Use the following information for questions 20-21:

Karen established a 529 for her son Matt that was being used exclusively for Matts college payments. While Matt was attending college, he asked Karen for money to buy a watch. Karen agreed and withdrew an additional $4,000 from the 529, and purchased the watch for Matt in Matts name.

What is the tax treatment of this withdrawal?

Select one:

a.

The withdrawal is not taxable all 529 distributions are tax free

b.

The withdrawal is taxable. Karen must report $4,000 on her tax return

c.

The withdrawal is taxable. Matt must report $4,000 on his tax return

d.

The withdrawal is probably taxable on Karens return but the amount depends on the cost basis

e.

The withdrawal is probably taxable on Matts return but the amount depends on the cost basis

21.

Karen established a 529 for her son Matt that was being used exclusively for Matts college payments. While Matt was attending college, he asked Karen for money to buy a watch. Karen agreed and withdrew an additional $4,000 from the 529, and purchased the watch for Matt in Matts name.

Is there a penalty on the withdrawal?

Select one:

a.

No penalty is assessed distributions from 529s are tax free

b.

A penalty of $400 is assessed to Karen.

c.

A penalty will be assessed to Matt; the amount depends on the cost basis

d.

A penalty may be assessed to Karen; the amount depends on the cost basis