Tax time is upon us and with it, questions about form 1098-t. This is the form colleges use to report qualified expenses. The 1098-t is sent to any student who (or on whose behalf were) paid qualified education expenses.
Colleges can report expenses two ways: If the expense is reported in box 1, the college is reporting amounts received. If it’s reported in box 2, the college is reporting amounts billed. The college chooses which one it reports. Good news: the college will report either box 1 or box 2 consistently each year your student attends.
The 1098-t has two purposes:
- It tells you how much you can withdraw from a qualified account (such as a 529) in the year without penalty.
- It shows the amount you may be able to deduct for one of the available education tax credits (AOTC, Lifetime Learning, or tuition and fees deduction).
However, those amounts are treated slightly differently. Your 529 withdrawals need to match expenses for the year in which the expense was incurred. Box 1 is best for calculating 529 withdrawals. However, tax credits are based on the “Academic Period” which includes any term that starts within 3 months of the start of the year. So you can claim tax credits based on your payments, as long as the payments were made for an academic term that starts early the following year. So your December payment for spring semester’s tuition might be eligible for a tax credit, but not for a 529 plan withdrawal. Box 2 matches more closely with the Academic Period for tax credit purposes.
Remember, too, you can’t “double-dip” on tax benefits. Which means, you can’t use 529 plan funds to pay for an expense for which you took a tax credit. And the order of figuring this out is: First you subtract any expenses for which you’re taking a tax credit, then you can use qualified funds (529 accounts) for the balance, or “adjusted qualified higher education expenses” or AQHEE. So if you had $20,000 in qualified expenses and used $4,000 to claim the AOTC, $16,000 remains for qualified (tax- and penalty-free) 529 withdrawals.
For whom does this matter the most? People who qualify for the maximum tax credits AND have substantial assets in a 529 plan. If that’s you, consult with a tax preparer to determine how much to withdraw from your 529 plan.
In summary: Use calendar year payments to determine how much you can withdraw from your 529 plan. Use the Academic Period to calculate tax credits. There will be some overlap each year. And check whether your school reports in box 1 or box 2.
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Q: We have a small 529 we’ve yet to tap for our 2nd-year student. Our student’s 2017 tuition/fees minus scholarships/grants is only $4,050. After taking the AOTC, our remaining AQHEE is only $50. Are we safe in assuming that any 529 withdrawals in 2018 will be tax free so long as they don’t exceed that $50 balance + cost of books, supplies, computer equipment + room and board (qualified 529 expenses) in one calendar year? (We are cash income tax filers, if that matters.) As long as we stay under that amount, can we tap the entire 529 at one time?
Yes, that’s correct. If you’re concerned about exceeding that, make sure the distribution goes to your student so it’s taxed at his/her rate if any portion of the distribution is non-qualified.