President’s Message • Capitol Corner

Tax Court Corner • National Conference Info • May Meeting Highlights

NAEA PAC • GR Fly-In Day Recap • Sec. 529 Distributions

Vol.30 No.4 july • august 2012

Bonus Home CE Te

st

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WWW.NAEA.ORG • THE NATIONAL ASSOCIATION OF ENROLLED AGENTS

3 President’s Message: The Good, the Bad, and The Ugly By Frank Degen, EA, USTCP

4 PAC Contribution Form

6 Capitol Corner: Why Don’t You Let a Professional Handle That? By Robert Kerr

8 NAEA Members Take Capitol Hill By Robert Kerr

10 Your Questions Answered: Qualified Tuition Plan Distributions By Gil Charney, CPA, CFP®

32 Tax Court Corner: Qualified Interest Expense Deductions By Steven R. Diamond, CPA

35 Bonus Home CE Test

42 National Conference Info & Registration

54 May Meeting Highlights

EA Journal StaffPUBLISHERMichael S. Nelson, CAEmnelson@naea.org

EDITORDebra Yerys, EAdyerys@aol.com

MANAGING EDITORMargaret Mitchellmmitchell@naea.org

TECHNICAL REVIEWERArt Larson, EAartlarson@earthlink.net

CE TEST REVIEWEREvan Golar, EA, CPAgolarcpa@aol.com

PUBLICATION DESIGNBates Creative Groupinfo@batescreativegroup.com

ART DIRECTORJen Fosejen@batescreativegroup.com

GRAPHIC DESIGNERGretchen Braungretchen@batescreativegroup.com

EA Journal (ISSN #1091-8256) is published bi-monthly for $200 per year (membership and associate dues include subscription price) by the National Association of Enrolled Agents, 1120 Connecticut Ave, NW, Suite 460, Washington, DC 20036, 202/822-6232, email: mmitchell@naea.org, online: www.naea.org. Periodicals postage paid at Washington, DC 20036 and at additional mailing offices. This publication is designed to provide accurate and authoritative information on the subject matter covered. It is distributed with the understanding that neither the publisher nor the author is engaged in rendering specific legal, tax, or account-ing advice or other professional services. Only a qualified professional with all the facts at his or her disposal can determine the appropriateness of the application of any law to a given fact situation. If assistance is required, a competent professional should be consulted. © 2012 by the National Association of Enrolled Agents. Materials may not be reproduced without written permission. Postmaster: Send address changes to: EA Journal, 1120 Connecticut Ave, NW, Suite 460, Washington, DC 20036.

152012 NAEA National

Conference With articles from:

Eric Green, Esq.Alice Orzechowski, EA, CPA

David Miles, EA Inside This Issue

10 J u ly • Au g u s t 2 012

By Gil Charney, CPA, CFP®

Your Questions Answered

The 2011–2012 academic year is behind us, and many students and parents have received, or will soon receive, tuition bills for the fall semester. The array of tax benefits for education is broad, but a deep dive into any one of them will reveal

complexities that require research. We are all familiar with Sec. 529 accounts, but clients’ questions and situations can challenge even the most experienced tax practitioner.

A: Distributions taken from a 529 account (qualified tu-ition plan (QTP)) are tax-free to the extent they are used to

pay for qualified education expenses (net of any other education expense dollars used to claim other tax benefits and after any tax-free scholarships are applied). For QTP purposes, qualified education expenses include tuition and fees; books,

equipment, and materials required by the college; and room and board if the student is at least a half-time student.1 The taxable portion of any nonqualified distribution is determined by prorating the nonqualified education expenses to the total distribu-tion taken (See example). This percentage is then applied against the earnings por-tion of the distribution to determine the taxable amount.

If the client received a partial refund of tuition and fees, that part retained by the college is a qualified education expense even though the daughter never completed the semester. As for room and board, the Form 1098-T (Tuition State-ment) that your client received should show whether the college considered his daughter at least a half-time student (Box 8 would be checked). If the box is not checked, the room and board is not a qualified expense.

Here is a simplified example of the calculation for the client’s tax return. Assume the taxpayer has tuition of $10,000; room and board of $5,000; and books, equipment, etc. of $800. Assume also that $1,000 of the tuition was refund-ed. The taxpayer took a QTP distribution of $17,000, of which $15,000 was basis and $2,000 was earnings. There were no other education expenses or QTP distributions taken during the year.

If the student was at least a half-time student (with room and board included as a qualifying expense for QTP distribu-tions), qualified education expenses (QEE) total $14,800 ($10,000 tuition + $5,000 room and board + $800 books – $1,000

Q: My client’s daughter enrolled at State University in August 2011 and was taking a full course load until

she was injured in a car accident in October. She is doing okay now, but she had to withdraw from classes for the rest of the semester. Even though the period to receive a refund had already expired, the university did provide a partial refund of my client’s tuition and fees because of the circumstances. However, the university could not refund any of the dorm fees. The client had taken a distribution from his 529 account in August to pay for all tuition, fees, dorm expenses, meal plan, etc. Is there any relief for my client from a penalty? How would I determine qualified education expenses when tuition was refunded?

