Q. What am I missing?

A. Several  things:

1. You haven't entered enough expenses to offset the $11,188 distribution. 

2. It is usually best to allocate some of the tuition expenses to the education credit, rather than the 529 distribution.

3. The 1099-Q is  only an informational document. The numbers on it are not required to be entered onto your (or your student's) tax return. The interview is complicated and it's easy to make mistakes. Avoid it if you can.

See the full explanation below the line. 

Provide the following info for more specific help:

• Are you the student or parent.
• Is the  student  the parent's dependent.
• Box 1 of the 1098-T
• box 5 of the 1098-T
• Any other scholarships not shown in box 5
• Does box 5 include any of the 529/ESA plan payments (it should not)
• Is any of the Scholarship restricted; i.e. it must be used for tuition
• Box 1 of the 1099-Q
• Box 2 of the 1099-Q
• Who’s name and SS# are on the 1099-Q, parent or student (who’s the “recipient”)?
• Room & board paid. If student lives off campus, what is school's R&B on campus charge. If he lives at home, the school’s R&B “allowance for cost of attendance” for student living with parents.
• Other qualified expenses not included in box 1 of the 1098-T, e.g. books & computers
• How much taxable income does the student have, from what sources
• Are you trying to claim the tuition credit (are you eligible)?
• Is the student an undergrad or grad student?
• Is the student a degree candidate attending school half time or more?

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Qualified Tuition Plans  (QTP 529 Plans) Distributions

General Discussion

It’s complicated.

For 529 plans, there is an “owner” (usually the parent), and a “beneficiary” (usually the student dependent). The "recipient" of the distribution can be either the owner or the beneficiary depending on who the money was sent to. When the money goes directly from the Qualified Tuition Plan (QTP) to the school, the student is the "recipient". The distribution will be reported on IRS form 1099-Q. 
The 1099-Q gets reported on the recipient's return.** The recipient's name & SS# will be on the 1099-Q.
Even though the 1099-Q is going on the student's return, the 1098-T should go on the parent's return, so you can claim the education credit. You can do this because he is your dependent.

You can and should claim the tuition credit before claiming the 529 plan earnings exclusion. The American Opportunity Credit (AOC or AOTC) is 100% of the first $2000 of tuition and 25% of the next $2000 ($2500 maximum credit). The educational expenses he claims for the 1099-Q should be reduced by the amount of educational expenses you claim for the credit.
But be aware, you can not double dip. You cannot count the same tuition money, for the tuition credit,  that gets him an exclusion from the taxability of the earnings (interest) on the 529 plan. Since the credit is more generous; use as much of the tuition as is needed for the credit and the rest for the interest exclusion. Another special rule allows you to claim the tuition credit regardless of whose money was used to pay the tuition.
In addition, there is another rule that says the 10% penalty is waived if he was unable to cover the 529 plan withdrawal with educational expenses either because he got scholarships or the expenses were used (by him or the parents) to claim the credits. He'll have to pay tax on the earnings, at his lower tax rate (subject to the “kiddie tax”), but not the penalty.

Total qualified expenses (including room & board) less amounts paid by scholarship less amounts used to claim the Tuition credit equals the amount you can use to claim the earnings exclusion on the 1099-Q. 
Example:
  $10,000 in educational expenses(including room & board which is only qualified for the 1099-Q)

   -$3000 paid by tax free scholarship***

   -$4000 used to claim the American Opportunity credit

 =$3000 Can be used against the 1099-Q (on the recipient’s return)

Box 1 of the 1099-Q is $5000

Box 2 is $2800

3000/5000=60% of the earnings are tax free; 40% are taxable

40% x 2800= $1120

There is  $1120 of taxable income (on the recipient’s return)

**Alternatively; you can just not report the 1099-Q, at all, if your student-beneficiary has sufficient educational expenses, including room & board (even if he lives at home) to cover the distribution. You would still have to do the math to see if there were enough expenses left over for you to claim the tuition credit. Again, you cannot double dip!  When the box 1 amount on form 1099-Q is fully covered by expenses, TurboTax will enter nothing about the 1099-Q on the actual tax forms. But, it will prepare a 1099-Q worksheet for your records, in case of an IRS inquiry.

On form 1099-Q, instructions to the recipient reads: "Nontaxable distributions from CESAs and QTPs are not required to be reported on your income tax return. You must determine the taxability of any distribution." 

***Another alternative is have the student report some of his scholarship as taxable income, to free up some expenses for the 1099-Q and/or tuition credit. Most people come out better having the scholarship taxable before the 529 earnings. A student, with no other income, can have up to $14,600 of taxable scholarship (in 2024) and still pay no income tax. 

