When it comes to taxes, it seems like the story is never simple. Add a scholarship to it and you get a situation which really needs to be looked into a little bit closer. The question of are scholarships taxable income or not gets quite a complex answer. Generally speaking, a scholarship isn’t regarded as income so it isn’t taxable. However, every scholarship, grant or fellowship might be taxable if they are considered income. Let’s see how we can categorize scholarships according to taxability and help answer the question of are scholarships taxable or not.
Scholarships That Are Tax-Free
Scholarships and grants can have parts that are taxable and parts that aren’t. For a scholarship to be completely tax-free, the whole amount of money must be used for qualified expenses. You must also be a degree candidate at a primary, secondary or accredited post-secondary institution (an institution with a regular faculty, curriculum and enrolled student base). If any part of the money is spent on something which is not a qualified expense, that part will be considered taxable income.
Qualifying Expenses For Tax-Free Scholarship
- Tuition & fees required to enroll and attend an eligible educational institution
- Course-related expenses. These expenses must be required by all of the students in your course
- Fees
- Books
- Supplies
- Equipment
Non-Qualifying Expenses For Tax-Free Scholarships
- Room & Board
- Research
- Travel
- Clerical Help
- Equipment & other expenses which are not required for enrollment or coursework
Other Tax-Free Scholarships
- Veteran Benefits – The IRS doesn’t consider funds veterans get for education or training to be taxable. But they recommend you to be careful of the tax implications of any other grants or scholarships received.
- Athletic Scholarships – Atheltic Scholarships are not considered as taxable income
- Need-Based Education Grants
If you have a scholarship where you are being paid by the National Health Services Corps Scholarship Program or the Armed Forces Health Professions Scholarship and Financial Assistance Program, it is not regarded as a taxable income. It is the same case for services in work-learning-service programs. Although the above are intended to be tax-free scholarships, the same law applies. The money from the scholarship must be used on a qualifying education expense to be tax-free.
When and How Are Scholarships Taxable
Any scholarship used for purposes of room and board, as well as other items that are not considered a qualifying expense are considered taxable. Also, scholarships awarded to students who are not in a degree program are always taxable.
How Do I File The Scholarship on My Taxes?
If your only income is a tax-free scholarship you’re off the hook. There is no need for you to file a tax return or report the award. However, if all or a part of your scholarship is taxable and if that money is not recorded on your W2 form (a tax form used to report wages paid to employees and the taxes withheld from them) you must report it.
The best place for you to understand the exact amounts that should be reported as taxable and non-taxable is the official IRS web page (tax benefits for education & Taxable Scholarships Worksheet).
Still Unsure If Your Scholarship Is Taxable?
If you’re not sure if your scholarship is taxable, ask the organization that sponsored it. They should provide you with the information regarding your award’s tax status. You can also use this worksheet to figure out if your scholarship is taxable or not.
If you have further questions contact your accountant or other tax professional. Another good option is to contact your local IRS office directly or find information on education tax benefits on their website.
Which Government Form Do You Need?
Here are the tax forms you may need regarding claiming scholarships, grants and fellowships:
- 1040 – U.S. Individual Income Tax Return
• 1040A – U.S. Individual Income Tax Return
• 1040EZ – Income Tax Return for Single and Joint Filers With No Dependents
• 1040NR – U.S. Nonresident Alien Income Tax Return
• 1040NR-EZ – U.S. Income Tax Return for Certain Nonresident Aliens With No Dependents
Education Tax Credits
Education tax credits reduce the amount of income tax you pay and they could be a good method to cancel out some qualified college expenses. There are two possible credits available:
- American Opportunity Tax Credit (AOTC) —it allows an annual maximum credit of $2500 per student for four years of undergraduate education. If you want to qualify, your modified adjusted gross income (MAGI) should be up to $80,000. The credit is not for taxpayers with higher incomes.
- The Lifetime Learning Credit (LLC) — it allows a maximum of $2000 per year per tax return (not per student), but it applies to undergraduate, graduate or professional degree courses, for as many years as you need. Income limits are lower: your MAGI must be up to $55,000.
You can choose only one of the tax credits even if you qualify for both.
Tax deductions
A tax deduction lowers your taxable income. There are two possible deductions for whatever your situation is.
- The tuition and fees deduction -it allows you to deduct qualified higher education expenses of up to $4000 paid during the year for yourself, your spouse or your dependent. The income limitation is the same as that for the AOTC.
- The student loan interest deduction of up to $2500, applicable with a MAGI of less than $65,000.
So are scholarships taxable? It might be it might not. Follow our guidelines above to help you understand when the scholarship is viewed as taxable income, and when it is not. When all else fails, give your accountant a call, and check out this taxable scholarship worksheet.
