"I got a scholarship to King's College, I probably shouldn't brag, but damn, I amaze and astonish!" - My Shot, Hamilton the Musical
Congratulations, your child got a scholarship!?
That probably means they're either really smart, or really good at a sport or instrument. (Or, that they're really good at writing essays for those scholarship contests!)
Well, before you conclude that this is "free" money with no strings attached, you'll want to find out whether your scholarship is subject to taxes.
Are Scholarships Taxed?
Here's the short answer, a scholarship is tax-free if it is used to pay for tuition and required books, supplies and fees.
Any amount of the scholarship used to pay for room and board, rent, or a stipend for living expenses is taxable.
Which Scholarships Are NOT Taxed?
If your scholarship money is put towards tuition only, then it is not subject to taxes.
Whether it’s a private or public university or college does not matter- scholarships used toward this purpose are considered tax-free financials.
What Scholarship Money IS Taxable?
Did you ever hear the famous quote about death and taxes? Sorry to burst your bubble, but usually you can't avoid them; especially after you're dumped out into the real world. (Where you can't sleep in until lunch time!)
Anyway, that "inevitability of taxes" applies to certain scholarship money, specifically when it goes towards living expenses like room and board.
Since room and board is not a direct requirement of student fees and tuition associated with a degree, money used for a dormitory is considered income. Any money from scholarships, or even grants, used for anything other than tuition, fees, or materials required for enrolled coursework, is considered income.
This also includes travel expenses, clerical assistance, and anything else purchased for college that is not under the ‘non-income’ classification.
If a student receives a scholarship that covers tuition AND room and board, only the portion they accept for tuition is considered tax free. Taxes still must be paid on the portion that pays the expenses for room and board.
*For example, if your son or daughter got a $25,000 scholarship, and the tuition at the school is $20,000, you would owe taxes on the $5,000 difference. (unless that money was dispersed over several years)
There are also some specific scholarships and fellowships that are not tax exempt, including non-degree candidates. Also, If the scholarship money is considered payment for teaching (like an assistant-teaching fellowship) or other services performed by the student, it is fully-taxable.
How does the taxable scholarship money get reported?
Ok, here's the boring part. As stated earlier, receiving income via scholarship is no different than receiving income as an independent contractor. The forms are in the standard 1040 category and are broken down into several different options, all of which explain the situations in which an individual files their specific tax returns at the end of the taxable year.
- 1040 and 1040A are for U.S. Individual Income Tax Returns.
- 1040EZ is for individual or joint filers with no dependents.
- 1040NR is for U.S. Non-Resident filers, and 1040NR-EZ is for U.S. Non-Resident filers with no dependents
- Any taxable scholarships or grants are included on the W2 form
The top names in tax software offer special software just for students, like TurboTax's Student Edition, that looks for specific student deductions and tuition-related expenses such as scholarships and grants.
If you have a complex situation, or are unsure about which form to use, it may be best to visit a certified tax professional to guide them through the process.
Am I claiming scholarship money correctly?
As with any tax forms to account for taxable income, it’s important to refer to the IRS website for specific questions and instructions. Or, if you have a complex tax situation, it may be best to turn everything over to a tax professional and let them use their expertise to file the forms on your behalf for a small fee.
Remember, the general rule of thumb is that if your grant, fellowship or scholarship is being used for tax-free income specifications, there’s nothing to do. No forms, no rules, no regulations.
But, if a portion of that money was used for anything classified as "taxable income," it has to be reported and taxes must be paid. As with all taxation, it’s an unfortunate side effect of earning money, regardless of where it came from or how it may be used.
Bummed that you have to tell uncle Sam about your full-ride to college? That's ok, remember what Chairman Meow once wisely said, "Education is what remains after you forget what you were taught in school."