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Financial aid from your dream college is great news, but it's important to remember that you may have to pay the IRS a portion of what you receive in taxes based on how much and how you spend your aid. A portion of some scholarships may be subject to federal income tax. Let's take a look at which are exempted from those taxes.
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College scholarships are an excellent resource and way for students to pay for their college education.
But, are those scholarships taxable? The answer is maybe, and it depends on your specific scholarship.
A scholarship or fellowship is generally tax-free if you are a degree candidate and the award is used to pay for tuition and required fees, books, supplies, and equipment; however, some scholarship and fellowship opportunities are not tax-free. Any money spent on room and board or a stipend for living expenses is taxable. There are many ways to receive a scholarship, and none of them necessitates a large sum of money from a donor to pay for your education. When they award full scholarships themselves (the school) rather than receiving the money from a third party, schools typically "erase" the debt you owe for the year or semester. Attending for free is essentially a perk.
Let's go over what makes your scholarship "free" or if you need to pay some to Uncle Sam.
For a tax-free scholarship, where you'll be attending school is the first qualification rule. The money must be used to attend an "eligible educational institution," as defined by the IRS. In other words, the primary goal of the institution is to provide students with access to higher education. It has a student body and a number of well-established curricula to draw from. As part of its commitment to education, it has a facility dedicated to lecture halls. Assuming that your school falls under this definition, you're probably safe to assume that it is. As an easy rule of thumb, if a school participates in the student aid program of the United States Department of Education, then it's eligible.
On the Department's website, you can find a list of these schools.
If you aren’t sure if your school is an eligible educational institution:
According to the IRS, certain conditions must be met for a scholarship or fellowship to be tax-free:
This seems pretty straight forward right? However, let me emphasize that in order for a scholarship to be completely tax-free, it must be used entirely for qualified educational expenses. For instance, let's say Jack received a $10,000 scholarship and his tuition was $15,000, she would not be required to pay taxes on the money. However, if Jack's scholarship was $20,000 and $5,000 was used for room and board, the $5,000 would be taxable income.
Assume Jack is a graduate student with a fellowship that requires him to work as a substitute teacher. The tax rules are different in this case. This is because scholarship or fellowship money that is paid is generally taxable. The school would issue a W-2 and the student would be required to file a tax return.
If it's part of the stipulation to work for a work service to get a scholarship, it's taxable because the IRS considers it a job or wage. For example, many post-grads receive scholarships that require them to teach as adjunct professors. Also, please note, taking a random class every now and again isn't sufficient for the IRS. You must be pursuing a degree. Otherwise, the scholarship is taxable income.
Tip: If you can't find a scholarship or want to know if it's taxed or what it covers, contact the scholarship's administrator. The financial aid office or a third party can do this. As you research, find out if any scholarships are taxable or non-taxable. If you're unsure about your scholarship's tax status, double-check to avoid IRS trouble.
Payments made through the GI Bill, for example, are neither considered scholarships nor taxable income. Students who receive aid for qualified education expenses through the National Health Service Corps Scholarship Program or the Armed Forces Health Professions Scholarship and Financial Assistance Program generally do not pay taxes on their aid.
To be clear, scholarships awarded to students who are not enrolled in a degree program are always taxable.
Student loans aren't taxable and do not constitute income. You have to pay that money back.
The student must typically claim the portion of the scholarship that’s not tax-free on their own tax return, even if they’re dependents on their parents’ tax returns.
Scholarship money is generally tax-free if the student is pursuing a degree at an eligible institution and the funds are used to cover qualified expenses. Check out our scholarship tab for new scholarships posted each week!
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