Box 1 of Form 1098-T typically includes scholarships and grants.  If that is the case, then only $3,594 of the $9,481 in payments qualifies for the favorable tax treatment.  In order for the remaining $7,594 of the 529 distribution to be tax and penalty free, you will have to report other qualified education expenses.  Education expenses that qualify for free withdrawals include tuition and fees, room and board, books and supplies, and computers,  For more information on expenses that qualify (and those that don't) see the following:  529 Qualified Expenses: What Can You Use 529 Money For?   

In addition, any payments that are treated as a tax free withdrawal from a 529 Plan cannot also be applied towards an education credit.

Your answer makes no sense to me.  We paid $11,188 (box 1 of 1099-Q) from the Fidelity 529 plan directly to the university.  My questions are:

1. Where does the $2,370.23 (box 2 of 1099-Q) come from?  Is this a portion of the $11,188 that is potentially taxable?

2. Why is the university saying the payments were $9,481 (box 1 of 1098-T) when in fact we paid $11,188?

3. Are you saying that $5,857 (box 2 of 1098-T) is included in $9,481?  I don't think that is correct.  Again, why would they charge us $11,188 if that is the case?

4. The other numbers you've mentioned in your answer: $3594 and $7594... how did you calculate them? 

Regards.

1. Yes the earnings are taxable IF they weren't used on qualified expenses. There is a formula to calculate AQEE and the taxable portion. Let's see if we can get to nothing taxed instead.

2. The 1098-T is an informational form. I found the students actual bursar account and my money paid to the college were better when audited.

3. Box 2 is supposed to be the amount billed. This can be using any accounting method the college wants as long as they use the same one each year. We have no way of knowing their thought process other than, this is what they claim they billed - maybe it was after scholarships on their side? You could ask the school. Again, your paperwork trail is your best defense.

4. If you are talking to Hal_Al somewhere in another chat, expect excellent answers. I don't see any calculations with David's numbers.

From what I see, I would imagine the entire Q can probably go towards 529 for Room and Board which includes kids living at home and off campus. Next, determine if you qualify for a credit. You cannot claim the credit if your MAGI is over $90,000 ($180,000 for joint filers). If you qualify, then you want to shift $4k to tuition covered by you and let the student claim everything else.

There are a lot of variations and I can play the what if game longer but this gets you started and you can always reply back with more facts.  

Step 1 - do you need the 1099Q to be reported? 

Step 2 - do you qualify for education credit?

Step 3 - $9481 of tuition, either goes against scholarship income or is split to be used for credit.

Q. Where does the $2,370.23 (box 2 of 1099-Q) come from?

A. Fidelity calculates that for you. It is the portion of this distribution than comes from earnings, not your contributions.

Q. Is this a portion of the $11,188 that is potentially taxable?

A. Yes

Q. Why is the university saying the payments were $9,481 (box 1 of 1098-T) when in fact we paid $11,188?

A. Box 1 is only Tuition and fees. No room and board, books or other expenses, including a computer. 

Q.  Are you saying that $5,857 (box 5 of 1098-T) is included in $9,481? 

A. Yes. Box 1 is total tuition and fees, regardless of what money paid for them.  The assumption is that the scholarship money went to tuition and fees.

Q. Again, why would they charge us $11,188 if that is the case?

A. Because the $11,188  includes all expenses, tuition and fees after scholarship plus room & board. 

Q.  The other numbers you've mentioned in your answer: $3594 and $7594... how did you calculate them? 

A.  Probably (the numbers are off a little) : 9481 - 5857 = 3594 and 11188 -3594 = 7594.

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There are three things you can do with your Qualified educational expenses (QEE):

1. Allocate then to scholarships (so that the scholarship remains tax free)
2. Use them to claim an education credit
3. Allocate them to the 529 distribution (1099-Q) so that it will not all be taxable

TurboTax allocates QEE, in that order, but it doesn't do a very good job if you want something different. TurboTax allocates QEE, in that order, until you tell it otherwise.  It's best if you have some idea of the outcome expected, when you make your entries. Enter the 1099-Q before you enter the 1098-T. In addition to entering numbers, you must complete the “Education Information” sub-section. In particular, be on the lookout for a screen “education expenses used for a tax credit”. It will usually be prepopulated (sometimes with $10K instead of the more appropriate $4K). You can change it for the amount you want to allocate to the ed credit, including changing it to 0.

If you are not eligible for the tuition credit [MAGI is over $90,000 ($180,000 for joint filers)], then you can just not enter the 1099-Q and avoid all this. The fact that you sent the $11,188 directly to the school (and got no refund) is all the proof you need that you paid QEE with the distribution. 

The 1099-Q is  only an informational document. The numbers on it are not required to be entered onto your (or your student's) tax return. The interview is complicated and it's easy to make mistakes. Avoid it if you can and you can. 

You can just not report the 1099-Q, at all, if your student-beneficiary has sufficient educational expenses, including room & board (even if he lives at home) to cover the distribution. When the box 1 amount on form 1099-Q is fully covered by expenses, TurboTax will enter nothing about the 1099-Q on the actual tax forms. But, it will prepare a 1099-Q worksheet for your records (you don’t need it). You would still have to do the math to see if there were enough expenses left over for you to claim the tuition credit. 

