Scholarships, Fellowships, and Grants
The Tax Reform Act of 1986 and amendments (26 USC 17) permits the student taxpayer to exclude from his or her income, and therefore avoid taxation of, that portion of qualifying scholarships and fellowship grants spent for tuition and related educational expenses. The following are frequently asked questions regarding the Tax Reform Act of 1986 and amendments. This information is not intended as legal advice or a comprehensive statement of the law but as a general overview. Tax law is extremely complex and students with specific questions should seek advice from a tax attorney or a certified public accountant.
What Is Gross Income?
Gross income consists of all income received by a person from all sources, including but not limited to compensation for services, wages, interest, dividends, gains from the sale of property, and portions of scholarship and fellowship grants used for expenses other than tuition and related education expenses. The total gross income is that amount of income that the taxpayer reports to the IRS from which the taxpayer determines his taxable income after adjusting the amount for permitted deductions, such as charitable contributions.
Do I Qualify For The Exclusion From Gross Income?
The recipient of the qualifying grant must be an enrolled undergraduate or graduate degree candidate at an educational institution. Non-degree candidates, including postdoctoral fellows, teachers returning for additional courses not leading to a new degree, and other special students will not qualify. In some limited circumstances, students receiving special fellowships even if not enrolled at an educational institution may qualify for some exclusion. Such persons should obtain advice from a competent tax attorney or certified public accountant.
What Is A Qualifying Scholarship Or Fellowship Grant?
DEFINITION. Scholarships and Fellowships are defined by the Internal Revenue Code as grants awarded after August 16, 1986 which are paid to or for the benefit of, a student at an educational institution to aid in the pursuit of the student’s study or research. The source of these grant funds is irrelevant. Grants may be awarded by a university, college, governmental agency, charitable organization, business, or other source. Grants may be called something other than “scholarship” or “fellowship,” such as an “allowance.” Grants awarded or received prior to August 16, 1986 are subject to different tax laws and are not discussed here.
PRIMARY PURPOSE TEST. For a grant to qualify as nontaxable and excludable from gross income, the primary purpose of the grant must be to enable the student recipient to further his or her education. But where the primary purpose of the grant is to compensate the student for past, present, or future services closely directed or supervised by the grantor, or performed primarily for the benefit of the grantor, all amounts received are “taxable income.” The law expressly requires the student recipient to include as gross income (and therefore taxable) any portion of the grant which represents payment for teaching, research, or other services required as a condition of receiving the grant. Student Teaching Assistants and Research Assistants will have to pay tax on this “income” and will be subject to withholding requirements.
What Portion Of The Qualifying Grant Is Excludable?
Section II 7 (b) of the amended Tax Reform Act provides that “qualified tuition and related educational expenses” are excludable from gross income and therefore, tax-exempt. These expenses are tuition and fees required for enrollment or attendance at the educational institution and fees, books, supplies and equipment required for courses of instruction. Exclusion under the law is not limited to a scholarship or fellowship grant that by its stated terms is required to be used for tuition or course-related expenses. The amount of an otherwise qualified grant is excludable (after considering the total amount of any other excludable grants awarded to that taxpayer) up to the total amount spent by the student for tuition, fees, and course-related expenses during the grant period.
What Portion Of The Qualifying Grant Is Includable As Taxable Gross Income?
Any monies received by the student which are used for room, board, travel or other living or extraneous expenses will be includable gross income and taxable to the student taxpayer.
With respect to foreign students, the law requires the University to withhold 14% of any scholarship grant that exceeds tuition and fees. Tax treaties with foreign governments may take precedence over this new law but the burden to prove an exception to withholding will be on the foreign student.
Loans, which the student has to repay, are not treated as “scholarships” or as “gross income.” Athletic grants-in-aid will be taxable for those payments exceeding tuition and related expenses, and grants earmarked for room rent and training tables will also be taxable.
What Are The Student Taxpayer’s Reporting Duties When Filing A Tax Return?
The burden will be on the student taxpayer to report the gross income portions of all scholarships, fellowships and stipends. The student must be prepared to document all expenses that will support that portion of excludable, non-taxable award money directly related to tuition, fees, books, supplies, and equipment. Students are urged to keep copies of all award letters, bills for tuition and fees, and receipts for books, supplies, and equipment. Award letters should be dated and should state specifically what portion is wages or stipend for the student’s duties. All documents necessary to identify income sources and excludable expenses should be kept for at least three years after the tax year in which they were incurred.
Under the law, a student taxpayer will not be allowed to claim the personal exemption if eligible to be claimed as a dependent on another taxpayer’s return. For example, where parents are entitled to claim their son or daughter on their return, that student may not claim the personal exemption. Even if a student does not earn enough income to meet the filing requirement, the student must file a return if due a refund by the I.R.S.