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PT 2 Pub 970 (2009), Tax Benefits for Education
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 Posted 6:20 PM Mar. 1, 2010 PT 2 Pub 970 (2009), Tax Benefits for Educationhttp://www.irs.gov/publications/p970/ch01.html1. Scholarships, Fellowships, Grants, and Tuition ReductionsTable of Contents Individual retirement arrangements (IRAs). You can set up and make contributions to an IRA if you receive taxable compensation. Under this rule, a taxable scholarship or fellowship is compensation only if it is shown in box 1 of your Form W-2, Wage and Tax Statement. For more information about IRAs, see Publication 590. This chapter discusses the tax treatment of various types of educational assistance you may receive if you are studying, teaching, or researching in the United States. The educational assistance can be for a primary or secondary school, a college or university, or a vocational school. Included are discussions of:
Many types of educational assistance are tax free if they meet the requirements discussed here. Special rules apply to U.S. citizens and resident aliens who have received scholarships or fellowships for studying, teaching, or researching abroad. For information about these rules, see Publication 54, Tax Guide for U.S. Citizens and Resident Aliens Abroad.
A scholarship is generally an amount paid or allowed to, or for the benefit of, a student at an educational institution to aid in the pursuit of studies. The student may be either an undergraduate or a graduate. A fellowship is generally an amount paid for the benefit of an individual to aid in the pursuit of study or research. Table 1-1 provides an overview of the tax treatment of amounts received as a scholarship or fellowship (other than amounts received as payment for services). Generally, whether the amount is tax free or taxable depends on the expense paid with the amount and whether you are a degree candidate.
Table 1-1.Tax Treatment of Scholarship and Fellowship Payments1
A scholarship or fellowship is tax free only if:
Candidate for a degree. You are a candidate for a degree if you:
Eligible educational institution. An eligible educational institution is one that maintains a regular faculty and curriculum and normally has a regularly enrolled body of students in attendance at the place where it carries on its educational activities.
Qualified education expenses. For purposes of tax-free scholarships and fellowships, these are expenses for:
Expenses that do not qualify. Qualified education expenses do not include the cost of:
Worksheet 1-1. You can use the worksheet below to figure the tax-free and taxable parts of your scholarship or fellowship.
Worksheet 1-1.Taxable Scholarship and Fellowship Income
If your scholarship or fellowship does not meet the requirements described earlier, it is taxable. The following amounts received may be taxable.
Each type is discussed below. Amounts used to pay expenses that do not qualify. A scholarship amount you use to pay any expense that does not qualify is taxable, even if the expense is a fee that you must pay to the institution as a condition of enrollment or attendance.
Payment for services. Generally, you must include in income the part of any scholarship, fellowship, or tuition reduction that represents payment for past, present, or future teaching, research, or other services. This applies even if all candidates for a degree must perform the services to receive the degree. (See the next page for exceptions.)
Exceptions. You do not have to include in income the part of any scholarship or fellowship that represents payment for teaching, research, or other services if you receive the amount under:
Example 1. You received a scholarship of $2,500. The scholarship was not received under either of the exceptions mentioned above. As a condition for receiving the scholarship, you must serve as a part-time teaching assistant. Of the $2,500 scholarship, $1,000 represents payment for teaching. The provider of your scholarship gives you a Form W-2 showing $1,000 as income. You used all the money for qualified education expenses. Assuming that all other conditions are met, $1,500 of your scholarship is tax free. The $1,000 you received for teaching is taxable. Example 2. You are a candidate for a degree at a medical school. You receive a scholarship (not under either of the exceptions mentioned above) for your medical education and training. The terms of your scholarship require you to perform future services. A substantial penalty applies if you do not comply. The entire amount of your grant is taxable as payment for services in the year it is received. Scholarship prizes. If you win a scholarship as a prize in a contest, the scholarship is fully taxable unless you meet the requirements discussed earlier under Tax-Free Scholarships and Fellowships .
Whether you must report your scholarship or fellowship depends on whether you must file a return and whether any part of your scholarship or fellowship is taxable. If your only income is a completely tax-free scholarship or fellowship, you do not have to file a tax return and no reporting is necessary. If all or part of your scholarship or fellowship is taxable and you are required to file a tax return, report the taxable amount as explained below. You must report the taxable amount whether or not you received a Form W-2. If you receive an incorrect Form W-2, ask the payer for a corrected one. For information on whether you must file a return, see Publication 501, Exemptions, Standard Deduction, and Filing Information, or your income tax form instructions. How you report any taxable scholarship or fellowship income depends on which return you file. Form 1040EZ. If you file Form 1040EZ, include the taxable amount in the total on line 1. If the taxable amount was not reported on Form W-2, also enter “SCH” and the taxable amount in the space to the left of line 1.
