Do You Report Scholarships on Taxes?

Scholarships can be a valuable resource for funding education, but understanding their tax implications is important. The taxability of a scholarship is not always straightforward and depends on how the funds are used and whether any services are required in exchange for the award. The Internal Revenue Service (IRS) provides specific guidelines to determine which portions of a scholarship are tax-free and which must be included as taxable income. This distinction can significantly impact a student’s tax obligations.

Determining Taxability of Scholarships

Scholarships are tax-free if the recipient is a degree candidate at an eligible educational institution and funds are used for “qualified education expenses.” Eligible educational institutions are those that maintain a regular faculty and curriculum and have a regularly enrolled body of students.

Qualified education expenses include tuition and fees for enrollment or attendance, and required fees, books, supplies, and equipment for courses. For example, scholarship funds used for a mandated textbook or lab equipment are tax-free.

Conversely, expenses not considered qualified education expenses make that portion of a scholarship taxable. These non-qualified expenses include incidental costs like room and board, travel, and optional equipment. Health insurance, even if school-required, is not a qualified education expense for tax purposes.

Additionally, any scholarship portion received as payment for teaching, research, or other required services is taxable. This applies even if the services are a degree requirement.

Reporting Taxable Scholarship Income

When a scholarship portion is taxable, it must be reported on a tax return. Taxable scholarship income not reported on a Form W-2 is reported on Form 1040, Schedule 1, Line 8z, as “Other income.”

Students receive Form 1098-T, a Tuition Statement, from their educational institution. Box 1 reports total tuition and required fees paid, while Box 5 shows total scholarships and grants received. Form 1098-T is an informational document and does not always directly reflect the exact taxable amount.

If the total scholarship in Box 5 of Form 1098-T exceeds qualified education expenses, the excess is taxable and must be reported as income. Maintaining detailed records of scholarship amounts and how they were spent, including receipts, is important for accurate tax reporting.

Common Scholarship Scenarios

Various forms of educational assistance are treated similarly to scholarships for tax purposes. Fellowships and grants, including Pell Grants, are tax-free if used for qualified education expenses, but taxable if used for non-qualified expenses or if services are required. For example, if a Pell Grant exceeds tuition and fees, the portion used for living expenses could be taxable.

Athletic scholarships are also subject to these rules. The portion used for tuition, fees, and required books is tax-free. However, any amount for non-qualified expenses, such as room and board, travel, or optional equipment, is taxable income. The IRS considers an athletic scholarship not payment for services if the student is not required to participate in the sport, even if expected.

Educational assistance provided by an employer may also have tax implications. Under Internal Revenue Code Section 127, an employer can provide up to $5,250 in educational assistance benefits to an employee tax-free each year. This includes payments for tuition, fees, books, equipment, and supplies. Amounts exceeding this limit are taxable as wages.