References:

1. On form 1099-Q, instructions to the recipient reads: "Nontaxable distributions from CESAs and QTPs are not required to be reported on your income tax return. You must determine the taxability of any distribution." 
2. IRS Pub 970 states: “Generally, distributions are tax free if they aren't more than the beneficiary's AQEE for the year. Don't report tax-free distributions (including qualifying rollovers) on your tax return”.
3. "IRS Publication 970, Tax Benefits for Education states: If the entire 1099-Q went to qualified expenses, room and board, tuition, etc; then, you do not need to enter the form." 

"It's best if you have some idea of the outcome expected, when you make your entries"

If I knew the outcome, why would I need the TurboTax software???

"The 1099-Q is  only an informational document. The numbers on it are not required to be entered onto your (or your student's) tax return."

Well, on the 1099-Q form, it says:

"This is important tax information and is being furnished to the IRS.  If you are required to file a return, a negligence penalty or other sanction may be imposed on you if this income is taxable and the IRS determines that it has not been reported." 

I don't want to take the chance of not reporting it and later on be liable for back taxes, fees, and interest.

Overall, your answer has not been helpful.  I haven't learned anything new from this conversation.  TurboTax has all my data and all my son's data, and yet it can't figure out what the right thing to do is.  I agree that the the tax law is complicated, but the expectation is for the TurboTax software to deal with it, and not put the burden on the tax payer.

There isn't a right thing to do because each situation is unique.  The IRS has a great brochure that explains how scholarships and tax credits interact. Since scholarship income can end up creating income for the  the Kiddie Tax that is another facet to consider along with which parents qualify for a credit. There are too many moving parts to say "this is the path".

Since we don't know your circumstances, your child's income, your qualifications, etc, we can only offer the basics. 

The IRS also says a nontaxable transaction should not be entered.  IRS Publication 970, Tax Benefits for Education states:

Page 45: Don't report tax-free distributions (including qualifying rollovers) on your tax return.

The education section of the return is quite complicated starting with something as simple as when to repot a form.

I have read most of those documents, and compared to the examples given, our case seems to be pretty straight forward:

- We claim our son as a dependent. I think that is what we have to do, even if he files separately. 

- We don't qualify for the education credit because of the income limit.  So, I suspect both 1098-T and 1099-Q could go on his tax return forms.

- After the scholarships, the remaining $11, 188 is what the university asked us to pay.

- All of $11,188 was paid from the 529 plan to the university directly.

Since that money went directly to the university for his tuition and room and board, we expect to pay nothing in taxes on the earnings of $2370.  How do I enter the forms in TurboTax for that to happen?

When I enter both forms on my son's return, he ends up with additional income of $1,602 from Schedule 1.

Q. Since that money went directly to the university for his tuition and room and board, we expect to pay nothing in taxes on the earnings of $2370.  How do I enter the forms in TurboTax for that to happen?

Good, you know the expected outcome. 

Delete the 1098-T and 1099-Q you already entered  Re-Enter the 1099-Q  before you enter the 1098-T, Otherwise you won't get the room and board screen.  You will not get a screen  to enter 
total amount paid ($11,188).  By entering the 1098-T, you effectively enter the $3624 tuition you paid (9481-5857).  Then you enter your other education expenses (R&B, books and a computer).  You must also  complete the “Education Information” sub-section. In particular, be on the lookout for a screen “education expenses used for a tax credit”. It will usually be prepopulated (sometimes with $10K instead of the more appropriate $4K). You can change it for the amount you want to allocate to the ed credit, $0, in your case.  When the box 1 amount on form 1099-Q is fully covered by expenses, TurboTax will enter nothing about the 1099-Q on the actual tax forms. But, it will prepare a 1099-Q worksheet for your records. 

If that fails, just delete the 1099-Q and 1098-T, as you know you have nothing to report about education on either your or the student's returns. 

It's not clear why your son is even filing a tax return.  If he has enough income to have a tax liability, having him claim the education credit may be an option. 

There is a provision that allows your student-dependent to claim a federal tuition credit, from a practical matter it seldom works out.  A full time student, under age 24, is only eligible for the refundable portion of the American Opportunity Credit (AOTC) if he/she supports himself by working. He cannot be supporting himself on student loans & grants and 529 plans and parental support.   

But, if the student actually has a tax liability, there is a provision to allow him to claim a non-refundable tuition credit. But then the parent must forgo claiming the student as a dependent, and the $500 other dependent credit.  The student must still indicate that he can be claimed as a dependent, on his return. This is worth up to $2500 (AOTC shifts to all non refundable).  In your case, you would re-allocate some tuition from the  529 distribution to the AOTC. The 529 distribution earnings become partially taxable.  Still, the family usually comes out ahead.