person, but the concept is identical. The program will tell you for each Q how much each recipient will be taxed on.  AND THIS IS VERY IMPORTANT: if there is more than one Q going to more than one person, the ONLY way to compute this properly is to enter every Q, even grandma's who lives 500 miles away and uses TurboTax.

[Debst99]

Thank you TaxGuyBill.  I finally got my answer.