How will financial aid impact my taxes?

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Scholarships, grants, and fellowships (which fall under “gift aid”) are often described as “free money” since they don’t have to be repaid. However, there are times when you should really think of these types of financial aid as income as you may be reporting them as such on your taxes. So how exactly does your financial aid affect your taxes, and what are the steps for figuring out if your award is taxable or tax free? Read more to find out.

Scholarships, grants, and fellowships: what’s the difference?  

First, it helps to understand the difference between scholarships, grants, and fellowships. These types of financial aid are very similar, and the fact that the terms are often used interchangeably can make things more confusing. A key difference people often point to is that scholarships tend to be merit-based while grants tend to be need-based. For example, the National Merit Scholarship, the Gates Millennium Scholarship, and the Asian & Pacific Islander Scholarship require an application and look for students with certain qualities, such as academic excellence or leadership skills. In comparison, the Federal Pell Grant only looks at a student’s demonstrated financial need to determine his or her eligibility and award amount. However, there’s still a lot of overlap between scholarships and grants. Many scholarships take a student’s financial need into consideration in addition to their other qualities, for example.   

The main difference between scholarships and fellowships is that fellowships are awarded to individuals to help fund specific academic interests. Fellowships are often very prestigious (you can put it on your resume!) and tend to be geared toward postgraduate study. Whereas scholarships are available to students at the very beginning of their academic career (sometimes before they’ve even graduated from high school), fellowships are reserved for more experienced students who have chosen a specific academic interest. That’s not to say that you won’t find any undergraduate fellowships; they just tend to be rare. Fellowships typically require their applicants to submit some kind of proposal demonstrating a clear plan for pursuing their academic goal. Examples of national fellowships include the Hertz Graduate Fellowship and the National Science Foundation Graduate Research Fellowship.

When to report scholarships and fellowships

In order to find out whether your scholarship or fellowship is taxable, ask yourself the following questions:

  1. Am I a candidate for a degree at an eligible educational institution?
  2. Am I using my scholarship or grant for qualified education expenses?

Only if you answer “yes” to both of these questions is your scholarship or fellowship tax free (excludable from gross income). Let’s take a closer look at each of these questions since it can get pretty confusing.

  • Am I a candidate for a degree at an eligible educational institution?

According to the Internal Revenue Service, “you are a candidate for a degree if you:

  • Attend a primary or secondary school or are pursuing a degree at a college or university; or
  • Attend an educational institution that:
    • a. Provides a program that is acceptable for full credit toward a bachelor's or higher degree, or offers a program of training to prepare students for gainful employment in a recognized occupation; and
    • b. Is authorized under federal or state law to provide such a program and is accredited by a nationally recognized accreditation agency.”

Chances are, most of you will qualify as candidates for a degree. Postdoctoral researchers are not considered candidates for a degree and must report postdoctoral research fellowships as income.

  • Am I using my scholarship or grant for qualified education expenses?

The IRS defines qualified education expenses as:

  • “Tuition and fees required to enroll at or attend an eligible educational institution; and
  • Course-related expenses, such as fees, books, supplies, and equipment that are required for the courses at the eligible educational institution. These items must be required of all students in your course of instruction.”

Qualified education expenses do not include room and board, travel, research, or equipment and other expenses that aren’t required for enrollment or attendance. For example, if you receive a scholarship for $20,000 and spend $18,000 on tuition and fees and $1,000 on transportation to school, you must report the remaining $1,000 as part of your gross income.

Finally, if your scholarship or fellowship grant represents “payment for teaching, research, or other services required as a condition for receiving the scholarship,” you must report it as income on your taxes. This really only applies to graduate students, whose financial aid packages may require them to work as teaching or research assistants.

When to report grants

When it comes to your taxes, grants are typically treated as scholarships or fellowships, and the steps for figuring out whether they are taxable are the same. This includes the Fulbright grant and Title IV need-based education grants like the Federal Pell Grant.

If you’re still confused about whether your award is taxable, we recommend that you reach out to the organization that gave you the award. IRS Tax Benefits for Education, which covers information on how your financial aid affects your taxes, is also a helpful resource. Finally, you might want to reach out to the IRS directly or get help from a Certified Public Accountant.

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