An Individual Retirement Account (IRA) is a popular way to save for retirement - and get a federal income tax advantage. Generally, you can take a deduction when you make a contribution to a traditional IRA (assuming you meet the criteria) and the account grows, tax-deferred while you work. You're not taxed on the income until you withdraw those funds.
Assuming that you leave your IRA alone until retirement (generally, age 59½), you only pay tax on the income as it's withdrawn. However, if you take a distribution from your IRA before age 59½, you pay tax on the income together with an 10% additional tax on the early distribution (the penalty can be higher if you make withdrawals from a SIMPLE IRA).
There are a few exceptions to the 10% penalty for early withdrawals. One often overlooked exception involves qualified higher education expenses: if you withdraw funds from your IRA to pay for education, you may be able to avoid the 10% additional tax. You will, however, still be responsible for paying the income tax due on the distribution.
To qualify for the exception, funds have to be used to pay qualified education expenses for yourself, your spouse, or your or your spouse's child(ren) or grandchild(ren). The term child includes, for this purpose, those who are fostered or adopted.
Qualified education expenses include tuition, fees, books, supplies, and equipment required for enrollment or attendance at an eligible educational institution; room and board are included only if a student is at least half-time (limitations apply). Qualified expenses also include expenses for special needs services in connection with enrollment or attendance.
To figure what part of your distribution would be excluded from the 10% additional penalty, you have to determine your adjusted qualified education expenses (AQEE). Your AQEE is calculated by backing out other tax-free educational assistance, which includes tax-free scholarships, grants and fellowships; Pell grants; Veterans' educational assistance; tuition reimbursement; and expenses paid from a Coverdell ESA.
If the amount of your AQEE exceeds the taxable portion of your IRA distribution, then you would not be subject to the 10% additional tax. If, however, your AQEE is less than the taxable portion of your IRA distribution, the excess is subject to the 10% additional tax.
Here's a quick example. Let's say your AQEE totals $3,000 and you withdraw $5,000 from your IRA which includes $2,000 of income. Since the AQEE ($3,000) exceeds the taxable piece of the IRA ($2,000), you would avoid the 10% additional tax. The $2,000 of income is, however, still subject to income tax.
If, however, your AQEE totaled $1,500 instead, the result would be different. Since the taxable piece of the IRA ($2,000) is larger than the AQEE ($1,500), the difference ($500) is subject to the 10% additional tax. The entire taxable piece ($2,000) is also subject to income tax.
You'll report the early distribution on your federal form 1040 at line 15b. To report the amount subject to the tax as well as the excluded amounts, you'll also complete federal form 5329 (downloads as a pdf).
Of course, all of this means you'll need to keep great records. And that brings us to our next giveaway! One reader will receive the Fujitsu ScanSnap S1300i. The entire ScanSnap line has become a popular product cross the education vertical, simply by making it possible for teachers and even students to digitize any school documents from notes, to books, to flash cards, and so on.
At nearly half the size of a sheet of paper, the PC and Mac compatible ScanSnap S1300i is the smallest multi-page double-sided ScanSnap scanner for one-button ease of use at the desk or on the road. The ScanSnap S1300i can scan both sides of a page at up to 12 pages per minute directly to PDF, searchable PDF, JPEG, or to office applications like Word or Excel®. The ScanSnap S1300i automatically recognizes the size of each document, detects and corrects for skew, and shows images in their proper orientation. You can even choose to have blank pages automatically removed. It makes record keeping for purposes of tracking expenses a snap.
To enter to win, just answer this question: What's the one piece of paper you can never find in your house? I'll go first: Field trip permission slips. We're constantly losing them.
Entries must be posted in the comments section for this blog post in the space below by 10:00 p.m. EST on October 3, 2014. It's just that easy. I’ll choose one winner randomly (using a number generator) out of all of the qualifying entries.
Be sure and read the fine print for more rules because, as you know, I’m a lawyer and I like rules:
Don’t panic if your comment doesn’t show immediately. If it goes to moderation because, for example, you’re new here, the time stamp on your comment is what counts. If you have difficulty registering, please send an email to blogadmin@forbes.com and copy me (tech@taxgirl.com) so that I can help if I need to/can.
I love my
Twitter followers and my Facebook fans but for this particular giveaway, tweets and Facebook comments will not be counted. Ditto for emails. You must leave your comment on the blog at this post.You can enter as many times as you like but you must leave a different answer each time you comment.
Offensive comments or comments that otherwise violate the comment policy will be deleted and will not be considered valid for purposes of the contest. Similarly, pingbacks and other links will be disregarded for purposes of the contest.
I will need your full name and your email address: be sure to use your real information when you register to leave a comment. I won’t publish your email address but I do need contact information for the winning entry. If you win and I can't reach you, it's a forfeit.
Due to shipping considerations, you must have a valid United States address. Sorry, Canada, eh?
I respect your privacy and I will not send you anything unrelated to your entry in this contest. By entering the contest, you agree that I may post any part or all of your submission including your name as a part of the contest announcements or promotions, with the exception of your email address.
Like Judge Judy, my determination is final.
Prizes are provided directly by our sponsors and are not exchangeable or redeemable for other prizes. Sponsors do not pay for placement and do not receive any compensation for contributions – neither do I! I have no affiliation, paid or otherwise, with any of our sponsors.
If you aren't allowed to participate in giveaways because of the laws in your state or your age or an agreement you've made with your mother, consider this giveaway not applicable to you. In other words: void where prohibited or restricted.
Finally, the giveaway is about me, me, me. It’s not affiliated with or endorsed by Forbes. So leave them out of it, okay?
Comment away! And thanks for participating in Back To School 2014!
