Scholarships and Fellowships Taxation Guide

SCHOLARSHIPS AND FELLOWSHIPS TAXATION GUIDE

For tax purposes, scholarships are amounts that benefit an undergraduate student attending an educational

institution in pursuit of a degree. Fellowships are amounts paid for the benefit of an individual in the pursuit of

study or research. In both cases, benefits that qualify for tax exclusion are those that are used to pay for

qualified expenses of a degree candidate. So, whether the benefits are denominated as scholarships or as

fellowships, their taxability depends on whether the beneficiary is a candidate for a degree, and how the

benefits are spent. These tax regulations went into effect with the Tax Reform Act of 1986.

Tax-Free Scholarships and Fellowships

The general conditions that must be met in order for your scholarships or fellowships to be tax-free are that:

 You must be a candidate for a degree at an eligible educational institution, and

 You must use the benefits of the scholarship or fellowship to pay for what are

considered qualified education expenses.

Candidate for a Degree

You are considered a candidate for a degree, for tax purposes, if you are:

 Attending primary or secondary school (leading to a high school diploma),

 Pursuing a degree at a college or university (bachelor’s degree, master’s degree,

doctor’s degree)

 Attending an accredited educational institution in a program that is acceptable for full

credit toward a bachelor’s or higher degree (two-year colleges or community colleges

leading to an associate’ degree), or

 Attending an accredited education institution in a program of training that prepares

students for gainful employment in a recognized occupation (trade, vocational, and

technical schools).

Eligible Educational Institution

An eligible educational institution, for tax purposes, is an institution that maintains a regular faculty and

curriculum, and a regularly enrolled body of students at a place where educational activities are carried out.

Qualified Education Expenses

In order to be able to exclude scholarship and fellowship benefits from your taxable income,

they must be used to pay qualified education expenses, including:

 Tuitions and fees required to enroll and attend an eligible educational institution

 Course-related expenses, such as books, supplies, and equipment used in the course,

and any special fees. These expenses must be required of all the students in the course.

In order to qualify as tax-free, the scholarship or fellowship cannot require that it be used to

pay for other expenses such as room and board.

Expenses that Do Not Qualify

Expenses that do not qualify include:

 Room and board

 Travel

 Research

 Clerical help

 Equipment and other expenses not required for attendance

Therefore, if a scholarship or fellowship is used to pay for both qualified and unqualified

expenses, part of the benefits are tax-free and part are taxable.

Taxable Portion of Scholarships and Fellowships

If you are not a candidate for a degree, the entire amount of your scholarships or fellowships

is generally taxable. If you are a candidate for a degree, the part of a scholarship or fellowship

that is used to pay anything other than qualified education expenses is taxable. This is true

even if the expense is required for attendance. If it is not for tuition and fees, or course-related

expenses, it is taxable.

Although these payments represent taxable income to the recipient, the College does not

have any specific reporting or withholding requirements, unless paid to a non-resident alien

(reported on 1042-S). However, students should be aware of their reporting requirements

when receiving these types of payments.

Payment for Services

Any payment for services is generally taxable. This applies even if all students must perform

the services as a condition for obtaining a degree. To the extent these services are

compensated, the compensation would be taxable income. But there are certain exceptions.

If part of your scholarship or fellowship is payment for teaching, research, or other services

you perform under the following programs, you are a candidate for a degree, and you use that

compensation to pay for qualified education expenses, your compensation is not taxable:

 National Health Services Corp. Scholarship Program

 Armed Forces Health Professions Scholarship and Financial Assistance Program

Future Services

If you receive a grant that has a condition requiring you to perform future services, the entire

amount of the grant is taxable, even though you are a candidate for a degree and the grant is

being used to pay your education expenses.

Reporting Scholarship or Fellowship Income on Your Tax Return

If your only income is a scholarship or fellowship that is tax-free, based on the above rules, you

do not need to file a tax return.

Do You Need to File?

If part or all of your scholarship or fellowship is taxable, you will need to check the filing

requirements for your filing status and level of income to see if you have to file a return. If you

can be claimed as a dependent on someone else’s tax return (such as your parents), and you

have unearned income such as dividends, interest, or capital gain distributions in addition to

your scholarship or fellowship income, you should check the special requirements for filing a

return in those circumstances. You can find these requirements in Internal Revenue Service

(IRS) Publication 501, Exemptions, Standard Deductions, and Filing Information, or in the

instructions for Form 1040EZ, 1040A, or 1040. These forms, instructions, and publications are

available in the IRS website.

If part of your benefits include compensation for services or work you performed, and income

tax was withheld, it may be to your advantage to file, if too much tax has been withheld and

you are due a refund.

Eligibility for Other Tax Benefits for Education

You should also see whether you qualify for any of the tax benefits available for education,

including the tuition and fees deduction, which is an adjustment to gross

income, and the Hope and Lifetime Learning Credits, which are credits that directly reduce

your tax.

Where to Report

If you have taxable scholarship or fellowship income to report and you receive a Form W-2

reporting your income, you should include this amount in the line for “Wages, salaries, tips,

etc.” on Form 1040EZ, 1040A, or 1040. If you do not receive a Form W-2 but you have taxable

amounts, you should report them on the same line, and write "SCH" on the dotted line next to

the amount.

Independent Contractor

If part of your scholarship or fellowship included compensation for your work as an

independent contractor, you will have self-employment income. In this case, you will have to

file Schedule SE and pay self-employment tax, in addition to federal income tax, on your

earnings. As an independent contractor, you may also have related business expenses and

could file Schedule C, Profit or Loss from Business.

Other Educational Assistance

Fulbright Grants, Pell Grants and other need-based education grants are treated as

scholarships for purposes of determining whether they are taxable, and are subject to the

same rules described above. Appointments to a United States military academy are not

considered scholarships, and the income you receive as a cadet or midshipman is taxable

compensation for personal services and will be reported on Form W-2.

Veterans’ Benefits

Veterans’ benefits you receive for education, training, or subsistence are not taxable. You may

need to take these benefits into consideration in determining the amount of any tax benefits

for education for which you may qualify. You may have to reduce the amount of education

expenses eligible for the tax benefit by the amount of tax-exempt veterans’ benefits you

receive.

Qualified Tuition Reduction

This is a reduction in tuition granted by the educational institution. Whether or not it is tax-

free depends on whether it is for education at or below the graduate level. And, in order to be

tax-free, the tuition reduction must not represent compensation for personal services.

Below Graduate Level

Education below the graduate level includes primary and secondary education, and

undergraduate college or university studies. The qualified tuition reduction is tax-free if it is

provided to the following individuals:

 A current employee of the educational institution

 A former employee of the education institution, who retired or is disabled

 A widow or widower of a former employee

 A dependent child or spouse of any of the above

Owners, officers, and highly compensated employees can take advantage of tax-free qualified

tuition reductions only if the benefits are not discriminatory and are made available to all

members of a group of employees.