All my eligible education expenses were used to claim an AOTC with none left to apply to my 529 withdrawal. Are there state tax implications to this approach?

Forum|Forum|1 year ago
February 9, 2025
2 replies
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The withdrawal came from VA state plan. Will I owe VA state taxes on the basis and earnings? The total 529 withdrawal was $3441 and, of that, roughly $2000 was earnings.

Best answer by Hal_Al

If you are not a VA resident, that changes the answer. A distribution to a non resident from a VA based 529 plan is not VA source income to you. If you do not have any other VA income, you do not need to file a VA tax return.

However that distribution is taxable income to you for your home state tax return.

SabrinaD2

Since all your education expenses were used for the American Opportunity Tax Credit (AOTC), your $2000 in 529 plan earnings is considered a non-qualified withdrawal. This means:

The $2000 is subject to federal income tax and a 10% penalty
For Virginia state taxes, the $2000 earnings are also taxable
There should be no tax on the $1441 principal since contributions were made with after-tax dollars

For more details, check out the Virginia529 Withdrawal Guide (page 6) and the IRS guidelines on 529 plans see second Q.

netenglerAuthor

Thank you! This was my fear. I am not a VA resident and have no other VA income, so filling out another state tax form is not ideal. I'm curious as to how/whether VA would ever have insight into how the 529 distribution was applied.

Hal_AlAnswer

Employee

However that distribution is taxable income to you for your home state tax return.

Hal_Al

Employee

Q. Will I owe VA state taxes on the basis and earnings?

A. Yes, but only on the earnings. Since the earnings were taxed on the federal return, the taxable amount will automatically transfer to the VA return with the federal AGI and you don't need to do anything else.