How are withdrawals for non-qualified expenses taxed?
A 10% federal penalty tax on earnings will apply if you withdraw money for any reason other than to pay for qualified expenses. Exceptions to this penalty include a withdrawal made because the beneficiary:
- Has died or become disabled.
- Received a scholarship to an eligible education institution, to the extent the withdrawal amount doesn't exceed the scholarship amount.
- Has enrolled in an eligible U.S. service academy, to the extent that the amount of the withdrawal doesn't exceed the value of the education. Eligible academies include the U.S. Military Academy, Naval Academy, Air Force Academy, Coast Guard Academy, and Merchant Marine Academy.
Additionally, any accumulated earnings that are withdrawn from your account must also be reported on the recipient's income tax return for the year in which they're distributed, and you may owe federal, state, and local income taxes.
Contact your tax advisor to determine how to report withdrawals for other uses.