Form 1040A. If you file Form 1040A, include the taxable amount in the total on line 7. If the taxable amount was not reported on Form W-2, also enter “SCH” and the taxable amount in the space to the left of line 7.
Form 1040. If you file Form 1040, include the taxable amount in the total on line 7. If the taxable amount was not reported on Form W-2, also enter “SCH” and the taxable amount on the dotted line next to line 7.
Schedule SE (Form 1040). To determine your net earnings from self-employment, include amounts you receive under a scholarship as pay for your services that are reported to you on Form 1099-MISC, Miscellaneous Income. If your net earnings are $400 or more, you will have to pay self-employment tax. Use Schedule SE, Self-Employment Tax, to figure this tax.
The following discussions deal with common types of educational assistance other than scholarships and fellowships. A Fulbright grant is generally treated as a scholarship or fellowship in figuring how much of the grant is tax free. Report only the taxable amount on your tax return. See Reporting Scholarships and Fellowships on this page. These need-based grants are treated as scholarships for purposes of determining their tax treatment. They are tax free to the extent used for qualified education expenses during the period for which a grant is awarded. Report only the taxable amount on your tax return. See Reporting Scholarships and Fellowships on this page. An appointment to a United States military academy is not a scholarship or fellowship. Payment you receive as a cadet or midshipman at an armed services academy is pay for personal services and will be reported to you in box 1 of Form W-2. Include this pay in your income in the year you receive it unless one of the exceptions, discussed earlier under Payment for services , applies. Payments you receive for education, training, or subsistence under any law administered by the Department of Veterans Affairs (VA) are tax free. Do not include these payments as income on your federal tax return. If you qualify for one or more of the education benefits discussed in chapters 2 through 13, you may have to reduce the amount of education expenses qualifying for a specific benefit by part or all of your VA payments. This applies only to the part of your VA payments that is required to be used for education expenses. You may want to visit the Veteran's Administration website at www.gibill.va.gov for specific information about the various VA benefits for education. Example. You have returned to college and are receiving two education benefits under the latest GI Bill: (1) a $1,534 monthly basic housing allowance (BAH) that is directly deposited to your checking account, and (2) $3,840 paid directly to your college for tuition. Neither of these benefits is taxable and you do not report them on your tax return. You also want to claim an American opportunity credit on your return. You paid $5,000 in qualified education expenses (explained in detail in chapter 2). To figure the amount of credit, you must first subtract the $3,840 from your qualified education expenses because this payment under the GI Bill was required to be used for education expenses. You do not subtract any amount of the BAH because it was paid to you and its use was not restricted. If you are allowed to study tuition free or for a reduced rate of tuition, you may not have to pay tax on this benefit. This is called a “tuition reduction.” You do not have to include a qualified tuition reduction in your income. A tuition reduction is qualified only if you receive it from, and use it at, an eligible educational institution. You do not have to use the tuition reduction at the eligible educational institution from which you received it. In other words, if you work for an eligible educational institution and the institution arranges for you to take courses at another eligible educational institution without paying any tuition, you may not have to include the value of the free courses in your income. The rules for determining if a tuition reduction is qualified, and therefore tax free, are different if the education provided is below the graduate level or is graduate education. You must include in your income any tuition reduction you receive that is payment for your services. Eligible educational institution. An eligible educational institution is one that maintains a regular faculty and curriculum and normally has a regularly enrolled body of students in attendance at the place where it carries on its educational activities.
Officers, owners, and highly compensated employees. Qualified tuition reductions apply to officers, owners, or highly compensated employees only if benefits are available to employees on a nondiscriminatory basis. This means that the tuition reduction benefits must be available on substantially the same basis to each member of a group of employees. The group must be defined under a reasonable classification set up by the employer. The classification must not discriminate in favor of owners, officers, or highly compensated employees.
If you receive a tuition reduction for education below the graduate level (including primary, secondary, or high school), it is a qualified tuition reduction, and therefore tax free, only if your relationship to the educational institution providing the benefit is described below.
A tuition reduction you receive for graduate education is qualified, and therefore tax free, if both of the following requirements are met.
You must include in income any other tuition reductions for graduate education that you receive. |
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