What Expenses Can My 529 Account Reimburse in 2017?

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529 plans are an excellent way to save for college. You can use 529 funds to be reimbursed for any “qualified education expense.” The IRS defines that as “an expense related to enrollment or attendance at an eligible education institution“.

As long as the expense is required by the educational institution, your distribution from the 529 account should be tax-free.

The IRS considers the following to be qualified education expenses, again, so long as they are required by the institution as a condition of attending that institution:

  • Tuition and fees
  • Books, supplies, and equipment
  • Expenses for special needs services as required by a special needs beneficiary
  • Expenses for room and board, so long as the student is enrolled at least half-time
  • The purchase of a computer, peripheral equipment, software, internet access, and “related services”

In an IRS audit, it is up to the tax payer to prove that 529 distributions were used for qualified expenses. For this reason, you should make sure to keep receipts of purchase or detailed records of the expense, amount, and date of purchase. This is important because if you distribute funds from a 529 account and use them for non-qualified expenses, the distribution will lose its tax-free status and the earnings portion will be subject to both income taxes and a 10% penalty.

For example, while parking passes are sometimes essential for student convenience, they are not required to attend school. If you withdrew funds from a 529 account to pay for a parking pass, the earnings portion of that withdrawal would be subject to income tax and 10% penalty.

Whenever you take a withdrawal from a 529 account, a Form 1099-Q will be issued to the beneficiary if the beneficiary is the direct recipient of the distribution or if the distribution was made to an eligible education institution for the benefit of the beneficiary. For all other distributions, a 1099-Q will be issued in the name of the account holder. This reports payments from Qualified Education Programs and distributions from a qualified tuition program. It lists the amount of total distributions and what amount of that distribution was basis and earnings.

Assuming that the funds were distributed for qualified expenses, the 1099-Q is purely informational. However, any amount of the distribution that was not used for a qualified expense will cause the earning portion of that distribution to be subject to income tax and 10% penalty.

Distributions must occur in the same year as the qualified expense. The IRS states in IRS Publication 970 that  “to determine if total distributions for the year are more or less than the amount of qualified education expenses, you must compare the total of all qualified tuition plan distributions for the tax year to the adjusted qualified education expenses”.

Distributions do not need to be itemized to make it clear what expenses they are being used for. What is important is that all of the qualified education expenses add up to at least the amount distributed. While you do not need to show the math to the IRS on your tax return, you should have the receipts so that if they do question you, you would be able to prove that your calculations were accurate.

While this may seem complex, don’t let it deter you from using a 529 account to the fullest extent possible.

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Wealth Manager

Courtney Fraser is a Wealth Manager at Marotta Wealth Manager, specializing in retirement accounts, required minimum distributions, and Roth conversions.