Qualified Tuition Plan (Section 529) Distributions

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B L A N K B L A N KY o u r Q u e s t i o n s A n s w e r e d

A:You will need to have your client check the fine print of the QTP, and there may be certain state restrictions

on any tax benefits allowed at the state level. However, from a federal tax perspective, as long as distributions taken from the QTP are

used to pay for qualified education expenses, earnings on such distributions are excludible from federal taxable income.

Parents with a college-bound high school senior—or a child who is already in college—may be facing four to five years of college expenses before the child graduates

from college. Therefore, funding a QTP while a child is in college is not unreason-able, although parents may want to consider more conservative investments within the QTP because of the short time horizon. Parents who continue to make contributions to QTPs during their child’s early college years will need to plan carefully for a child’s senior year at college (especially if he does not have graduate school plans). If the child completes his higher education and there is an excess of QTP dollars over qualified education expenses and no other beneficiary to whom the QTP can be transferred, quali-fied distributions from the QTP cannot be made without exposure of the distributed earnings to tax, plus a 10 percent penalty for nonqualified distributions.

Q: My clients are parents of a child who just completed his freshman year of college. The subject of college funding

came up, and they thought that since their son has already started college, they cannot continue to contribute to their son’s qualified tuition plan (QTP). Specifically, is there anything wrong with contributing to a QTP in the same year distributions are taken for the same designated beneficiary?

tuition refund). QEE is $14,800 / $17,000, or 87 percent, so the nonqualified portion is 13 percent. With a distribution of earn-ings of $2,000, the taxable portion is $260 (13% x $2,000). An additional 10 percent penalty of $26 applies to the taxable por-tion of the distribution, so Form 5329

[Part II; Additional Taxes on Qualified Plans (Including IRAs) and Other Tax-Fa-vored Accounts] must be completed if any part of the distribution is nonqualified.

If the student was not at least half-time, the cost of room and board is not a quali-fied expense, so QEE must be reduced by

$5,000 for the room and board to $9,800. With a QTP distribution of $17,000, the qualified portion is $9,800 / $17,000, or 58 percent, and the nonqualified portion is 42 percent. The taxable portion of the dis-tribution therefore is $840 (42% x $2,000), and the penalty is $84.

Q: This past December, my clients took the final distribution from their daughter’s 529 plan to pay for spring 2012 tuition. Even though tuition is a qualified education

expense, I’m concerned that to be qualified, they should have taken the distribution in 2012, the same year they paid the tuition (which they actually paid on Friday, Jan. 6, 2012). In the last few years, the taxpayers have taken distributions after paying the tuition bills, but for some reason, this year they took the distribution in the year before the qualified education expense was actually paid. They received a 1099-Q (Payments from Qualified Education Programs (Under Sections 529 and 530)) from the 529 plan administrator, but there’s nothing on the form suggesting the distribution is qualified or not.

More on page 12

B L A N K B L A N KY o u r Q u e s t i o n s A n s w e r e d

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A: Interestingly, there is no final, authoritative guidance that explicitly qualifies a distribution

from a 529 plan in a year other than when the qualified education expense is paid. In other words, your clients’ distribution in 2011 for expenses in 2012 technically may not be qualified. Several years ago, in An-nouncement 2008-17,2 the IRS proposed to allow distributions from a Sec. 529 account during a calendar year to include qualified expenses paid during that same calendar year or by March 31 of the follow-ing year. This would have been similar to the timing of education expenses under the American Opportunity Credit.3

However, final regulations on this issue are not expected, and this flexibility does not exist for Sec. 529 plans.

The decision to consider the distribu-tion qualified, and so exclude the earnings on your client’s 2011 Form 1099-Q, is your client’s and your decision. A conservative position would be to consider the distribu-tion nonqualified and include the earnings in the taxpayer’s income for 2011, along with a 10 percent penalty. However, another option would be to take the position that the distribution should be qualified on the basis of Announcement 2008-17, and disclose the treatment as such. Another option is to con-sider the distribution as qualified without disclosing the treatment. The size of the

distribution may be relevant in making this determination. EA

About the Author:

Gil Charney, CPA, CFP®, MBA is a principal tax ana-lyst at The Tax Institute at H&R Block, where he conducts research into complex tax problems and analyzes tax legislation. He also leads a team of EAs, CPAs, and tax attorneys in maintaining The Tax Institute’s Tax Research Center. He has extensive experience in consulting, research, and corporate financial management. He also has taught graduate-level courses in accounting and fi-nance and directed H&R Block’s tax training department.

ENDNOTES

1 IRC Sec. 529(e)(3)(B)2 Announcement 2008-17 http://www.irs.gov/irb/2008-

09_IRB/ar17.html#d0e28413 Reg Sec. 1.25A-5(e)(2)(i)