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taxmap/pubs/p970-042.htm#TXMP2d759b3b Figuring the Amount Not Subject to the 10% Tax(p53)

Figuring the Amount Not Subject to the 10% Tax

To determine the amount of your distribution that is not subject to the 10% additional tax, first figure your adjusted qualified education expenses. You do this by reducing your total qualified education expenses by any tax-free educational assistance, which includes:

• Distributions from a Coverdell education savings account (ESA) (see chapter 7),
• The tax-free part of scholarships and fellowships (see chapter 1),
• Pell grants (see chapter 1),
• Veterans' educational assistance (see chapter 1),
• Employer-provided educational assistance (see chapter 11), and
• Any other nontaxable (tax-free) payments (other than gifts or inheritances) received as educational assistance.

Do not reduce the qualified education expenses by amounts paid with funds the student receives as:

• Payment for services, such as wages,
• A loan,
• A gift,
• An inheritance given to either the student or the individual making the withdrawal, or
• A withdrawal from personal savings (including savings from a qualified tuition program (QTP)).

If your IRA distribution is equal to or less than your adjusted qualified education expenses, you are not subject to the 10% additional tax.

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Example 1.(p54)

In 2007, Erin (age 32) took a year off from teaching to attend graduate school full time. She paid $5,800 of qualified education expenses from the following sources.

	Employer-provided educational assistance m(tax free)	$1,500
	Early distribution from IRA m(includes $500 taxable earnings)	3,200
	Savings account	1,100

Before Erin can determine if she must pay the 10% additional tax on her IRA distribution, she must reduce her total qualified education expenses.

	Total qualified education expenses	$5,800
	Minus: Tax-free educational assistance	−1,500
	Equals: Adjusted qualified meducation expenses (AQEE)	$4,300

Because Erin's AQEE ($4,300) are more than her IRA distribution ($3,200), she does not have to pay the 10% additional tax on any part of this distribution. However, she must include the $500 taxable earnings in her gross income subject to income tax.

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Example 2.(p54)

Assume the same facts as in Example 1, except that the assistance from Erin's employer was delayed (not received until July 2007), so she withdrew $4,500 from her IRA instead of the smaller amount. This included $700 of taxable earnings, which must be included in her income subject to income tax.

Erin's IRA distribution ($4,500) is larger than her AQEE ($4,300). Therefore, she must pay the 10% additional tax on $200, the amount of her distribution ($4,500) that is more than her qualified education expenses ($4,300), but not more than the taxable amount of her distribution ($700). She does not have to pay the 10% additional tax on the remaining $500 of her taxable distribution.

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Example 3.(p54)

Assume the same facts as in Example 1 and Example 2, except that Erin's early distribution from her IRA was $5,500 (including $850 of taxable earnings). The excess of her distribution ($5,500) over her qualified education expenses ($4,300) is $1,200. Because the excess distribution ($1,200) is greater than the taxable earnings ($850), Erin must pay the 10% additional tax on the entire $850 of taxable earnings.

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